01 Jul What ALEs Should know About IRS Letter 5005-A And IRS Enforcement of Section 6721 and 6722 Penalties
ALEs will receive Letter 5005-A when they do not respond to the initial IRS non-filer letters (Letters 5699 and 5698) related to their failure to file Forms 1094-C and 1095-C. Within Letter 5005-A, the IRS will propose section 6721 and 6722 penalties as part of its procedure for enforcing ALE reporting obligations. As the IRS continues to ramp up these enforcement efforts, it is important for ALEs to act quickly upon receipt of such notification.
Typically, when an ALE receives Letter 5005-A, it will not be able to complete its filing obligations within the response deadline provided. In such cases, we recommend that the ALE reply to Letter 5005-A within the deadline provided by submitting a response letter specifying how it is working to complete its filing obligations and when it will submit its forms to the IRS.
To that end, the following tips are important to keep in mind:
- If required to file electronically due to the 250-form electronic filing threshold, ALEs should ensure they are working with a reporting vendor who can file for past tax years.
- When relevant, the response letter should give details of any reasons that good faith relief and/or reasonable cause relief from the proposed Sections 6721 and 6722 penalties apply.
See below for more details.
- Any Form 1094-C and 1095-C filings submitted in response must be accurate. The IRS is actively enforcing employer shared responsibility penalties based, in part, on how ALEs complete their Forms 1094-C and 1095-C. Inaccurate filings could result in unnecessary employer shared responsibility penalties being assessed later.
- ALEs should always consult with experienced legal counsel to determine whether they failed to file Forms 1094-C and 1095-C in any other tax year and identify the best course of action to minimize penalty exposure.
Upon completion of its filing obligations, the IRS has authority to impose a Section 6721 penalty for each failure to file Forms 1094-C and 1095-C and a Section 6722 penalty for each failure to distribute Forms 1095-C. This penalty can add up quickly for ALEs. For example, if an ALE files one Form 1094-C and 100 Forms 1095-C for the 2016 tax year in response to a Letter 5005-A, the IRS could impose penalties of $52,260 ($260 per form that should have been filed with the IRS and $260 per form that should have been distributed to employees). Keep in mind as well that these reporting penalties would apply before the IRS assesses any employer shared responsibility penalties owed based on these filings.
Accordingly, it may be important to include in any written explanation responding to Letter 5005-A why the ALE qualifies for relief from Section 6721 and 6722 penalties. The IRS provides two forms of potential relief — good faith relief and reasonable cause relief. Currently, good faith relief applies towards any filings that should have occurred in tax years 2015-2018 when certain conditions are met. Per IRS Notice 2018-94, the ALE must establish it made good faith efforts to comply with reporting requirements. Evidence of such good faith efforts may include gathering necessary data and transmitting it to a third party to prepare the forms or testing the ability to transmit data to the IRS. While good faith relief is not technically available to ALEs who fail to file forms, the IRS has not yet imposed Section 6721 and 6722 penalties against ALEs who timely submit filings in response to IRS Letters 5699, 5698, 5005-A.
Unlike the temporary nature of good faith relief, reasonable cause relief from Section 6721 and 6722 penalties is available in any tax year when the requirements of Treas. Reg. § 301.6724-1 are met. To qualify, the ALE must establish that it acted in a “responsible manner” and that either “significant mitigating factors” or “events beyond [its] control” existed that caused its failure to complete its reporting obligations. An ALE acts in a responsible manner when it exercises reasonable care and takes significant steps to avoid or mitigate the failure, including attempting to prevent the failure when foreseeable, acting to remove the cause of the failure, and promptly rectifying the failure.
The IRS considers the following to be “significant mitigating factors”:
- For first-time ALEs, the fact that the employer was never required to complete the Form 1094-C and 1095-C reporting obligations in previous tax years; or
- For all other ALEs, the fact that the employer has an established history of complying with these reporting requirements.
Events beyond the ALE’s control that can be used to establish reasonable cause relief include:
- A supervening event (e.g., fire, death, serious illness) which caused relevant business records to be unavailable and prevented timely compliance with the reporting requirements;
- For those required to file electronically, a documented showing that the ALE failed to do so only because it would have caused undue economic hardship;
- Erroneous written information provided by the IRS upon which the ALE reasonably relied in good faith;
- For those who contracted with a third party vendor to complete their reporting obligations, a documented showing that this third party experienced a “significant mitigating factor” or “event beyond [its] control”, as defined in IRS regulations; or
- Certain actions of an individual for whom a Form 1095-C should be completed, or any other person related to providing correct information needed to complete the reporting requirements.
Finally, in setting forth its case for reasonable cause relief, the ALE should follow the procedures specified in Treas. Reg. § 301.6724-1(m). Specifically, the ALE should site the specific provision of the IRS regulations on which it is relying, set forth the facts that form the basis for its request for reasonable cause relief, include the signature of an authorized person, and include a declaration that the information presented within the request is made under penalties of perjury. In general, the more specificity an ALE can provide in its request for reasonable cause relief to show that it acted responsibly under the relevant circumstances and did not simply ignore its reporting obligations, the more likely it will be successful.
The IRS has been notifying ALEs regarding failure to file Forms 1094-C and 1095-C for the 2015-2017 tax years during the past two years. While their current approach to these notification letters has leaned more towards teaching reporting compliance, as opposed to taking a hardline stance towards penalty enforcement, there is no guarantee this approach will continue, especially
for later tax years.
For ALEs concerned about potential Section 6721 and 6722 penalty exposure, we recommend being proactive instead of waiting for the IRS to issue one of their non-filer letters. Specifically, take inventory of your ALE status and previous year Form 1094-C and 1095-C filings to ensure all reporting obligations have been satisfied. Ignorance of these filing requirements will not
excuse non-filing ALEs from penalties. Savvy ALEs will work with their legal counsel, tax advisor, benefits broker, or other experienced professionals, who can provide guidance on how to come into compliance with any missed filing requirements and minimize penalty exposure.
1 Treas. Reg. § 301.6724-1(a)(2).
2 Treas. Reg. § 301.6724-1(d).
3 Treas. Reg. § 301.6724-1(b).
4 Treas. Reg. § 301.6724-1(c).
5 According to Treas. Reg. § 301.6724-1(c)(3)(iv), the ALE must have filed returns on paper and cannot have received a reasonable cause waiver due to undue economic hardship related to electronic filing in any prior year.
6 According to Treas. Reg. § 301.6724-1(c)(5)(i), the ALE must exercise reasonably business judgment in contracting with any third party to complete its reporting obligations, and it must provide all necessary information needed to complete reporting in a timely manner.