Applying tax refunds to subsequent years will be beneficial if there was a revision to a prior tax return resulting in a finding of deficiency
Based on my research below, applying tax refunds to subsequent years will, in fact, be beneficial if there was a revision to a prior tax return resulting in a finding of deficiency. The total amount of interest relief, however, will not exceed one year (provided that the refund amount was carried forward for multiple years). Below is a detailed explanation of the research: For example, suppose the 2010 Form 1040, U.S. Individual Income Tax Return , was overpaid by $20,000, and the taxpayer elected to apply the overpayment to 2011. After the 2011 return is filed, it is determined a mistake was made on the 2010 return, and the individual owes $20,000. In this case, it is too late to request a reversal of the credit elect to pay the deficiency. However, with the application of Rev. Rul. 99-40, the interest assessed by the IRS may be reduced because interest on the deficiency, which would otherwise begin to accrue from the due date of the 2010 return, will instead only accrue after the credit elect amount has been fully applied to estimated payments for 2011.
To determine when the interest accrual starts, the taxpayer or representative must analyze when the credit elect was applied to avoid a penalty for failure to pay estimated tax for 2011. Under Rev. Rul. 99-40, when the credit elect is used depends on the amount (if any) of the taxpayer’s required estimated payments for 2011 and the amount and the timing of the estimated payments the taxpayer makes for 2011. If it is determined that the taxpayer made large enough estimated payments for each quarter of 2011 that the credit elect was not needed to satisfy the required estimated tax payment amount for any quarter, then the deficiency interest would begin to run from the due date of the 2011 return rather than the due date of the 2010 return.
While applying Rev. Rul. 99-40 will not eliminate interest in all cases, it will help many taxpayers. One common case in which the taxpayers will not be able to eliminate interest when they believe they should is if the overpayment rolls forward for several years. For example, the 2009 individual return shows a $20,000 overpayment, which is applied to 2010. This overpayment is not needed and is applied to 2011. In 2012, it is determined that the 2009 Form 1040 has a mistake, and an amended return is being filed to increase tax by $20,000. Many taxpayers feel that since the IRS has had their money since 2009, no interest should be owed on the 2009 underpayment. While Rev. Rul. 99-40 does apply the principle that no interest is due until the tax is both due and unpaid, the IRS will only allow an interest-free period for up to one year ( FleetBoston Financial Corp. , 483 F.3d 1345 (Fed. Cir. 2007)). So in this example, interest would accrue from April 15, 2011, the due date of the 2010 return, until it is paid. This will at least help to reduce the interest due to the IRS. IRS computers are not equipped to compute interest using Rev. Rul. 99-40, so the taxpayer must request interest be computed using this revenue ruling. The request can be an informal claim or a formal claim (Form 843, Claim for Refund and Request for Abatement ). If the annualized or seasonal installment method is used to determine the amount of the taxpayer’s required estimated tax payments for the subsequent year, the IRS requires that the taxpayer provide the Form 2210, Underpayment of Estimated Tax by Individuals, Estates, and Trusts , or 2220, Underpayment of Estimated Tax by Corporations , showing when the credit elect was used to satisfy the subsequent year’s estimated tax liability (IRM §184.108.40.206.2).