Michigan Chapter of the NATP

Corporate Income Tax (CIT) Penalty and Interest for Underpaid Estimated Tax

Approved: July 9, 2024

Note: A taxpayer may rely on this Revenue Administrative Bulletin (RAB) until it is revoked by Treasury or until a law on which this RAB is based is altered by legislation or by binding judicial precedent. See MCL 205.6a and RAB 2016-20.

RAB 2024-10. This bulletin discusses the penalty provisions of the Revenue Act, added by the Taxpayer Bill of Rights amendments in Public Acts 13 and 14 of 1993, Public Act 657 of 2002, and the administrative rules on penalty and interest computation for underpaid CIT estimated payments.

REQUIRED ESTIMATED TAX PAYMENTS IN GENERAL

Part 2 of the Income Tax Act of 1967, also known as the corporate income tax or “CIT,” consists of three taxes, an income tax for C corporations and entities taxed as C corporations for federal income tax purposes (standard taxpayers), a premiums tax for insurance companies, and a franchise tax for financial institutions. MCL 206.1 et seq. All business taxpayers, regardless of the tax type paid under the CIT, must make required estimated tax payments. Taxpayers that reasonably expect an annual total CIT liability for the tax year to exceed $800 must make quarterly estimated tax payments. MCL 206.681(1). Estimated returns and payments for calendar year taxpayers are due by April 15, July 15, October 15, and January 15. MCL 206.681(2). Fiscal year taxpayers should make returns and payments by the appropriate due date which is 15 days after the end of each fiscal quarter. Id.

For most taxpayers, each payment must approximate the taxpayer’s tax liability for the quarter or 25 percent of the estimated annual liability. MCL 206.681(3). Second, third, and fourth quarter payments must include any necessary adjustments for overpayments or underpayments made in a previous quarter so that the estimated annual tax liability is covered by the estimated payments. Id. Taxpayers that make estimated federal income tax payments using the annualized income installment or adjusted seasonal installment methods pursuant to Internal Revenue Code (IRC) 6655(e) may use the same methodology to calculate the CIT estimated payments. MCL 206.681(3). A taxpayer that elects under the IRC to file an annual return by March 1 following its tax year without estimated payments or to file a tentative annual return with payment by January 15 following its tax year and a final return by April 15 has the option of filing CIT estimates in the same manner. MCL 206.681(8).

Form 4913 (Corporate Income Tax Quarterly Return) is the estimated quarterly return authorized under MCL 206.681(1), (2) and (4) that taxpayers may use to remit quarterly estimated payments. A taxpayer may pay quarterly estimated payments by check with the form or may direct their bank to electronically pay Treasury monthly or quarterly by electronic funds transfer (EFT). In addition, Treasury accepts payments by credit card, debit card, and electronic check through Michigan Treasury Online (MTO) at mto.treasury.michigan.gov. A taxpayer may log on or create a user profile and follow the fast pay instructions to make a payment. Fees apply to credit/debit card transactions. When payments are made by EFT or MTO, Form 4913 is not required.

Taxpayers with a tax year of less than four months (first or final year) are not required to file an estimated tax return or remit estimated payments. MCL 206.681(5).

ESTIMATED PAYMENT AND PENALTY SAFE HARBORS

Taxpayers must make sufficient quarterly estimated tax payments to cover the estimated annual tax liability. MCL 206.681(4). Penalty and interest will not be assessed for underpayment of estimated quarterly taxes in cases where a taxpayer satisfies any of the statutory safe harbor provisions. MCL 206.681(3). The term “taxpayer” includes a C corporation (a “standard” taxpayer), insurance company, financial institution, or unitary business group (UBG). MCL 206.611(5). A CIT annual return is due for a standard taxpayer or UBG of standard taxpayers if the taxpayer’s gross receipts after intercompany eliminations are $350,000 or more for the tax year (annualized if a short period). MCL 206.685. All CIT estimated tax payments for a UBG should be made by the designated member.

Insurance companies must file a return on a calendar year basis and pay the greater of the CIT or the retaliatory tax. MCL 206.635-643 (CIT) and MCL 500.476a (retaliatory tax). Quarterly estimated tax payments are based on the greater tax imposed.

Financial institutions pay tax on total equity capital and must make sufficient quarterly estimated tax payments to cover the estimated annual tax liability. MCL 206.655(1).

Taxpayers are not required to file an annual CIT return or estimated payments if current year liability is $100 or less. MCL 206.685(1).

Safe Harbors

85 percent Threshold: Taxpayers will not be assessed penalty or interest if the estimated payments made equal or exceed 85 percent of the final tax liability and each of the estimated payments reasonably approximates the tax liability incurred during the quarter for which the estimated payment was made. MCL 206.681(3)(a). A quarterly payment will be considered reasonable if the amount, adjusted for overpayments or underpayments, is at least one fourth of the 85 percent threshold amount.

Example 1: A taxpayer has a CIT tax liability of $120,000. The required threshold estimated amount is 85 percent of the tax liability or $102,000. The quarterly estimated threshold payment amount is $25,500. An overpayment of $500 exists from the prior year. The taxpayer makes a timely first quarter estimated payment of $25,100. Since the estimated payment and prior year overpayment total $25,600 and exceeds the estimated payment required, $25,500, the payment is reasonable, and no interest or penalty will be assessed for this payment. The excess $100 over the threshold payment required will be carried forward to the second quarter.

Example 2: Continuing the facts from Example 1; and the taxpayer makes a second quarter estimated payment of $25,000. This payment plus the $100 carryforward from the first quarter totals $25,100 that is $400 less than the $25,500 required estimate. The taxpayer did not satisfy the safe harbor based on the required quarterly estimated payment. The $400 deficiency is subject to penalty and interest.

Example 3: A taxpayer is a tree farmer that harvests trees in November for the holiday season. All sales are made and recorded in November when the trees are shipped to vendors. The taxpayer uses the adjusted seasonal installment method for federal estimated payments and follows that method for making estimated CIT payments. For the fourth quarter, the taxpayer makes an estimated payment of $30,000 and files Form 4899, CIT Penalty and Interest Computation for Underpaid Estimated Tax, Part 4, reporting the income that was earned in the fourth quarter. The taxpayer does not make any other estimated payments during the year. The final CIT tax liability for the year is $34,000. The estimated payment made in the fourth quarter approximates the CIT tax liability incurred during the quarter and exceeds $28,900, 85 percent of the annual total tax liability ($34,000 x 0.85). No interest or penalty is assessed on the deficiency.

Preceding Tax Year’s Liability: A taxpayer may qualify for the safe harbor provision under MCL 206.681(3)(b) if the previous year’s CIT tax liability was $20,000 or less. Under the safe harbor’s requirements, the taxpayer must timely submit four equal estimated payments, the sum of which equals the previous tax year’s CIT liability. A taxpayer may choose to make larger payments, including full payment, earlier in the current tax year so that the total amount paid equals the immediately preceding tax year’s CIT tax liability before the fourth quarter. However, making larger payments in later quarters will not satisfy the safe harbor payments required in prior quarters. The taxpayer must have had business activity in Michigan in the preceding year to qualify for this safe harbor. An entity that was not in existence or that was without business activity in Michigan in the preceding year would not have a preceding year’s tax liability under CIT that would allow it to qualify for this safe harbor and it would not be able to avail itself of it. This safe harbor is available to a taxpayer with a previous year’s CIT liability of zero as long as the taxpayer had business activity in Michigan in the prior year. A taxpayer with zero liability must establish that fact by file filing a return.

Example 4: A taxpayer has a prior year CIT tax liability of $10,000. The minimum estimated payment required each quarter is $2,500. The taxpayer makes a timely first quarter estimated payment of $5,000 and a timely second quarter estimated payment of $5,000. The taxpayer makes no estimated payments for the remainder of the year. The taxpayer will have satisfied the safe harbor based on the prior year tax liability.

Example 5: A taxpayer has a prior year CIT tax liability of $10,000. The taxpayer does not make a first quarter estimated payment but makes a timely second quarter estimated payment of $10,000. The taxpayer makes no estimated payments for the remainder of the year. The taxpayer did not satisfy the safe harbor based on the prior year’s CIT tax liability because there was no timely first quarter estimated payment of $2,500 made.

In cases where a taxpayer fails to satisfy the required quarterly estimated payments based on the preceding year’s CIT tax liability safe harbor, estimated payments are computed based on 85 percent of the current year’s tax liability. MCL 206.681(3)(a) If the estimated payments equal at least 85 percent of the current year CIT liability, statutory interest and penalty will not be assessed on the deficiency.

Example 6: Same facts as in Example 5, and the current year’s CIT tax liability is $24,000. Because the taxpayer failed to make the Q1 payment of $2,500 under the prior year’s tax liability safe harbor, it must compute the underpayment penalty based on 85 percent of the current CIT tax liability or $20,400. Each quarterly estimated payment should be $5,100. Underpayment penalty and interest will be computed on quarterly estimates of $5,100 until paid. When the Q2 payment of $10,000 is made, the first quarter estimate plus penalty and interest will be deducted from the payment and the excess, if any, will be applied to Q2.

Annualized Liability: When the prior CIT tax year is a period of less than 12 months, the $20,000 threshold test is applied to the annualized CIT liability of the short year. MCL 206.681(5). To annualize the short year liability, take the tax liability for the short year, multiply by 12, then divide that result by the number of months in the short tax year. The four equal installments of estimated payments made must meet or exceed the annualized prior year’s CIT tax liability.

Example 7: The taxpayer’s prior CIT return was for a period of six months, with a CIT tax liability of $5,000. To satisfy the safe harbor provision, the taxpayer must make four equal estimated payments based on annualized income totaling $10,000 (($5,000 x 12)/6 = $10,000). The minimum estimated quarterly payment must be at least $2,500 until the prior year’s annualized CIT tax liability is paid.

Example 8: The taxpayer’s prior CIT return was for a period of six months, with a CIT tax liability of $15,000. This taxpayer cannot use the safe harbor based on the prior year’s CIT tax liability because the annualized tax liability in the prior year is $30,000 that exceeds the $20,000 limit. (($15,000 x 12)/6 = $30,000). Therefore, to avoid penalty and interest charges, the taxpayer must make total estimated payments equal to at least 85 percent of the total CIT tax liability for the current tax year and the amount of each estimated payment must reasonably approximate the CIT tax liability for the quarter.

ALTERNATIVE METHODS UNDER IRC 6655

MCL 206.681(3) allows taxpayers that make estimated federal payments using the annualized income or adjusted seasonal installment methods under IRC 6655(e) to use the same methodology to compute CIT estimated payments. The following is a brief discussion of these methods; however, taxpayers are advised to refer to the IRS.gov website for further information. Because the following two federal methods are applied to income, insurance companies and financial institutions, whose tax bases are not computed on income, may not use these methods. Although taxpayers using an alternative method may pay what is owed based on the income generated for that quarter, the annualized or adjusted seasonal method total estimated payments must equal or exceed 85 percent of the total tax liability for the year. A taxpayer that elects to use an alternative method must complete the annualization worksheet, Part 4 of Form 4899, and file it with the annual CIT return. If the form is not included with the return, penalty and interest will be computed based on 85 percent of total liability applied equally over the four quarters of business activity unless the prior year safe harbor applies. Penalty and interest will be charged to each quarter that does not meet the quarterly amount due.

The Annualized Income Installment Method (AIIM)

Many times, businesses will have seasonal income or recognize income that is not consistent throughout the year. Because of cash flow issues, many businesses may not be able to meet quarterly tax estimates. AIIM is a method that allows businesses that have seasonal and inconsistent income flows to calculate the amount of taxes payable during a tax year based on uneven cash flows. AIIM allows a taxpayer to determine any underpayment or overpayment during a quarter. It helps avoid liquidity issues described above. Following are terms used in computing the estimated payment under the annualized method.

Annualization Schedule: Depending on cash flows, a taxpayer may choose from a standard annualization schedule or two optional schedules. Each schedule defines the number of months in each period used to calculate the implied annual income. The following table summarizes the standard schedule and two available options. The option election is made on federal Form 8842. CIT taxpayers must consistently follow the option elected for federal purposes.

Applicable Percentage (AP): The applicable percentage is the percentage applied to the tax determined based on the annualized income related to a particular quarter. The percentages defined in 26 CFR 1.6655-2(c)(1), are Q1 25 percent, Q2 50 percent, Q3 75 percent, Q4 100 percent. These percentages will determine the total tax due for the quarter.

Taxable Income (TI): Taxable income is the actual income earned during the months within each period of the annualized schedule selected. The income is annualized using the annualization schedule option selected. Tax is calculated on the annualized income.

Annualized Income (AI): Depending on whether a taxpayer selects the standard schedule or one of the two options, a taxpayer will compute annualized income using the formula below:

Annualized Income = (12 / Number of Months) x Taxable Income

Tax: Tax is determined by applying the CIT tax rate to the annualized income calculated above. The tax is reduced for any deductions that may apply.

Total Due: The amount of the annualized tax due that must be paid on account for the quarter. This amount is computed by applying the applicable percentage to the tax computed on the annualized income. The excess or deficiency is carried over to the next period’s required installment.

Quarterly Estimate: The estimated quarterly payment due is the amount of Total Due less prior Quarterly Estimates paid.

Example 9:* Assume the taxpayer is a standard CIT taxpayer that elects federal AIIM Option 1, 2-4-7-10 method.

*Example based on 26 CFR 1.6655-2 AIIM methodology applied using the 6 percent CIT tax rate. Calculations are rounded to whole numbers.

In the example above, the quarterly required estimated payments are reflected. Subsequent quarterly payments must account for the actual payments made each quarter thus, adjustments to the payment due are based on the excess or deficiency in the previous period. Interest and penalty will be due for any estimated quarterly payment that is less than the required payment until the deficiency for prior quarters has been satisfied. For actual payments that exceed the quarterly estimate due, the excess will be carried forward to the next quarter and reduce the payment due.

Adjusted Seasonal Installment Method (ASIM)

A corporation can use the ASIM method only if the corporation’s base period percentage for any 6 consecutive months is 70 percent or more of taxable income based on the average from the prior three years. 26 CFR 1.6655-3(b), (d). Typically, the base period percentage uses the 6-month period that the corporation normally receives the largest part of its taxable income during the tax year. The base period percentage for the six consecutive month period is calculated using the average of the three prior year percentages for the corresponding period. Each prior year’s percentage is computed by dividing the business income, for the corresponding 6 consecutive month period, by that year’s total business income.

Example 10: Taxpayer has a 2023 calendar tax year and receives the largest part of its taxable income during the 6-month period May through October. To compute its base period percentage for this 6-month period in 2023, the taxpayer computes its taxable income for each May–October period in the prior three years – 2020, 2021, and 2022. It then divides the taxable income for each May–October period by the total taxable income for that particular tax year. The resulting percentages are 69 percent (0.69) for May–October 2020, 74 percent (0.74) for May–October 2021, and 67 percent (0.67) for May–October 2022. Because the average of 69 percent, 74 percent, and 67 percent is 70 percent, the base period percentage for May–October 2023 is 70 percent. Therefore, the taxpayer qualifies for the ASIM for computing its 2023 estimated tax payments. If the taxpayer elects and pays its federal estimated taxes using the ASIM, this method may be used for computing estimated payments under the CIT.

The ASIM estimated quarterly payment amount is determined using the following steps:

(1) Start with the taxable income for all months during the taxable year preceding the filing month (filing month is the month the estimate is due).

(2) Divide the amount from step 1 by the base period percentage for all months during the taxable year preceding the filing month (estimated annualized taxable income.)

(3) Determine the estimated CIT tax (amount determined under step (2) x 0.06); and

(4) Multiply the tax computed under step (3) by the base period percentage for the filing month and all months during the taxable year preceding the filing month.

Example 11: Taxpayer, a calendar year filer, has a base period percentage of 70 percent and elects to use the ASIM and pay its federal estimates. The taxpayer is calculating its first CIT quarterly estimated payment due April 15, 2023. Therefore, the taxpayer will look to the taxable income earned in January through March 2023 equaling $1,930,000. Based on 2020-2022 tax filings, taxable income for the first three months of each year divided by total taxable income for each of those years results in an average tax base percentage for the months preceding the filing month equal to 0.5642. Assume that in the fourth month, the filing month, the average tax base calculation is 0.7048. The estimated annualized taxable income for the first quarter of 2023 is $3,420,773 ($1,930,000/0.5642). Estimated CIT tax on the annualized income is $205,246 ($3,420,773 x 0.06). Multiplying the estimated annualized tax, $205,246 by the base period percentage for the filing month and all months during the taxable year preceding the filing month, 0.7048, results in a required estimated payment of $144,658.

Taxpayers will use these steps to compute the estimated payments for subsequent periods. Subsequent quarterly payments must consider the actual payments made, thus, adjustments to the payment due are based on the excess or deficiency in the previous period. Interest and underpayment penalty will be due for any estimated quarterly payment that is less than the required payment due until the deficiency for prior quarters has been satisfied. For actual payments that exceed the quarterly estimate due, the excess will be carried forward to the next quarter and reduce the payment due.

ESTIMATED PAYMENT APPLICATION

Estimated tax payments must be received by the due dates described above. MCL206.681(2). In the case of any underpayment of estimated tax by a taxpayer, underpaid penalty and interest will be assessed on the unpaid estimate amount. MCL206.681(3). The underpaid amount is the required estimated tax installment due, that exceeds any amount of the installment paid on or before the due date plus any carryover of excess prior period payments applied. Id. The period of the underpayment runs from the due date for the required quarterly installment to the earlier of the payment of the tax liability with the return or, the date on which the underpayment is paid. Treasury will apply a payment of estimated tax against unpaid deficiencies in the order in which the installment was required to be paid. Penalty and interest will accrue on the unpaid estimated tax from the due date of the payment until the deficiency is satisfied.

Example 12: Taxpayer makes a Q1 payment that is underpaid by $100. The Q2 estimated payment covers the Q2 estimated payment amount. The Q3 estimated payment is greater than the estimate due and is sufficient to cover the Q1 underpayment. Treasury will apply $100 from the Q2 payment and apply it to the deficiency in Q1. The Q3 payment would first be applied to satisfy the Q2 deficiency, and the excess would be credited to the Q3 required payment. Penalty and interest are calculated up to the date that each quarter is sufficiently paid. The penalty and interest for Q1 is computed from the Q1 due date until the Q2 payment is received. The resulting Q2 deficiency penalty and interest is computed from the Q2 due date until the Q3 payment is received that satisfied both the Q2 deficiency and the Q3 estimated tax due.

CALCULATING PENALTY AND INTEREST

Taxpayers that fail to make required estimated payments or underpay the required amount are subject to penalties and interest. The Revenue Act, MCL 205.24, provides that penalty and interest shall be added to the tax due and continue until paid. In pertinent part, subsection (2) provides:

(2) Except as provided in subsections (3), (6), and (7), if a taxpayer fails or refuses to file a return or pay a tax within the time specified for notices of intent to assess . . . issued after February 28, 2003, a penalty of 5 percent of the tax shall be added if the failure is for not more than 2 months, with an additional 5 percent penalty for each additional month or fraction of a month during which the failure continues or the tax and penalty is not paid, to a maximum of 25 percent. In addition to the penalty, interest at the rate provided in section 23 for deficiencies in tax payments shall be added on the tax from the time the tax was due, until paid. . . .

Interest accrues from the time the tax is due until payment is made. The rate is adjusted on July 1 and January 1 and is published on Treasury’s website in RABs. See, for example, Revenue Administrative Bulletin 2023-17. Taxpayers must use current rates for the periods the estimates are due. Penalty of 5 percent of the tax due is assessed for the first two months and increases by an additional 5 percent per month or fraction thereof, after the second month, to a maximum of 25 percent. MCL 205.24(2). For more information regarding penalties generally, see Revenue Administrative Bulletin 2022-24.

Example 13: Taxpayer, a calendar year taxpayer, makes quarterly federal estimates. For the CIT, to avoid penalty and interest, the taxpayer is required to make estimated payments for 2022 totaling $200,000 (85 percent of annual liability). Equal quarterly payments of $50,000 are due April 15, July 15, October 15, and January 15, 2023. Because of cashflow issues, taxpayer does not make payments for the first three quarters. Taxpayer files a timely Q4 return and remits $200,000 on January 15, 2023. The $200,000 payment is applied in the order in which the installment was required to be paid. The Q4 deficiency was paid April 15, 2023. Penalty for failure to file and interest is computed as follows:

Finally, taxpayers are advised to note that an extension of time to file a CIT return, is not an extension of time to file and pay estimated CIT taxes by the statutory due dates.