The federal government requires that all businesses with employees withhold payroll taxes from each employee’s gross pay. These taxes, which include Social Security, Medicare, and federal income taxes, are deemed to be held by the employer “in trust” for the federal government, until the employer pays the taxes to the government each quarter. Payroll taxes are a huge burden, and can be problematic for businesses experiencing cash flow problems. When money is tight and the utility bills are due, the taxes that are supposed to be paid over to the federal government often become a lower priority. If left unpaid, trust fund taxes can be assessed against individuals who might otherwise be shielded from a company’s liabilities. The IRS is authorized to impose what is known as the Trust Fund Recovery Penalty (TFRP) on any responsible person as set out in Section 6672 of the Internal Revenue Code. This penalty is equal to the share of the employees’ payroll taxes that the business owes the IRS.
The IRS definition of responsible person is very broad— it applies to any person whose duty is to pay trust fund taxes who willfully fails to do so. A responsible person could be an officer, director, employee, or shareholder of a corporation, or a manager, employee, or member of an LLC. The term can also apply to more than one person.. Any person who has control of a business’s financial affairs, or controls payment of funds by the business, could be targeted for the TFRP.
In deciding if a person is a responsible person, the IRS considers all the facts and circumstances. Factors the IRS considers in making its determination include the individual’s ability to:
- sign checks on behalf of the business
- hire and fire employees
- determine which creditors are paid
- sign tax returns
- manage payroll
- make federal tax deposits.
The IRS will assess each of these factors to determine a person’s control over the payment of trust fund taxes.
What can you do if the IRS determines you are a responsible person, and thus subject to the penalty for nonpayment of trust fund taxes? You can challenge a TFRP assessment if your duties were ministerial, or if you lacked the ultimate authority to make financial decisions for the business. If, for example, you could sign checks and pay bills for the company, but were told by a supervisor which creditors to pay when the company had insufficient funds, it is unlikely the IRS would deem you a responsible person for purposes of the TFRP.
Even if the IRS has determined that you are a responsible person, you may be able to challenge the assessment if your failure to collect or pay taxes was not willful. For purposes of the TFRP, “willful” means intentional, deliberate, voluntary, reckless, or knowing. In other words, willful means that your failure to withhold or pay over trust fund taxes was not accidental. Your conduct will be deemed willful if the IRS can demonstrate that you were aware, or should have been aware, of the obligation to pay trust fund taxes and you showed an intentional disregard or indifference to the law.
Because the IRS aggressively enforces the TFRP, there are important facts you should know about it:
- If you are liable to pay the penalty, the obligation to pay cannot be discharged in bankruptcy.
- The IRS can collect the penalty from you, from other persons, and from the business all at the same time, until the liability is paid in full (often, the original company is no longer in business, so the IRS can only collect from responsible persons)
- If you are found liable, the IRS may demand the entire balance from you, but you may be able to seek contribution from other responsible persons
Disputing your liability for the TFRP requires an intensive analysis of the facts. If you receive a notice from the IRS proposing an assessment of the Trust Fund Recovery Penalty, act quickly to protect your rights; contact an attorney as soon as possible.
If you’ve already been assessed with a TFRP, you still have options and may be able to limit your exposure to aggressive IRS collection tactics. In either case, regardless of where you are in the process, look for someone familiar with the Internal Revenue Code, who also knows IRS assessment and collection procedures.