Deductibility of Interest
Interest and penalties paid to the IRS are not deductible on your income tax return. The IRS assesses penalties and interest to encourage voluntary compliance with IRS rules and guidelines. Interest is assessed to penalize taxpayers and prevent further infractions. It wouldn't make much sense for the IRS to turn around and refund the penalty that it assessed. The IRS allows for the deduction of mortgage and student loan interest because it encourages a behavior believed to be beneficial to the country. A deduction for interest on income tax could be seen as an encouragement to taxpayers who don't follow IRS rules.
The IRS does remove interest in rare circumstances. In cases where interest was assessed incorrectly due to a liability that was not assessed by the IRS in a timely manner, assessed on an erroneous refund, disregarded for a period of time due to a taxpayer's service in the military or due on tax that was assessed while a taxpayer was in a disaster, the IRS will consider removing the interest. To request an abatement of interest, complete IRS form 843 and mail it to the IRS office where you are required to file tax returns. If you are not sure which office processes returns for your area, consult the IRS website for a full list of service centers. Form 843 can be downloaded from the IRS website or ordered by calling 800-TAX-FORM.
According to the IRS, taxpayers should be wary of firms that propose to settle their combined tax debt (tax, penalties and interest) for pennies on the dollar. These firms charge large amounts to file an Offer in Compromise with the IRS on behalf of the taxpayer that, if approved, can lower a taxpayer's debt. There are strict criteria for the approval of OICs, however, and no outside agency can guarantee approval.