Businesses often succumb to the temptation to use taxes withheld from employees wages to manage cash flow problems. These “government loans” can prove to be quite costly. Hart v. Commissioner, 19120-12 provides an example.
Facts & Procedural History
The taxpayer worked for a real estate firm. The firm did not pay its payroll taxes. The IRS responded by assessing a trust fund recovery penalty against the taxpayer.
The taxpayer did not file a protest to contest the assessment. However, she did file a collection due process hearing request after the IRS attempted to collect the penalty from her. The IRS would not let her challenge the penalty during the hearing.
While the appeal was pending, the taxpayer obtained a judgment against the owner of the real estate firm in the amount of the penalty assessed against her.
The taxpayer asked the IRS to hold the collection appeal to give her time to execute her judgment against the real estate firm. The IRS refused to do so. Litigation ensued.
The trust fund taxes were paid by the time the court considered the taxpayer’s case. But the taxpayer had not yet been able to collect on her judgment against the real estate firm owner.
About Trust Fund Taxes
Employers are generally required to withhold federal income taxes and the employee’s share of FICA taxes from an employee’s wages. These funds are often referred to as “trust fund” taxes.
Employers are required to remit trust fund taxes to the government and they are fully liable if the taxes are not timely remitted. Moreover, the employer and the “responsible persons” are jointly and severally liable for a 100% trust fund recovery penalty (TFRP) if the taxes are not timely remitted.
Generally “responsible persons” include anyone who has the ability to make financial decisions for the business, including owners, managers, and even lesser employees, such as bookkeepers.
Trust Fund Penalty Disputes
When trust fund controversies arise involving responsible persons who are not the business owners, the non-owners may be tempted to turn over or disclose employer records or assets or even identify other responsible persons and their personal assets.
This is often a viable strategy because it is the IRS’ policy to assess the trust fund penalty on multiple taxpayers, but to collect the trust fund tax only once. By identifying other responsible persons and their assets the informer may be able to avoid paying the TFRP personally.
Non-owner employers may also find this course of action necessary to prevent the employer from taking steps to shift the tax liability to the non-owner employee.
There are a number of ways that employers try to shift the liability to non-owner employees. For example, employers may promise to pay the tax by entering into a settlement agreement or an offer-in-compromise for less than the full amount of tax owed. In the event that the settlement or offer is accepted it is likely that the IRS will then pursue the non-owner employee for remainder of the unpaid tax liability.
Similarly, employers may promise to pay the tax by agreeing to an installment agreement with the sole aim of buying time to conceal assets. Once the assets are sufficiently concealed the employer may simply go out of business, leaving the non-owner employee on the hook for the remaining unpaid taxes.
Employers may also attempt to halt the IRS’s collections efforts with the aim of encouraging the IRS to pursue the employee before the assessment and/or collections statute of limitations expires as to the employee. Employers may be able to do this by seeking a collections due process (CDP) hearing at a time when the CDP hearing will not begin before the assessment and/or collections statute of limitations for the employee runs.
Employees Can Fight Back
But savvy non-owner employees are not helpless in these situations. They can fight back by taking steps to halt the collection process against themselves or by agreeing to extend the tax assessment or collection period against themselves so that the IRS is not under a time constraint to collect the tax from them before the deadline expires.
Moreover, they may even pursue civil suits against the business and the business owner for recovery of the taxes that they paid or will have to pay.
These types of procedural battles are often inevitable due to the business and the business owner undergoing financial difficulties and the non-owner employees not wanting to pay the businesses tax liability personally.
Perhaps this would be different if the business or business owner was in position to simply agree to pay the trust fund and/or the TFRP. But the business’s financial difficulties are typically why these types of disputes arise in the first place.
These disputes involve multiple taxpayers each of whom pursue multiple tax and non-tax administrative and judicial remedies. These tax disputes can play out over more than a decade. In the end, these types of procedural battles are lengthy and costly for all parties involved, often result in the government not collecting the taxes that are owed, and take up too much of the IRS’s and the courts’ limited resources.