First Time Abatement: How Small Businesses Can Get IRS Penalties Waived

Got hit with your first IRS penalty and feeling like it's the end of the world? Take a deep breath: there's actually some good news here. If this is truly your first penalty rodeo and you've been a good taxpayer for the past few years, you might be able to get that penalty completely wiped out through something called First Time Abatement (FTA).

Think of FTA as the IRS's way of giving you a mulligan for your first mistake. It's not widely advertised, but it's a legitimate program that can save small businesses thousands of dollars in penalties. Let's break down everything you need to know about this penalty relief option.

What Exactly Is First Time Abatement?

First Time Abatement is an administrative waiver program that allows the IRS to remove certain penalties for taxpayers who have maintained good compliance for the previous three years. It's basically the IRS acknowledging that everyone makes mistakes sometimes, and if you've been playing by the rules, you deserve a second chance.

The best part? There's no income limit, business size restriction, or penalty amount cap. Whether you're facing a $100 penalty or a $10,000 penalty, FTA treats them all the same: if you qualify, you qualify.

Which Penalties Can Be Waived?

FTA doesn't work for every penalty the IRS can throw at you, but it does cover the three most common ones that hit small businesses:

Failure-to-File Penalty This is the big one that gets most small businesses in trouble. If you owe taxes and don't file your return by the deadline (including extensions), you'll get hit with this penalty. It applies to various business returns, including partnership returns and S corporation returns. The penalty is typically 5% of your unpaid taxes for each month your return is late, up to a maximum of 25%.

Failure-to-Pay Penalty Even if you file your return on time, you'll face this penalty if you don't pay what you owe by the due date. This penalty is 0.5% of your unpaid taxes for each month you don't pay, also capping at 25%. It applies whether you're not paying the amount shown on your return or amounts the IRS is demanding in a notice.

Failure-to-Deposit Penalty This one specifically hits employers who don't deposit their employees' withheld taxes on time. The penalty rates vary depending on how late your deposit is, ranging from 2% to 15% of the unpaid deposit. For businesses with regular payroll, this can add up quickly.

Do You Qualify for First Time Abatement?

The qualification rules are pretty straightforward, but they're also strict. You need to meet all of these criteria:

The Three-Year Clean Record Rule You must have filed all required returns for the same type of tax for the three years before the penalty year. So if you're asking for abatement of a 2024 penalty, your 2021, 2022, and 2023 returns must all be filed. Missing even one return disqualifies you.

You also can't have been assessed any penalties during those three years. If you were assessed penalties but they were removed for other reasons (like reasonable cause), that's okay. But if you received penalties and paid them or had them removed through a previous FTA request, you're out of luck.

Current Compliance You need to be current on all your filing requirements or have filed for extensions. You also need to have paid your taxes or arranged to pay them. This doesn't mean your entire tax bill needs to be paid off, but you do need to show you're working toward compliance.

Special Rules for Employment Tax Penalties If you're seeking relief from failure-to-deposit penalties, there are additional restrictions. You can't have four or more penalty waiver codes for these penalties in the prior three years, and the penalty can't be related to avoiding the Electronic Federal Tax Payment System (EFTPS).

How to Request First Time Abatement

Here's where many small business owners get tripped up: you have to ask for FTA in writing. The IRS won't automatically apply it, even if you clearly qualify.

Submit a Written Request You need to send a signed, written statement requesting penalty relief. If you received a penalty notice, send your request to the address on that notice. Otherwise, mail it to the IRS service center where you'd file your current year return.

What to Include in Your Request Your letter should clearly state that you're requesting First Time Abatement and explain why you qualify. Include details about your compliance history for the past three years, listing all returns filed and confirming you received no penalties during that period.

Even though FTA is based solely on your compliance history, it's smart to also include a detailed explanation of what caused the penalty. If your FTA request gets denied due to compliance issues, the IRS will then review your case for reasonable cause relief.

Sample Request Language Here's what a basic FTA request might look like:

"I am requesting First Time Abatement for the [specific penalty type] assessed for tax period [year/quarter]. I have maintained good compliance for the past three years by filing all required returns and receiving no penalties during this period. For tax year 2021, I filed my return on [date]. For tax year 2022, I filed my return on [date]. For tax year 2023, I filed my return on [date]. I received no penalties for any of these years."

Real-World Examples

Let's look at a couple of scenarios to see how FTA works in practice:

Sarah's Restaurant Sarah owns a small restaurant and has been diligent about filing her quarterly payroll tax returns for years. In Q2 2024, she got swamped with a family emergency and filed her return three days late, resulting in a $500 failure-to-file penalty. Since she filed all her returns on time for 2021, 2022, and 2023, and received no penalties during those years, she qualifies for FTA and can get the entire $500 penalty waived.

Mike's Consulting Business Mike runs a consulting firm and has always filed his annual returns on time. However, he struggled with cash flow in 2024 and couldn't pay his full tax bill by the April deadline, resulting in a $1,200 failure-to-pay penalty. He filed all his returns for 2021-2023 and received no penalties, so he qualifies for FTA relief.

Tips for a Successful FTA Request

Be Thorough and Accurate Double-check your compliance history before submitting your request. The IRS has all your records, so any mistakes in your letter will hurt your credibility.

Act Quickly While there's no specific deadline for FTA requests, it's best to submit yours as soon as possible after receiving a penalty notice. This shows good faith and prevents additional penalties from accruing.

Keep Detailed Records Maintain copies of all your filed returns and payment records. This documentation will be crucial if the IRS questions your compliance history.

Consider Professional Help While you can certainly request FTA yourself, tax professionals familiar with the process can help ensure your request is properly formatted and includes all necessary information. This is especially valuable for larger penalties or complex situations.

What Happens After You Submit Your Request?

The IRS will review your request and check your compliance history. If approved, you'll receive Letter 3502C or Letter 3503C confirming the penalty relief. This typically happens within 30-60 days, though it can take longer during busy periods.

If your request is denied, don't panic. You have the right to appeal the decision, and you might still qualify for reasonable cause relief based on the circumstances you described in your original request.

Important Limitations to Remember

FTA only removes penalties: it doesn't eliminate interest charges on unpaid taxes. Interest continues to accrue on any outstanding tax balance until you pay it in full, even after penalties are abated.

Also remember that FTA is a one-time deal per penalty type per tax period. Once you've used it for a failure-to-file penalty, you can't use it again for another failure-to-file penalty until you rebuild your three-year clean compliance history.

The Bottom Line

First Time Abatement is one of the best-kept secrets in tax relief, and it's completely legitimate. If you've been hit with your first IRS penalty and have maintained good compliance for the past three years, you have a strong chance of getting that penalty completely eliminated.

The key is knowing about it and actually requesting it. The IRS won't volunteer this information, so it's up to you to take action. With a well-prepared written request and proper documentation of your compliance history, you could save your business significant money and stress.

Remember, everyone makes mistakes, and the IRS recognizes this with the FTA program. Don't let pride or fear keep you from pursuing relief you're entitled to receive.