I
107TH CONGRESS
2D SESSION
H. R. 5550
To amend the Internal Revenue Code of 1986 to reform its penalty and
interest provisions.
IN THE HOUSE OF REPRESENTATIVES
OCTOBER 3, 2002
Mr. HOUGHTON introduced the following bill; which was referred to the
Committee on Ways and Means
A BILL
To amend the Internal Revenue Code of 1986 to reform
its penalty and interest provisions.
Be it enacted by the Senate and House of Representa-
tives of the United States of America in Congress assembled,
SECTION 1. SHORT TITLE; ETC.
(a) SHORT TITLE.—This Act may be cited as the
‘‘Penalty and Interest Reform Act of 2002’’.
(b) AMENDMENT OF 1986 CODE.—Except as other-
wise expressly provided, whenever in this Act an amend-
ment or repeal is expressed in terms of an amendment
to, or repeal of, a section or other provision, the reference
shall be considered to be made to a section or other provi-
sion of the Internal Revenue Code of 1986.
(c) TABLE OF CONTENTS.—
Sec. 1. Short title; etc.
Sec. 2. Failure to pay estimated tax penalty converted to interest charge on ac-
cumulated unpaid balance.
Sec. 3. Exclusion from gross income for interest on overpayments of income tax
by individuals.
Sec. 4. Abatement of interest.
Sec. 5. Deposits made to suspend running of interest on potential underpay-
ments.
Sec. 6. Expansion of interest netting for individuals.
Sec. 7. Waiver of certain penalties for first-time unintentional minor errors.
Sec. 8. Frivolous tax submissions.
Sec. 9. Clarification of application of Federal tax deposit penalty.
SEC. 2. FAILURE TO PAY ESTIMATED TAX PENALTY CON-
VERTED TO INTEREST CHARGE ON ACCUMU-
LATED UNPAID BALANCE.
(a) PENALTY MOVED TO INTEREST CHAPTER OF
CODE.—The Internal Revenue Code of 1986 is amended
by redesignating section 6654 as section 6641 and by
moving section 6641 (as so redesignated) from part I of
subchapter A of chapter 68 to the end of subchapter E
of chapter 67 (as added by subsection (e)(1) of this sec-
tion).
(b) PENALTY CONVERTED TO INTEREST CHARGE.—
The heading and subsections (a) and (b) of section 6641
(as so redesignated) are amended to read as follows:
‘‘SEC. 6641. INTEREST ON FAILURE BY INDIVIDUAL TO PAY
ESTIMATED INCOME TAX.
‘‘(a) IN GENERAL.—Interest shall be paid on any un-
derpayment of estimated tax by an individual for a taxable
year for each day of such underpayment. The amount of
such interest for any day shall be the product of the un-
derpayment rate established under subsection (b)(2) mul-
tiplied by the amount of the underpayment.
‘‘(b) AMOUNT
OF
UNDERPAYMENT; INTEREST
RATE.—For purposes of subsection (a)—
‘‘(1) AMOUNT.—The amount of the under-
payment on any day shall be the excess of—
‘‘(A) the sum of the required installments
for the taxable year the due dates for which are
on or before such day, over
‘‘(B) the sum of the amounts (if any) of
estimated tax payments made on or before such
day on such required installments.
‘‘(2) DETERMINATION OF INTEREST RATE.—
‘‘(A) IN
GENERAL.—The underpayment
rate with respect to any day in an installment
underpayment period shall be the under-
payment rate established under section 6621
for the first day of the calendar quarter in
which such installment underpayment period
begins.
‘‘(B) INSTALLMENT
UNDERPAYMENT
PE-
RIOD.—For purposes of subparagraph (A), the
term ‘installment underpayment period’ means
the period beginning on the day after the due
date for a required installment and ending on
the due date for the subsequent required in-
stallment (or in the case of the 4th required in-
stallment, the 15th day of the 4th month fol-
lowing the close of a taxable year).
‘‘(C) DAILY RATE.—The rate determined
under subparagraph (A) shall be applied on a
daily basis and shall be based on the assump-
tion of 365 days in a calendar year.
‘‘(3) TERMINATION OF ESTIMATED TAX INTER-
EST.—No day after the end of the installment un-
derpayment period for the 4th required installment
specified in paragraph (2)(B) for a taxable year
shall be treated as a day of underpayment with re-
spect to such taxable year.’’.
(c) INCREASE
IN SAFE HARBOR WHERE TAX
IS
SMALL.—
(1) 
IN
GENERAL.—Clause 
(i) 
of 
section
6641(d)(1)(B) (as so redesignated) is amended to
read as follows:
‘‘(i) the lesser of—
‘‘(I) 90 percent of the tax shown
on the return for the taxable year (or,
if no return is filed, 90 percent of the
tax for such year), or
‘‘(II) the tax shown on the return
for the taxable year (or, if no return
is filed, the tax for such year) reduced
(but not below zero) by $2,000, or’’.
(2) CONFORMING AMENDMENT.—Subsection (e)
of section 6641 (as so redesignated) is amended by
striking paragraph (1) and redesignating paragraphs
(2) and (3) as paragraphs (1) and (2), respectively.
(d) CONFORMING AMENDMENTS.—
(1) Paragraphs (1) and (2) of subsection (e)
(as redesignated by subsection (c)(2)) and sub-
section (h) of section 6641 (as so designated) are
each amended by striking ‘‘addition to tax’’ each
place it occurs and inserting ‘‘interest’’.
(2) Section 167(g)(5)(D) is amended by strik-
ing ‘‘6654’’ and inserting ‘‘6641’’.
(3) Section 460(b)(1) is amended by striking
‘‘6654’’ and inserting ‘‘6641’’.
(4) Section 3510(b) is amended—
(A) by striking ‘‘section 6654’’ in para-
graph (1) and inserting ‘‘section 6641’’;
(B) by amending paragraph (2)(B) to read
as follows:
‘‘(B) no interest would be required to be
paid (but for this section) under 6641 for such
taxable year by reason of the $2,000 amount
specified in section 6641(d)(1)(B)(i)(II).’’;
(C) by striking ‘‘section 6654(d)(2)’’ in
paragraph 
(3) 
and 
inserting 
‘‘section
6641(d)(2)’’; and
(D) by striking paragraph (4).
(5) Section 6201(b)(1) is amended by striking
‘‘6654’’ and inserting ‘‘6641’’.
(6) Section 6601(h) is amended by striking
‘‘6654’’ and inserting ‘‘6641’’.
(7) Section 6621(b)(2)(B) is amended by strik-
ing ‘‘addition to tax under section 6654’’ and insert-
ing ‘‘interest required to be paid under section
6641’’.
(8) Section 6622(b) is amended—
(A) by striking ‘‘PENALTY
FOR’’ in the
heading; and
(B) by striking ‘‘addition to tax under sec-
tion 6654 or 6655’’ and inserting ‘‘interest re-
quired to be paid under section 6641 or addi-
tion to tax under section 6655’’.
(9) Section 6658(a) is amended—
(A) by striking ‘‘6654, or 6655’’ and in-
serting ‘‘or 6655, and no interest shall be re-
quired to be paid under section 6641,’’; and
(B) by inserting ‘‘or paying interest’’ after
‘‘the tax’’ in paragraph (2)(B)(ii).
(10) Section 6665(b) is amended—
(A) in the matter preceding paragraph (1)
by striking ‘‘, 6654,’’; and
(B) in paragraph (2) by striking ‘‘6654
or’’.
(11) Section 7203 is amended by striking ‘‘sec-
tion 6654 or 6655’’ and inserting ‘‘section 6655 or
interest required to be paid under section 6641’’.
(e) CLERICAL AMENDMENTS.—
(1) Chapter 67 is amended by inserting after
subchapter D the following:
‘‘Subchapter E—Interest on Failure by
Individual to Pay Estimated Income Tax
‘‘Sec. 6641. Interest on failure by individual to pay estimated in-
come tax.’’.
(2) The table of subchapters for chapter 67 is
amended by adding at the end the following new
items:
‘‘Subchapter D. Notice requirements.
‘‘Subchapter E. Interest on failure by individual to pay estimated
income tax.’’.
(3) The table of sections for part I of sub-
chapter A of chapter 68 is amended by striking the
item relating to section 6654.
(f) EFFECTIVE DATE.—The amendments made by
this section shall apply to installment payments for taxable
years beginning after December 31, 2002.
SEC. 3. EXCLUSION FROM GROSS INCOME FOR INTEREST
ON OVERPAYMENTS OF INCOME TAX BY INDI-
VIDUALS.
(a) IN GENERAL.—Part III of subchapter B of chap-
ter 1 (relating to items specifically excluded from gross
income) is amended by inserting after section 139 the fol-
lowing new section:
‘‘SEC. 139A. EXCLUSION FROM GROSS INCOME FOR INTER-
EST ON OVERPAYMENTS OF INCOME TAX BY
INDIVIDUALS.
‘‘(a) IN GENERAL.—In the case of an individual,
gross income shall not include interest paid under section
6611 on any overpayment of tax imposed by this subtitle.
‘‘(b) EXCEPTION.—Subsection (a) shall not apply in
the case of a failure to claim items resulting in the over-
payment on the original return if the Secretary determines
that the principal purpose of such failure is to take advan-
tage of subsection (a).
‘‘(c) SPECIAL RULE FOR DETERMINING MODIFIED
ADJUSTED GROSS INCOME.—For purposes of this title,
interest not included in gross income under subsection (a)
shall not be treated as interest which is exempt from tax
for purposes of sections 32(i)(2)(B) and 6012(d) or any
computation in which interest exempt from tax under this
title is added to adjusted gross income.’’.
(b) CLERICAL AMENDMENT.—The table of sections
for part III of subchapter B of chapter 1 is amended by
inserting after the item relating to section 139 the fol-
lowing new item:
‘‘Sec. 139A. Exclusion from gross income for interest on over-
payments of income tax by individuals.’’.
(c) EFFECTIVE DATE.—The amendments made by
this section shall apply to interest received in calendar
years beginning after the date of the enactment of this
Act.
SEC. 4. ABATEMENT OF INTEREST.
(a) ABATEMENT OF INTEREST WITH RESPECT TO
ERRONEOUS REFUND CHECK WITHOUT REGARD TO SIZE
OF REFUND.—Paragraph (2) of section 6404(e) is amend-
ed by striking ‘‘unless—’’ and all that follows and insert-
ing ‘‘unless the taxpayer (or a related party) has in any
way caused such erroneous refund.’’.
(b) ABATEMENT OF INTEREST TO EXTENT INTER-
EST
IS ATTRIBUTABLE
TO TAXPAYER RELIANCE
ON
WRITTEN STATEMENTS OF THE IRS.—Subsection (f) of
section 6404 is amended—
(1) in the subsection heading, by striking
‘‘PENALTY OR ADDITION’’ and inserting ‘‘INTEREST,
PENALTY, OR ADDITION’’; and
(2) in paragraph (1) and in subparagraph (B)
of paragraph (2), by striking ‘‘penalty or addition’’
and inserting ‘‘interest, penalty, or addition’’.
(c) EFFECTIVE DATE.—The amendments made by
this section shall apply with respect to interest accruing
on or after the date of the enactment of this Act.
SEC. 5. DEPOSITS MADE TO SUSPEND RUNNING OF INTER-
EST ON POTENTIAL UNDERPAYMENTS.
(a) IN GENERAL.—Subchapter A of chapter 67 (re-
lating to interest on underpayments) is amended by add-
ing at the end the following new section:
‘‘SEC. 6603. DEPOSITS MADE TO SUSPEND RUNNING OF IN-
TEREST ON POTENTIAL UNDERPAYMENTS,
ETC.
‘‘(a) AUTHORITY TO MAKE DEPOSITS OTHER THAN
AS PAYMENT OF TAX.—A taxpayer may make a cash de-
posit with the Secretary which may be used by the Sec-
retary to pay any tax imposed under subtitle A or B or
chapter 41, 42, 43, or 44 which has not been assessed
at the time of the deposit. Such a deposit shall be made
in such manner as the Secretary shall prescribe.
‘‘(b) NO INTEREST IMPOSED.—To the extent that
such deposit is used by the Secretary to pay tax, for pur-
poses of section 6601 (relating to interest on underpay-
ments), the tax shall be treated as paid when the deposit
is made.
‘‘(c) RETURN OF DEPOSIT.—Except in a case where
the Secretary determines that collection of tax is in jeop-
ardy, the Secretary shall return to the taxpayer any
amount of the deposit (to the extent not used for a pay-
ment of tax) which the taxpayer requests in writing.
‘‘(d) PAYMENT OF INTEREST.—
‘‘(1) IN
GENERAL.—For purposes of section
6611 (relating to interest on overpayments), a de-
posit which is returned to a taxpayer shall be treated
as a payment of tax for any period to the extent
(and only to the extent) attributable to a disputable
tax for such period. Under regulations prescribed by
the Secretary, rules similar to the rules of section
6611(b)(2) shall apply.
‘‘(2) DISPUTABLE TAX.—
‘‘(A) IN GENERAL.—For purposes of this
section, the term ‘disputable tax’ means the
amount of tax specified at the time of the de-
posit as the taxpayer’s reasonable estimate of
the maximum amount of any tax attributable to
disputable items.
‘‘(B) SAFE
HARBOR
BASED
ON
30-DAY
LETTER.—In the case of a taxpayer who has
been issued a 30-day letter, the maximum
amount of tax under subparagraph (A) shall
not be less than the amount of the proposed de-
ficiency specified in such letter.
‘‘(3) OTHER
DEFINITIONS.—For purposes of
paragraph (2)—
‘‘(A) DISPUTABLE ITEM.—The term ‘dis-
putable item’ means any item of income, gain,
loss, deduction, or credit if the taxpayer—
‘‘(i) has a reasonable basis for its
treatment of such item, and
‘‘(ii) reasonably believes that the Sec-
retary also has a reasonable basis for dis-
allowing the taxpayer’s treatment of such
item.
‘‘(B) 30-DAY LETTER.—The term ‘30-day
letter’ means the first letter of proposed defi-
ciency which allows the taxpayer an opportunity
for administrative review in the Internal Rev-
enue Service Office of Appeals.
‘‘(4) RATE OF INTEREST.—The rate of interest
allowable under this subsection shall be the Federal
short-term rate determined under section 6621(b),
compounded daily.
‘‘(e) USE OF DEPOSITS.—
‘‘(1) PAYMENT OF TAX.—Except as otherwise
provided by the taxpayer, deposits shall be treated
as used for the payment of tax in the order depos-
ited.
‘‘(2) RETURNS
OF
DEPOSITS.—Deposits shall
be treated as returned to the taxpayer on a last-in,
first-out basis.’’.
(b) CLERICAL AMENDMENT.—The table of sections
for subchapter A of chapter 67 is amended by adding at
the end the following new item:
‘‘Sec. 6603. Deposits made to suspend running of interest on po-
tential underpayments, etc.’’.
(c) EFFECTIVE DATE.—
(1) IN GENERAL.—The amendments made by
this section shall apply to deposits made after the
date of the enactment of this Act.
(2) COORDINATION
WITH
DEPOSITS
MADE
UNDER REVENUE PROCEDURE 84–58.—In the case of
an amount held by the Secretary of the Treasury or
his delegate on the date of the enactment of this Act
as a deposit in the nature of a cash bond deposit
pursuant to Revenue Procedure 84–58, the date that
the taxpayer identifies such amount as a deposit
made pursuant to section 6603 of the Internal Rev-
enue Code (as added by this Act) shall be treated
as the date such amount is deposited for purposes
of such section 6603.
SEC. 6. EXPANSION OF INTEREST NETTING FOR INDIVID-
UALS.
(a) IN GENERAL.—Subsection (d) of section 6621
(relating to elimination of interest on overlapping periods
of tax overpayments and underpayments) is amended by
adding at the end the following: ‘‘Solely for purposes of
the preceding sentence, section 6611(e) shall not apply in
the case of an individual.’’.
(b) EFFECTIVE DATE.—The amendment made by
subsection (a) shall apply to interest accrued after Decem-
ber 31, 2002.
SEC. 7. WAIVER OF CERTAIN PENALTIES FOR FIRST-TIME
UNINTENTIONAL MINOR ERRORS.
(a) IN GENERAL.—Section 6651 (relating to failure
to file tax return or to pay tax) is amended by adding
at the end the following new subsection:
‘‘(i) TREATMENT OF FIRST-TIME UNINTENTIONAL
MINOR ERRORS.—
‘‘(1) IN GENERAL.—In the case of a return of
tax imposed by subtitle A filed by an individual, the
Secretary may waive an addition to tax under sub-
section (a) if—
‘‘(A) the individual has a history of compli-
ance with the requirements of this title,
‘‘(B) it is shown that the failure is due to
an unintentional minor error,
‘‘(C) the penalty would be grossly dis-
proportionate to the action or expense that
would have been needed to avoid the error, and
imposing the penalty would be against equity
and good conscience,
‘‘(D) waiving the penalty would promote
compliance with the requirements of this title
and effective tax administration, and
‘‘(E) the taxpayer took all reasonable steps
to remedy the error promptly after discovering
it.
‘‘(2) EXCEPTIONS.—Paragraph (1) shall not
apply if—
‘‘(A) the Secretary has waived any addition
to tax under this subsection with respect to any
prior failure by such individual,