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Henry's correct tax amount is $500,000, but he filed a form reporting that it was only $400,000. There is no claim of fr...

Henry's correct tax amount is $500,000, but he filed a form reporting that it was only $400,000. There is no claim of fraud. Is this a substantial understatement that will subject him to the 20% understatement penalty?

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Answer #1

Answer:

To determine whether the taxpayer's understatement was substantial, the understatement has to exceed the greater of $5,000, or 10 percent of the tax required to be paid.

In this case, Henry's understatement is $100,000 which exceeds both 10% of the tax i.e $50,000 and the $5,000 level.

Hence, this is a substantial understatement.

A taxpayer who substantially understates tax due is subject to a substantial understatement of tax penalty in an amount equal to 20 percent of the understatement.

Hence, penalty amount = $100,000 × 20% = $20,000

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