ArticleFailure to file IRS Form 3520 Reasonable Cause Penalty Relief
On July 8, 2026, the IRS announced a significant change to the way it administers penalty relief for compliant taxpayers.[1] The agency’s new “Automatic Exemption from Penalty” (AEP) program will replace the long-standing First Time Abate (“FTA”) administrative waiver, automatically suppressing certain penalties for eligible taxpayers without requiring a phone call, written request, or Form 843 submission. The change is designed to promote fairness and reduce taxpayer burden.
Background: First Time Abate and Administrative Penalty Relief
Since 2001, FTA has been the most common form of IRS administrative penalty relief, allowing eligible taxpayers with a three-year history of timely compliance to request removal of failure-to-file (“FTF”), failure-to-pay (“FTP”), and failure-to-deposit (“FTD”) penalties. Under FTA, taxpayers had to affirmatively request relief, either by calling the IRS, submitting Form 843, or sending a written statement. The IRS did not proactively notify eligible taxpayers of the relief’s availability, and penalty notices contained no reference to FTA.
A 2012 Treasury Inspector General for Tax Administration (“TIGTA”) report[2] found that of approximately 1.65 million individual taxpayers who qualified for FTA in tax year 2010, only about 8% actually received the relief (i.e., leaving an estimated $181 million in penalties unabated). The primary reason: most taxpayers (and many practitioners) simply did not know the relief existed. This gap persisted for years and created an inequitable system where sophisticated taxpayers (including those receiving professional representation from experience counsel from firms such as ours) were far more likely to obtain relief than similarly situated taxpayers without advisors.
The New Automatic Exemption from Penalty (“AEP”) Program
On July 8, 2026, the IRS announced (IR-2026-83) that it will begin implementing AEP during the summer of 2026, with supporting detail published in Fact Sheet FS-2026-12.[3] AEP is built directly into return processing (i.e., when a return is processed, the system automatically evaluates the taxpayer’s compliance history and suppresses qualifying penalties without any taxpayer action). If AEP applies, the IRS will send the taxpayer a notice confirming that the penalty was not assessed due to their compliance history.[4] AEP does not eliminate the underlying tax liability or statutory interest; it only prevents the assessment of qualifying penalties (and penalty-related interest).
AEP applies to eligible original returns beginning with tax year 2025 and 2026 quarterly returns, as well as future tax periods, and covers FTF, FTP and FTD penalties.[5] For eligible returns with original due dates on or after January 1, 2027 (see discussion of transition period, below), AEP will fully replace FTA. To qualify, a taxpayer must have timely filed the same return type and paid any tax due for the prior three years (or 12 consecutive quarters for quarterly filers). No penalties (other than estimated tax penalties, or penalties that were asserted but later abated for reasonable cause or IRS error), may have been assessed during that lookback period.
Transition Period Considerations
During the summer of 2026 transition, some taxpayers with eligible 2025 returns or 2026 quarterly returns may still receive penalty notices if their returns were processed before AEP was fully operational. In those cases, taxpayers who believe they qualify should contact the IRS to request FTA using existing procedures (phone call or Form 843) during the transition window. FTA will be completely unavailable for returns with original due dates on or after January 1, 2027.
Because AEP operates as an automatic, return-by-return evaluation, each filing period effectively resets the compliance window (e.g., a taxpayer who has been timely for three consecutive years and otherwise meets the criteria should receive penalty relief automatically in the event of a single late filing or payment in the current year, without needing to contact the IRS or invoke FTA). However, the taxpayer remains liable for any unpaid tax, interest, and other penalties not subject to AEP relief.
Additionally, the National Taxpayer Advocate has recommended that the IRS retroactively apply AEP to eligible taxpayers who received penalties in 2026 before AEP was implemented,[6] but as of this writing it is unclear whether the IRS will adopt that recommendation.
Key Takeaways and Practical Considerations
The transition from FTA to AEP carries several practical implications for individual and small-business taxpayers:
- No action required for eligible taxpayers. If you qualify, the relevant penalties should be automatically suppressed going forward.
- Monitor IRS notices during the transition. Returns processed before the AEP program went live may still generate penalty notices. Taxpayers who receive such notices should request FTA under existing procedures.
- Maintain compliance records. Taxpayers should retain proof of timely filing and payment (e.g., e-file confirmations, payment receipts) for the prior 3 years, in case of IRS record discrepancies.
- AEP does not cover all penalties. Estimated tax penalties, accuracy-related penalties, information return penalties, and penalties on event-based returns (Forms 706, 709) remain outside AEP. Reasonable cause relief, however, still remains available for those penalties.
Conclusion
The transition from FTA to the AEP represents a meaningful step toward equitable penalty administration. By removing the requirement that taxpayers affirmatively request relief they are entitled to, the IRS is closing a long-standing gap that disproportionately penalized less-sophisticated filers. We encourage clients to review their recent compliance history, confirm that their filing and payment records are complete, and consult with experienced tax counsel regarding any outstanding penalty notices, particularly during the transition period when both FTA and AEP may apply.
[1]IR-2026-83 (July 8, 2026).
[2]TIGTA, Penalty Abatement Procedures Should Be Applied Consistently to All Taxpayers and Should Encourage Voluntary Compliance, Ref. No. 2012-40-113 (Sept. 19, 2012).
[3]IRS Fact Sheet FS-2026-12 (July 2026).
[4] Taxpayers who do not meet the eligibility criteria for AEP may still request penalty relief based on reasonable cause and will be notified of the outcome.
[5] Covered return types include Forms 1040, 1065, 1120 (including 1120-S), 940, 941, 943, 944, 945, and CT-1. Notably, Form 1041 (fiduciary returns) does not qualify, nor do information returns, estate tax returns (Form 706), gift tax returns (Form 709), or other event-based or infrequent returns.
[6]National Taxpayer Advocate Blog, “A Long-Awaited Taxpayer Win: The IRS Implements Automatic Penalty Relief” (July 2026).