Grajales v. Commissioner

In Grajales v. Comm’r of Internal Revenue, the United States Court of Appeals for the Second Circuit addressed whether the ten percent exaction under Section 72(t) (Exaction) is considered a “tax” or an “addition to tax” within the meaning of Section 6751(c). Kirgizia Grajales (Grajales) appealed the United States Tax Court’s ruling that the Exaction was a tax, and not an addition to tax. The appellate court upheld the Tax Court’s decision.


In 2015, at age 42, Grajales borrowed funds from her pension account. Afterwards, she and the Commissioner of Internal Revenue (Commissioner) received a Form 1099-R reflecting $9,025.66 in gross distributions. When Grajales filed her 2015 tax return, she did not report any distributions from her pension plan as income. In July 2017, the Commissioner issued a notice of deficiency to Grajales for the 2015 tax year since she did not report any distributions. The notice stated that Grajales had an income tax deficiency of $3,030.00 and she was subject to the Exaction in the amount of approximately $902.00. Grajales petitioned the Tax Court to re-determine her income tax deficiency.

The Commissioner and Grajales eventually agreed that only $908.62 of the distribution was taxable as an early distribution, and therefore Grajales’s potential liability for the Exaction was $90.86. Grajales argued that she was not liable for the Exaction because the Exaction was an addition to tax within the meaning of Sections 6751(b) and 6751(b) required the Commissioner to obtain written supervisory approval for its initial determination of the Exaction. The Commissioner acknowledged that no written supervisory approval was obtained. Nevertheless, the Commissioner countered that no written supervisory approval was needed since the Exaction was a tax and not a “penalty,” “addition to tax,” or ” additional amount” within the meanings of Section 6751(b) and (c).

The Tax Court determined that the Exaction was a tax, and thus Grajales was liable for the Exaction despite the fact that no written supervisory approval was obtained. Grajales appealed the Tax Court’s determination.


The appellate court considered several arguments brought by Grajales. Grajales argued that the plain language of Section 72(t) indicates that the Exaction is not a tax since the Exaction is an amount added to regular income tax and is not calculated like regular income tax. The appellate court agreed with the Commissioner that the unambiguous language of Section 72(t) considered in the context of the Internal Revenue Code established that the Exaction is a tax. The appellate court reasoned that when Section 72(t) states that the “taxpayer’s tax . . . shall be increased by an amount equal to ten percent,” it signals that the taxpayer’s tax becomes greater and does not transform the additional amount into something different. Furthermore, the appellate court noted that the Internal Revenue Code includes numerous types of income taxes that are calculated differently from the regular income tax found in Section 1.

Grajales then argued that the function of the Exaction is to penalize, and therefore the Exaction is not considered a tax because it functions as penalty. The appellate court responded that categorizing the Exaction as a penalty would conflict with the statute’s plain language. The appellate court explained that its threshold inquiry is deciphering a statute’s form, and it only takes a functional approach when the text of the statute is ambiguous. Accordingly, the appellate court rejected this argument since it determined that the language of Section 72(t) is not ambiguous. Grajales attempted to use a Supreme Court case and several bankruptcy cases to strengthen her argument that the Exaction’s penal purpose proves that it is a penalty; however, the appellate court found that these cases were inapplicable since Grajales’s appeal presented no constitutional issues or connection to a bankruptcy proceeding.


The appellate court rejected all of Grajales arguments because it determined that the statute’s language was unambiguous. Thus, the appellate court affirmed the Tax Court’s decision and held that the Exaction on early distributions from a qualified retirement plan is a tax and not a penalty, addition to tax, or additional amount subject to written supervisory approval.

This article first appeared in the February 2023 Edition of the Estate Planning Journal.

Frank Baldino is an estates and trusts attorney who helps people throughout the greater Washington, DC area protect assets for their families and future generations through careful estate tax planning. For more information, contact Frank at (301) 657-0175 or [email protected].