TIR 91-2: Calculation of Interest and Penalties Under Molesworth Decision
On November 15, 1990, the Massachusetts Supreme Judicial Court issued a decision in Commissioner of Revenue v. Molesworth, 408 Mass 580 (1990). The decision affirmed earlier determinations of the Appellate Tax Board. In general, the decisions of the Court and the Board cover two discrete issues: the method by which the Commissioner must calculate interest and penalties on tax under the provisions of Chapter 62C of the General Laws; and the ability of a taxpayer to direct the Commissioner to apply the taxpayer's payments to outstanding liabilities for interest, penalties, or tax. This Technical Information Release (TIR) explains the effect of the Molesworth case on the method by which the Commissioner will calculate the accrual of interest and penalties on unpaid tax under G.L. c. 62C, §§ 32, 33, respectively. The Commissioner will address the application of taxpayer payments to interest, penalty, or tax in a future public written statement.
A. Statutory Framework
The administrative provisions of Chapter 62C of the General Laws generally apply to taxes or excises imposed by G.L. c. 60A; G.L. c. 62-65C, inclusive; G.L. c. 121A, § 10; and G.L. c. 138, § 21. See G.L. c. 62C, § 2. In general, a taxpayer is required to file a return and pay the applicable tax on or before a statutory due date. Chapter 62C, § 32, provides for the accrual of interest at eighteen percent per year on taxes that are not paid on or before the applicable statutory due date, as determined without regard to extensions.
Chapter 62C also imposes various penalties for failure to report or pay taxes properly. In particular, G.L. c. 62C, § 33(a), imposes a penalty for failure to file a return on or before its due date of one percent per month (or fraction thereof) of the amount of tax required to be shown on the return; G.L. c. 62C, § 33(b) imposes a penalty for failure to pay tax on or before its due date or extended due date of one half percent per month (or fraction thereof) of the amount of the unpaid tax; G.L. c. 62C, § 33(c), imposes a penalty for failure to pay an assessment of tax within thirty days of the Commissioner's Notice of Assessment of one half percent per month (or fraction thereof) of the amount of the unpaid assessed tax; and G.L. c. 62C, § 28, imposes a tax of up to double the amount of the tax that the Commissioner estimates should have been shown on a return for failure to file a return, for failure to correct an insufficient return within thirty days of notice from the Commissioner, or for filing a false or fraudulent return. The interest and the penalties charged under Chapter 62C are generally cumulative.
B. Former Method of Interest Calculation
As a general principle, Chapter 62C provides for the charging of interest and penalties on unpaid tax. It does not provide for the compounding of interest or the charging of interest on penalties owed. There has been some uncertainty, however, about when a particular liability constitutes "tax," "interest," or "penalty." Because of the language in G.L. c. 62C, § 32, the Commissioner interpreted the term "tax" as including interest accruing under that section between the statutory due date and the date of assessment. Similarly, because of the language in G.L. c. 62C, § 32(a), the Commissioner interpreted the term "tax" as including assessments of the late filing penalty under that subsection. The Commissioner's construction of the term "tax," as described above, was used as a basis for calculating additional interest and penalties that might accrue on a delinquent taxpayer account.
C. Interest Calculation Under Molesworth
Under the decisions of the Supreme Judicial Court and the Appellate Tax Board in Molesworth, the interest calculation methods formerly employed by the Commissioner have been determined to be incorrect. The proper interpretation, as determined by the Court and the Board is that the "tax" upon which interest and penalties are calculated under G.L. c. 62C, §§ 32, 33, is generally the amount of tax that would be shown on a properly completed and timely filed return. The proper calculation of interest, penalties, and tax is illustrated by the following examples.
Example 1. (Calculation of Interest on Unpaid Tax) A taxpayer is audited for his 1988 income tax. The audit shows that the taxpayer understated the tax on the return by $100, and the taxpayer is assessed this additional $100 in tax. The taxpayer receives a Notice of Assessment dated 4/20/90 for the additional tax. Interest is computed on $100 from 4/15/89 (the statutory due date of the return) to and including 5/20/90 (the thirtieth day following the date of the Notice of Assessment). Interest is computed at 18 percent per year from 4/15/89 to 5/20/90. The total assessed interest stated on the Notice of Assessment is $19.73. Specifically:
$100 x .18 x 400 365
The $19.73 constitutes interest owed by the taxpayer and not "tax." If the taxpayer fails to make any payments by 5/20/90, interest will continue to accrue at 18 percent per year on the $100 tax liability, and the Commissioner will impose a penalty of one half percent per month of the $100 assessed tax under G.L. c. 62C, § 33(c). Neither additional interest nor the § 33(c) penalty will accrue on the existing $19 interest liability.
Example 2. (Calculation of G.L. c. 62C, § 33(a) Penalty for Failure to File Timely). A taxpayer's total income tax liability for the 1986 calendar year is $20,000. The taxpayer made timely payments of estimated taxes in 1986 of $17,000, but failed to file a return or pay any additional amounts by 4/15/87, the statutory due date of the return. On 10/10/88 the Commissioner makes an assessment of the amount due and sends a Notice of Assessment. Assuming that the Commissioner does not apply the double assessment provisions of G.L. c. 62C, § 28, the Notice to the taxpayer will show: $3,000 tax due; a late filing penalty of $540 ($3,000 x 1% x 18 months = $540); a late payment penalty of $270 ($3000 x 0.5% x 18 months = $270); and interest of $806.30 ($3000 x 0.18 x 545/365 = $803.34). Further § 33(a) penalty charges will not accrue even if the taxpayer fails to pay the assessed amount because the Commissioner's assessment of tax is treated as the equivalent of the taxpayer's filing a return on the date of the Notice of Assessment. Interest and the § 33(c) penalty will accrue on the unpaid assessed tax, but not on the interest or penalties, calculated above, that are shown on the Notice of Assessment.
Example 3. (Doubling of Tax Under G.L. c. 62C, § 28). A taxpayer receives notification dated 2/26/88 that she did not file an income tax return for the 1986 calendar year. The taxpayer fails to respond within the thirty day period following the date of the notification. On March 30, 1988, the Commissioner issues a Notice of Assessment after estimating based upon the best available information that the tax which should have been shown on the taxpayer's return was $15,000, and that there were no prior payments of tax or applicable credits to reduce this amount. The Commissioner also determines that the accrued interest on the unpaid tax from the statutory due date to the thirtieth day following the Notice of Assessment, as determined without a section 28 assessment, totals $2,818.35. Finally, the Commissioner determines that the accrued penalties under G.L. c. 62C, §§ 33(a), and 33(b), are $2,700 ($1,800 and $900, respectively). The Commissioner may make an assessment of up to two times the amount of the tax ($15,000), the accrued interest $2,818.35, and accrued penalty ($2,700). Assuming that the Commissioner does assess double tax ($30,000), the interest accruing on the doubled amount and stated on the Notice of Assessment will be $5,636.70, and the penalties under sections 33(a) and 33(b) will be $5,400. Interest and section 33(c) penalties will accrue on the $30,000 tax. Interest and section 33(c) penalties will not accrue on the $5636.70 interest or on the $5,400 of penalties.
D. Administrative Matters
order to comply with the Molesworth decision, the Commissioner will
recalculate interest due to the Commissioner on all active accounts as
these accounts are billed by the Commissioner. The recalculation for
any particular type of tax will apply only to the tax periods in which
the Commissioner's records show a balance due from the taxpayer. In
cases where the recalculation with regard to a particular tax
transforms a former taxpayer liability to a credit, the Commissioner
will apply the credit to any other unpaid taxes, interest, or
penalties, owed by the taxpayer or, if no such unpaid amounts exist,
will refund credits in excess of ten dollars under the provisions of
G.L. c. 62C, § 36. The recalculations will be made as soon as
administrative constraints, such as computer reprogramming, permit.
The recalculation of interest described above will not reach all taxpayer accounts. If a taxpayer believes, in light of the Molesworth decision, that he or she has overpaid interest or penalties and that the Department's recalculation will not correct the problem, the taxpayer may use Form CA-6 to apply to the Commissioner for an abatement of any excess interest or penalties paid, provided that application is filed within the time allowed by G.L. c. 62C, § 37.
Commissioner of Revenue
March 19, 1991