The four tiers
A correct deposit has three parts. IRM 20.1.4.7 lists them as made timely, in the correct amount, and in the correct manner, and a failure on any of them subjects that deposit to the penalty. The rate depends on how many calendar days the deposit was late, counted from its due date:
| Situation | Rate | Authority |
|---|---|---|
| Deposited 1 to 5 days late | 2% | IRC 6656(b)(1); IRM 20.1.4.7.1 |
| Deposited 6 to 15 days late | 5% | IRC 6656(b)(1); IRM 20.1.4.7.1 |
| Deposited more than 15 days late, or paid within 10 days of the first notice requesting payment | 10% | IRM 20.1.4.7.1 |
| Required deposit not made by electronic funds transfer (paid directly or with the return) | 10% (the avoidance penalty) | IRM 20.1.4.7.1; IRM 20.1.4.6 |
| Still unpaid more than 10 days after the first notice, or on the day notice and demand for immediate payment is given | 15% | IRM 20.1.4.17 |
The tiers do not add up. The IRS penalty page gives the example: a deposit more than 15 days late is charged 10%, not 2% plus 5% plus 10%. A tax period can carry several penalties at different rates, because each deposit is tested separately; the module penalty is “the sum of the "time-sensitive" penalty(ies) and/or the "avoidance" penalty(ies).”
The deposit rules that decide what was late
Publication 15 (2026) sets the schedule for Form 941 filers from the lookback period (the four quarters ending June 30 of the prior year):
- Monthly schedule if the lookback taxes were $50,000 or less: taxes on payments made during a month are due by the 15th day of the following month.
- Semiweekly schedule if the lookback taxes were more than $50,000: taxes for paydays on Wednesday, Thursday or Friday are due the following Wednesday; for Saturday through Tuesday paydays, the following Friday.
- $100,000 next-day rule: once $100,000 or more accumulates on any day in a deposit period, the tax is due by the next business day, for either type of depositor.
Two exceptions keep small amounts out of the penalty. Under the de minimis rule as stated in IRM 20.1.4.6, a quarterly Form 941 filer can remit with the return if total tax in the current or the prior quarter is less than $2,500. Under the safe harbor in IRM 20.1.4.8.7, no penalty applies if a shortfall does not exceed the greater of $100 or 2 percent of the amount required, and the shortfall is deposited (or, for monthly depositors, paid) by the makeup date. Weekend and legal holiday due dates roll to the next business day under IRC 7503.
Payroll services and reporting agents often hold the deposit obligation in practice, but the liability stays with the employer. The same deposit rules apply to backup withholding reported on Form 945, which is a separate deposit stream that payers frequently overlook.
Averaged penalties and the CP 207
The IRS needs a record of federal tax liability (ROFTL), meaning the monthly liability amounts reported with the return or, for semiweekly depositors, Schedule B (Form 941), to match deposits to liabilities. If the schedule is “incomplete, blank, or has a negative amount”, the IRS averages the total tax across the period, which usually produces a larger penalty than the real liability dates would.
Master File then issues CP 207 (CP 207L for averaged penalties of $75,000 or more) and holds the assessment for 15 cycles. The IRS notice page tells employers to complete a new ROFTL and mail it within 45 days of the notice date. If no usable reply is input by the 13th cycle, the averaged penalty assesses automatically; a later reply is still worked, but as a request to adjust an assessed penalty. Common reasons the IRS rejects a ROFTL, per its CP 207 page: incorrect, missing or negative entries, or a total that does not equal total tax. Report liabilities, not deposits.
Reasonable cause cannot fix an averaged penalty. IRM 20.1.4.26.1: “Reasonable cause cannot be considered or denied on an averaged FTD penalty assessment.” The IRS will first secure a valid ROFTL and recompute. Send the corrected liability schedule before, or with, any reasonable cause request.
Redesignating deposits within 90 days
By default, IRC 6656(e)(1) applies a deposit to the most recent liability within the tax period, which can leave an earlier liability unpaid and penalized at a higher tier. The statute lets the depositor choose a different application, but only “during the 90-day period beginning on the date of a notice that a penalty under subsection (a) has been imposed”. The IRM adds that a request not received within 90 days of the 23C date of a notice containing the assessment cannot be considered.
Practical points from IRM 20.1.4.26.3: more than one deposit can be designated; a first-in, first-out computation can be requested in writing or orally; the IRS reduces the penalty with penalty reason code 012; and if a redesignation would increase the penalty, the IRS explains that and does not assess the increase unless the taxpayer agrees. Run the computation before calling. The procedure covers deposits reported on Forms 720, 940, 941, 943, 944, 945 and 1042 (Rev. Proc. 2001-58).
Relief: waivers, FTA, AEP and reasonable cause
Statutory and administrative waivers
- First quarter of depositing. IRC 6656(c) lets the IRS waive the penalty for an inadvertent failure in the first quarter a person was required to deposit employment tax, if the return was timely and the person meets the IRC 7430(c)(4)(A)(ii) net worth limits (the IRM summarizes these as $2 million for individuals and $7 million for corporations and partnerships). The IRM notes the first-time-depositor penalty on Forms 941, 943 and 944 is systemically waived with an educational CP 238.
- Change in deposit frequency. The statute covers the first deposit after a change in frequency, and the IRS extended this administratively to a full abatement for that first deposit, including a change caused by the $100,000 rule. The IRM warns that a reasonable cause claim based on late notice of the change is denied if the CP 236 reminder (TC 971 AC 329) was issued.
- Former Form 944 filers. An employer that filed Form 944 the prior year is deemed timely on January deposits of its first Form 941 year if deposited by March 15.
- Deposit sent to the IRS instead of the depositary. The IRM notes the IRS may abate the penalty for a first-time failure of this kind.
First Time Abate, and AEP for quarterly returns from 2026
FTA covers the FTD penalty, with two extra business-return conditions in IRM 20.1.1.3.3.2.1: it is not met if there are four or more FTD penalty waiver codes in the three-year history, and it does not reach the part of a penalty charged for EFTPS avoidance. FTA applies to one tax period; the IRM example of a compliant Form 941 filer penalized in all four quarters of a year allows FTA for the first quarter only, with reasonable cause needed for the other three. The IRS has announced an Automatic Exemption from Penalty starting summer 2026 that applies the same history test at processing for Forms 940, 941, 943, 944, 945 and CT-1, beginning with 2026 quarterly returns, so qualifying employers will not be assessed the penalty at all. See First Time Abate.
Reasonable cause
General reasonable cause rules apply (reasonable cause guide), but the FTD statement has to match the liabilities. IRM 20.1.4.26: “If the dates or explanations don’t correspond with the penalized tax liability amounts, the taxpayer hasn’t established a valid reason to waive the penalty.” The IRS page on reasonable cause adds that lack of funds, by itself, is not reasonable cause for failing to deposit. Employers that cannot get a bank account have a specific route: a signed statement describing attempts to get banking services, supported by documentation such as a declined application, can establish reasonable cause for the EFT portion for up to 24 months (IRM 20.1.4.26.1.1).
Disasters
Disaster postponements under IRC 7508A treat deposits differently from returns. IRM 25.16.1.4.1 states payroll and excise tax deposits receive a 15-day abatement period rather than the full postponement; see disaster postponements and penalty relief.
Working an FTD penalty
- Get the account transcript and the Form 941 Schedule B or monthly liabilities as filed. Identify each liability date, deposit date and amount; the IRS's own FTDPN computation works the same way.
- If the penalty is averaged (CP 207 or an assessed averaged penalty), file a corrected ROFTL first.
- Check the de minimis rule, the safe harbor and frequency-change waivers. These are corrections, not discretionary relief.
- If the penalty notice is recent, compute whether a designation (or FIFO) lowers the penalty and send it within 90 days of the notice.
- Check FTA for one quarter, and for 2026 and later quarters whether AEP should have applied.
- For remaining penalties, request reasonable cause by phone or in writing, addressing each penalized liability. Requests may need manager approval (IRM 20.1.4.26).
- If denied, managers are the first line of appeal (IRM 20.1.4.27), then Appeals; see appealing a denial.
Two procedural notes. Under IRM 20.1.4.21.7, a manual FTD assessment needs written supervisory approval under IRC 6751(b) unless the penalty was computed by CC FTDPN or ACT/DMI InterestNet “without any independent judgement”, so an averaged or manual penalty is worth a supervisory approval check (IRC 6751(b) guide). And interest on the penalty itself runs from notice and demand only if the penalty is not paid within 21 calendar days (IRC 6601(e)(2)(A)). Unpaid trust fund taxes can also lead to the trust fund recovery penalty against responsible persons, which is a separate exposure.
For payers depositing backup withholding on Form 945, see TIN Compliance's guides to the Form 945-A averaged penalty and deposits applied to the wrong form or year.
Questions practitioners ask
Why is the penalty higher than 2% when the deposits were only a few days late?
Usually because the IRS averaged the liability (no valid Schedule B or monthly breakdown), applied deposits to the most recent liability under IRC 6656(e)(1), or charged the 10% avoidance rate for amounts paid with the return instead of by EFT. A corrected ROFTL and a designation within 90 days fix the first two.
Can we ask the IRS to apply deposits first-in, first-out?
Yes. IRM 20.1.4.26.3 allows a FIFO computation to be designated in writing or orally, within the 90-day designation window that starts on the date of the penalty notice.
Is FTA available for all four quarters of a bad year?
No. FTA applies to a single tax period. In the IRM example, a Form 941 filer with a clean prior history gets FTA for the first penalized quarter only; the other quarters need reasonable cause.
Will reasonable cause remove an averaged penalty?
Not until the liability is known. IRM 20.1.4.26.1 says reasonable cause cannot be considered or denied on an averaged assessment; the IRS secures a valid ROFTL and recomputes, and only then evaluates reasonable cause for any penalty that remains.
Does AEP apply to 2025 Forms 941?
The IRS says AEP applies to 2026 quarterly returns and later. For 2025 and earlier quarters, FTA still has to be requested.
Is a payroll provider's failure reasonable cause?
The IRS reasonable cause page says reliance on a tax professional generally does not qualify, because the taxpayer remains responsible. The facts still matter, but expect the IRS to ask what the employer did to monitor deposits.