On November 18, 2013, the U.S. Tax Court issued a split decision in Rand and Klugman v. Commissioner, 141 T.C. No. 12 (Docket No. 2633-11, Nov. 18, 2013). The Majority found that for purposes of the I.R.C. § 6662 accuracy related penalty, refundable credits can result in an “underpayment,” but only to the extent that they reduce tax to $0. The § 6662 penalty imposes an addition to tax in the amount of 20% of any “underpayment” that is due to negligence or substantial understatements of tax.
The IRS had argued that the penalty should be applied to the full difference between the tax stated on the return and the amount of refundable credits claimed. The taxpayer, supported by amicus, argued that the credits generated an “underpayment” only to the extent that they reduced tax to $0, but not beyond that point. The Court sided with taxpayer.
Though not relevant to the decision, the Court did observe that the § 6676 erroneous refund penalty would still apply to the full amount of a refundable credit to the extent it generated a refund, regardless of the original tax owed.