The fines, which can reach $300,000 a year, were an unintended consequence of a 2004 law aimed at big corporations that use the shelters to avoid taxes. Lawmakers asked the Internal Revenue Service last month to suspend collections while they work to change the law.
The IRS agreed to suspend collections through September on cases in which businesses gained less than $200,000 a year from the tax shelters, IRS Commissioner Doug Shulman said in a letter to lawmakers released Tuesday.
Shulman said the penalties, in some cases, "are way out of line with penalties for other similar cases of noncompliance."
"Many of the transactions now under examination involve tax benefits that are minor when compared to the statutory penalty amounts," Shulman said in the letter.
The existing law imposes reporting requirements on businesses and individuals who use tax shelters that the IRS has identified as abusive. The goal is to red flag these "listed transactions" so IRS agents can more closely examine them.
The penalties for failing to disclose the transactions on tax forms are $100,000 a year for individuals and $200,000 a year for businesses. Taxpayers who use the tax shelters for both individual and business purposes face penalties of $300,000 a year.
The penalties cannot be appealed, National Taxpayer Advocate Nina Olson said in her 2008 annual report. Olson, an independent watchdog within the IRS, cited a case in which a small business owner saved $45,000 over three years from a tax shelter and was fined $900,000 by the IRS.
Lawmakers from both parties said they will work to change the law to make the penalties more in line with the offenses.
"This penalty has unfairly punished far too many small businesses, many of whom are feeling the crunch of this economic downturn more acutely than other sectors of the economy," said Rep. John Lewis, D-Ga., chairman of the House Ways and Means Oversight subcommittee.
Rep. Charles Boustany, R-La., the top Republican on the subcommittee, said he will work with Lewis to change the law while collections are suspended.
"As our economy continues to recover, small businesses lead the way, and today's announcement by the IRS ensures those same small businesses are not disproportionately penalized," Boustany said in a statement.
By Associated Press Writer Stephen Ohlemacher