72(t)

Submitted by Michael Porfido on Tue, 2010-08-10 00:35

I ran a SEPP calculation on the 72(t) website and it has a item called IRS penalty interest rate. It shows 4%. What is that?

Thanks.



Submitted by mk foss on Tue, 2010-08-10 01:47

I’m not sure what the website is referring to. The rate charged for underpayment of estimated taxes is normally referred to as the “penalty rate” but the term penalty rate is used in many IRS contexts. The “penalty rate” for underpayments is published quarterly while the Applicable Federal Rates (AFR) come out monthly.



Submitted by Alan Spross on Tue, 2010-08-10 03:35

Notes on the website indicate that the rate is used for illustrative purposes. The “cost to bust” calculator uses 4%, which is the current underpayment penalty rate to apply to each year’s 10% penalty in order to determine the total cost to bust a plan. The key question here is what rate does the IRS actually use when the penalty applies over 5-10 years. You might expect that the actual underpayment rate for each respective quarter would be used, but I do not know if that is the case. If it were, the cost to bust would be higher than the site calculates since 4% is the lowest this rate has been over that 10 year period. The average over that time appears to be 5 to 6%.

The main point is that the interest on the penalty can be a significant portion of the overall cost to bust a plan.



Submitted by Gordon Weis on Tue, 2010-08-10 16:42

The penalty calculated isn’t meant to be 100% accurate and is provided only for illustrative purposes to estimate potential taxes and penalties [IRC §72(t)(4)(A)] associated with a “busted” SEPP.

The underpayment interest penalty is actually calculated by the IRS and it is also my understanding that the actual quarterly historical interest rate for the period is used.

We give a sample calculation on the Help link on the calculator page at http://72t.net/72t/Calculator/Distributions

Gfw
http://72t.net



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