7872 - employer paid tax for me last year, now charging interest

[vmhe]

What is the name of your state?Massachusetts

Hello -

I received a bonus last year, and my employer forgot to withhold taxes on the bonus. So they paid the taxes to the IRS on my behalf, and reported on my W2 that the taxes had been paid via withholding from my income. At the time of the fake-withholding, they sent me a memo telling me what they were doing and that they would reimburse themselves this year by withholding double from my 2005 bonus.

Well, it is time for my 2005 bonus and they are not only withholding my 2004 taxes that they paid on my behalf, plus my 2005 taxes, but they are telling me I have to pay them interest on the amount of the 2004 taxes that they paid on my behalf last year. Because the amount they paid on my behalf is over $10,000, apparently interest is imputed based on IRC 7872.

My question is this - is there any way to get around my paying them interest? (The size of my 2005 bonus minus 2004 and 2005 taxes minus interest means that I actually owe them money rather than getting any payout from the bonus.)

I was never informed they'd be charging interest (in fact they themselves didn't know they had to until this year) and there is a clause in the 7872 wording that says that interest doesn't have to be paid if "taxpayer can show that the interest arrangement has no significant effect on the federal tax liability of the lender or the borrower". But I don't understand that line. Can someone help?

[url]http://www.irs.gov/publications/p535/ch05.html[/url] - under "Below-Market Loans"

Thanks!