Penalties are where a tax dispute quietly doubles in size. A deficiency is the tax that should have been paid; the penalties are the surcharge on top, and they range from a few percent to the 75% civil fraud penalty. Two things every taxpayer facing penalties should know are the substantive defense — reasonable cause — and a powerful procedural one that the IRS itself frequently fails to satisfy: the supervisory-approval requirement of § 6751(b). Together they are often the difference between paying a penalty and defeating it.
The penalty map
The Code’s civil penalties form a recognizable hierarchy. The delinquency penalties under § 6651 punish late filing (5% per month, to 25%) and late payment (0.5% per month, to 25%). The accuracy-related penalty under § 6662 adds 20% for negligence, a substantial understatement, or valuation misstatements — rising to 40% for gross valuation misstatements, undisclosed foreign assets, and transactions lacking economic substance. At the top sits the civil fraud penalty of § 6663 (75%). Separate regimes reach return preparers (§§ 6694–6695), promoters and aiders (§§ 6700–6701), and reportable transactions (§ 6707A).
| Penalty | Section | Rate | § 6751(b) approval? |
|---|---|---|---|
| Failure to file | § 6651(a)(1) | 5%/month, max 25% | No — auto-calculated |
| Failure to pay | § 6651(a)(2) | 0.5%/month, max 25% | No — auto-calculated |
| Accuracy-related | § 6662 | 20% (40% for some) | Yes |
| Fraudulent failure to file | § 6651(f) | 15%/month, max 75% | Yes |
| Civil fraud | § 6663 | 75% | Yes |
| Reportable-transaction | § 6707A | Statutory amounts | Yes |
| Return preparer | § 6694 | Varies | Yes |
The substantive defense: reasonable cause
For most penalties short of fraud, the central defense is reasonable cause and good faith under § 6664(c). A taxpayer who exercised ordinary business care and prudence — who relied reasonably and in good faith on a competent professional given complete information, for example — can defeat the accuracy and delinquency penalties. Reasonable cause is fact-intensive and not available against the fraud penalty, where intent is the whole point, but it is the workhorse defense across the rest of the regime.
The procedural defense: § 6751(b) supervisory approval
Here is the requirement that has reshaped penalty litigation. Section 6751(b)(1) provides that no penalty may be assessed unless the initial determination of the assessment is personally approved, in writing, by the immediate supervisor of the individual making it. Congress enacted it in 1998 so that penalties would be imposed on the merits, not wielded as a bargaining chip. There are carve-outs: the requirement does not apply to penalties calculated automatically — the § 6651 delinquency additions and the §§ 6654/6655 estimated-tax additions — but it does apply to the accuracy and fraud penalties that drive most disputes.
The timing fight — and where it stands now
For years the battle was when the approval must occur. The Second Circuit in Chai v. Commissioner, 851 F.3d 190 (2017), held it must come no later than the first formal communication of the penalty to the taxpayer — the notice of deficiency — and, importantly, that proving approval is part of the IRS’s burden of production under § 7491(c). The Tax Court adopted that view in Graev III (149 T.C. 485 (2017)) and refined it into a “formal communication” rule. The Ninth and Eleventh Circuits then took a more government-friendly line in Laidlaw’s Harley-Davidson Sales (29 F.4th 1066 (9th Cir. 2022)) and Kroner (11th Cir. 2022), holding approval timely so long as it precedes assessment. The result was a genuine circuit split. Treasury has since issued final regulations standardizing the timing, applicable to penalties assessed on or after December 23, 2024; for penalties assessed before that date — including many cases now in litigation — the pre-regulation circuit precedent still controls. The decisive fact is the assessment date.
Why this matters in practice
The supervisory-approval defense has won cases that the underlying tax merits would have lost, because it is purely procedural: it asks not whether the penalty was deserved but whether the IRS followed its own mandatory step at the right time. In any penalty dispute the file should be examined for the approval — its existence, its timing relative to the controlling rule, and whether the approver was the right person. Combined with a reasonable-cause showing on the substance, it gives the taxpayer two independent paths to defeat a penalty.
The practical takeaway
Penalties are not a foregone conclusion that rides along with a deficiency. The reasonable-cause defense addresses whether the penalty was ever warranted; the § 6751(b) approval requirement addresses whether the IRS imposed it correctly — and the IRS carries the burden on the latter. In a system where the surcharge can dwarf the tax, both questions deserve to be asked in every case, and the assessment date now tells you which timing rule governs the second.