Employers who fail to properly withhold and pay employment taxes may be held personally liable for a portion of the unpaid payroll taxes, referred to as “trust fund taxes.” The trust fund portion consists of the federal income tax withheld from the employees’ wages and the 50% of FICA withheld from the employees’ wages. These taxes are referred to as trust fund taxes because they are held in trust for the government. To discourage taxpayers from using this money to pay other business expenses, the government is permitted to collect the trust fund taxes from certain persons via the “Trust Fund Recovery Penalty.” While this is referred to as a penalty, it is equal to the amount of the unpaid trust fund taxes.

Who can be held liable for the trust fund taxes?

Internal Revenue Code § 6672(a) provides:

“Any person required to collect, truthfully account for, and pay over any tax imposed by this title who willfully fails to collect such tax, or truthfully account for and pay over such tax, or willfully attempts in any manner to evade or defeat any such tax or the payment thereof, shall, in addition to other penalties provided by law, be liable to a penalty equal to the total amount of the tax evaded, or not collected, or not accounted for and paid over.”

Responsible Person

The Internal Revenue Manual clarifies that two elements must be present in order to assess the penalty against a taxpayer. “The trust fund recovery penalty may be asserted against those determined to have been responsible and willful in failing to pay over the tax. Responsibility and willfulness must both be established.” The Internal Revenue Manual states that “responsibility is a matter of status, duty, and authority. Those performing ministerial acts without exercising independent judgment will not be deemed responsible.” Employees who are not owners and who do not have authority to make decisions for the business should not be liable for the trust fund recovery penalty.

While a person’s title is not determinative, responsible persons are typically officers, partners, directors, or shareholders of the business. According to the Internal Revenue Manual, a responsible person has the “duty to perform, power to direct the act of collecting trust fund taxes, accountability for and authority to pay trust fund taxes, and authority to determine which creditors will or will not be paid.” A person who has authority to sign checks, has control over the financial affairs of the business, has the ability to hire and fire employees, and who prepares the payroll tax returns and makes the tax deposits is likely a responsible person.

Willfulness

As previously stated, the IRS must establish that a person is responsible and that he or she willfully failed to pay the required payroll taxes. Wilfulness is defined as a “voluntary, conscious and intentional act to prefer other creditors over the United States.”The government must show “that a responsible person was aware, or should have been aware, of the outstanding taxes and either intentionally disregarded the law or was plainly indifferent to its requirements.” If a responsible person becomes aware that withheld taxes have not been paid to the government and does nothing to correct the problem, his or her inaction may be considered willful. However, negligence does not rise to the level of willfulness.

The government must assess the trust fund recovery penalty within the later of three years from April 15 following the year in issue or three years from the date the return was filed. Revenue Officers are normally tasked with running the investigation. An important step in this process is the Trust Fund Recovery Penalty interview. During the interview, the Revenue Officer will ask various questions to determine whether the person is responsible and willfully failed to pay the tax. The Revenue Officer will record the findings on a Form 4180, Report of Interview with Individual Relative to 100-Percent Penalty Recommendation. Another part of the investigation involves the examination of bank statements, bank signature cards, and other business records. The Revenue Officer will request this information from the taxpayer or submit a subpoena to third parties. If the taxpayer does not comply, the Revenue Officer may issue a summons.

Once the Revenue Officer has reviewed the requested information, he or she will prepare a Form 4183, Recommendation re: Trust Fund Recovery Penalty Assessment. The Internal Revenue Manual requires that the Revenue Officer include a detailed summary supporting his or her recommendations for assessing or not assessing the penalty. If the Revenue Officer’s Group Manager agrees with the proposed assessment of the penalty a “Sixty-day Letter” is issued to the taxpayer. This is referred to as Letter 1153(DO). The taxpayer then has 60 days to appeal the decision prior to the tax being assessed. If the taxpayer does not appeal, the tax is assessed and the government has ten years to collect the tax. If the taxpayer files a protest with Appeals, they will attempt to reach a settlement. If a settlement is not reached, the tax will be assessed and the ten year statute of limitation on collection applies.

A business taxpayer that owes less than $25,000 in payroll taxes may qualify for an In Business Trust Fund Express Installment Agreement. A taxpayer may pay down the liability below $25,000 to become eligible. The benefit of qualifying for this type of installment agreement is that very little financial information has to be disclosed to the IRS. The liability must be fully paid within the earlier of 24 months or the Collection statute expiration date. The taxpayer must pay the installment agreement via a direct debit if the liability is over $10,000. Additionally, the taxpayer must be current with all filing and payment requirements. The IRS will not agree to an installment agreement until the taxpayer is in full compliance with the tax laws.

A business taxpayer that owes more than $25,000 in payroll taxes must submit a financial statement (Form 433-B) to the Revenue Officer along with proof of the taxpayer’s financial situation. The Revenue Officer will review the information and determine the taxpayer’s monthly ability to pay.