Background:
Many taxpayers assume that forming a business as a separate entity will shield them from personal liability from tax liabilities generated by the business. While this is true for many types of taxes that a business may incur, it is not the case when it comes to employment and income taxes that the business is required to collect and remit to the IRS on behalf of its employees. As the funds withheld from employees do not belong to the business but are rather being held in trust by the business prior to being deposited with the IRS, the IRS refers to these taxes as “trust fund taxes.” Because a failure to deposit these trust fund taxes involves the misappropriation of others’ funds, the IRS aggressively pursues the collections of these funds and has been granted special tools by Congress in order to do so.
If a business collects trust fund taxes from its employees but does not remit those taxes to the IRS, the IRS has the authority to assess a Civil Penalty under Section 6672 of the Internal Revenue Code against anyone at the business deemed to have been both responsible for the collection and remittance of the trust fund taxes and wilfully failed to carry out their duty to do so. This Civil Penalty is commonly referred to as the “Trust Fund Recovery Penalty,” or “TFRP.” Generally the amount assessed as a Civil Penalty under §6672 is equal to the amount of income tax withheld from employees but not remitted as well as the “employees’ portion” of Social Security and Medicare taxes withheld but not remitted, which typically represents half of the total amount of the employment taxes that the business is responsible for depositing.
Who Can Be Held Responsible for and for How Much?
The TFRP is assessed as a joint and several liability against any person involved in the business that the IRS believes meets the requisite levels of responsibility and willfulness. The IRS will conduct what is known as a 4180 interview with anyone at the company they suspect may be able to be held responsible for the TFRP. Responsibility usually rests with a determination regarding whether a particular person had the ability to exercise independent judgment with respect to the financial affairs of the business in question. The IRS will consider a number of factors in making this determination, such as a person’s title and role at the company and whether that person had check signing authority over the company’s bank accounts. To show willfulness, the IRS generally must demonstrate 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. Third-party contractors such as accountants or payroll providers, while not employees of the business in a strict sense, may nevertheless be assessed the TFRP for a business’s failure to deposit trust fund taxes if it can be shown that they meet the requisite levels of responsibility and wildfulness.
Because it is a joint and several liability, the full amount of the TFRP can be collected against any person against whom the assessment was made, however the IRS cannot collect more in aggregate than the total amount owed from any of the parties involved. It is helpful to think of the TFRP as a tool the IRS to expand the pool of persons from whom it can collect the business’s tax liability; it does not allow to the IRS to collect any additional taxes that the business does not already owe. In practice, what this means is that any payment that is made by any person responsible for the TFRP or by the business against the Trust Fund portion of the liability will reduce the amounts owed by the other parties involved.
Strategies for Trust Fund Tax Liabilities:
When businesses fail to deposit employment taxes, they typically fail to deposit both the employees’ portion and the portion for which the employer is solely responsible for paying. As only the employees’ portion can be assessed personally through the TFRP, this usually results in a situation where the TFRP assessed against responsible parties is less than the total employment tax liability owed by the business. For this reason, it is often advisable for a business that is making voluntary payments towards an employment tax liability to designate any voluntary payments made specifically towards the “Trust Fund Portion” of the tax. In doing so, they’re ensuring that every dollar that is sent towards the back taxes is reducing the amount that can be collected from those responsible for the TFRP.
If a business is still operating and cannot afford to quickly pay off its employment tax liability, it has a few options for attempting to resolve the balances with the IRS.
In-Business Trust Fund Express Installment Agreement: If the business owes less than $25,000 and can agree to a payment plan that will provide for a full repayment of the liability in 24 months or less, they can request what’s known as an In-Business Trust Fund Express Installment Agreement (IBTFE IA) from the IRS. The primary benefits of an IBTFE IA are that the business is not required to completed a Collection Information Statement, and the IRS will generally hold off on making any TFRP assessments against responsible parties as long as the business meets the terms of the agreement.
In-Business Trust Fund Installment Agreements: Business that owe over $25,000 in trust fund taxes will generally need to complete a Collection Information Statement (Form 433-B) in order to establish a formal installment agreement with the IRS. Depending on the size of the liability, the IRS may not have to review the financial disclosure provided the business can agree to repay the liabilities in 5 years or less. In addition, if the business can agree to repay the liability in full at least one year prior to the time period for the IRS to make a TFRP assessment, they will usually refrain from making a determination to assess the TFRP so long as the business complies with the terms of the agreement. While this usually means a rather aggressive repayment plan, a taxpayer can opt to consent to extend the assessment statute in order to avoid a TFRP assessment. Finally, even if the business cannot commit to paying off the trust fund tax liability prior to the expiration of the IRS’s time period to assess the TFRP, the IRS may agree to make the assessment of the TFRP but put collection efforts on hold while the business is paying of the liability through the installment agreement.
Offer in Compromise: While a business can compromise its trust fund tax liability through the IRS Offer in Compromise program, the IRS is very reluctant to compromise a trust fund tax liability for an operating business is perhaps. The idea is that the IRS does not want to provide an incentive for companies to short-change their payroll taxes and in doing so gain an advantage on their competition in the expectation that they will be able to compromise the taxes at a later date. In addition, it is important to keep in mind that if the business’s OIC is not in an amount sufficient to fully satisfy the trust fund portion of the balance, the IRS can still pursue the collection of the remainder from those that have been assessed the TFRP. Many businesses that submit Offers for employment tax liabilities do so as periodic-payment offers, as this allows the installment payments submitted while the Offer is under consideration to be directed towards the trust fund portion of the balances, which provides a business with the ability to pay down the trust fund portion of the liability while pursuing a compromise of the remaining portion.
If you’ve been assessed the Trust Fund Recovery Penalty Personally, the tools available to you for resolving the liability are largely the same available to taxpayers looking to resolve income tax balances with the IRS. In fact, if you also have income tax liabilities, you’ll need to resolve both assessments concurrently under one agreement. There are a number of considerations that come into play when dealing with TFRP assessments that may not come into play when resolving most income tax balances however. For example, it’s quite likely that the IRS has made assessments against multiple responsible parties, so spreading out the repayment of the taxes may be in your best interest if it means the IRS will end up collecting more of the penalty against the other persons jointly responsible for the penalty. In addition, a TFRP assessment often results in a situation where one spouse is dealing with an assessment for which the other spouse is not liable. This can complicate matters considerable, especially when the spouses are jointly liable for income tax balances.
Conclusion:
Dealing with a trust fund tax liability often requires a multifaceted approach, as the IRS will be pursuing multiple angles of collection simultaneously. While it is relatively rare for the IRS to pursue a taxpayer criminally for failure to pay their taxes, because they view a failure to deposit trust fund taxes as paramount to theft from one’s employees, the rate of criminal prosecutions associated with trust fund tax liabilities far exceeds those for other tax types, especially when the IRS views a taxpayer as a pyramider or habitual under-depositor of payroll taxes. As a result, if you’re dealing with a trust fund tax liability, it is important to resolve the balance quickly and effectively, both on behalf of the business as well as any personal Civil Penalty associate with the business’s failure to deposit.