Trust Fund Recovery Penalties Flashcards
What are Trust Fund Recovery Penalties under IRC 6672?
IRC § 6672 allows the IRS to recover “trust funds” withheld from an employee’s pay from “any person required to collect, truthfully account for, and pay over any tax imposed” and “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.”
The employer is deemed to be holding these funds in trust for the U.S. Government.
The penalty is joint and severable and is referred to as a “100% penalty” which means that the entire amount can be recovered against anybody determined to be a “responsible person” who willfully fails to collect and pay over such tax.
What are trust funds?
Trust funds are the 7.65% of the Social Security and Medicare tax withheld from an employee’s pay and any income tax withheld from the employee’s pay.
They do not include federal unemployment taxes, the employer’s match of the 7.65% for Social Security and Medicare taxes, or accrual of interest and penalties of the employer (which often are quite substantial).
What are the 2 elements to be responsible for 6672?
- Responsible person for paying the taxes
2. Willfulness
What are the requirements for responsible person for paying the taxes element for 6672?
- Broad, functional test; doesn’t matter what your title is; what matters is what your job is in the company; encompasses anyone responsible for collecting, for accounting and paying over taxes to the government; anyone who has ability to pay payroll tax or can take direction
- Ability to sign checks is significant – if yes, then very important
- Examples: Sole Proprietors, Partners, Bookkeepers, Accounting firms, Parent companies, Lenders/Creditors, Purchasing companies
- Lenders and creditors = if you know about the company you’re lending to being behind in employment tax and you give then money anyway = there’s limited amount of liability to the lender
What are the requirements for willfulness for paying the taxes element for 6672?
- Though an individual may have failed to collect and pay over trust fund taxes, he or she will not be deemed a responsible person unless the IRS can show the failure to collect and pay over the trust funds was willful.
- Willfulness exists where “money withheld from employees as taxes, in lieu of being paid over to the Government, was knowingly and intentionally used to pay the operating expenses of the business, or for other purposes.” Revenue Ruling 54-158.
- This is different than criminal willfulness – no “Cheek” defense.
No Cheek defense = personally believed that what he was doing was correct. It doesn’t matter what you thought, your intentions were, etc
- Mistaken belief that other creditors have priority is not a defense.
- Insufficient funds to pay both employees and taxes is not a defense.
- While mere negligence is not enough, willful blindness is sufficient.
- Here, not that you were trying to commit a crime
- It just means that you know you paid someone other than the IRS when employment taxes were due (no other motive required)
What are the rules for tax-exempt organizations?
No trust fund penalty liability if:
- Unpaid, volunteer member of any board of trustees or directors of an organization;
- Serves in an honorary capacity (not there everyday);
- Does not participate in the day-to-day or the financial operations of the organization; and
- Does not know of the organization’s failure to remit the trust fund taxes.
What are the joint and several liability rules?
- Anyone responsible is jointly and severally liable for the tax.
- Each responsible taxpayer has a right of contribution from the other responsible parties.
- The IRS may disclose to anyone determined to be a responsible person who else is responsible, what collection action was taken and how much the IRS collected.
- Note that there is no requirement to collect from the employer first!
- IRS exception – if you are being assessed trust fund assume the – IRS entitled to tell you to who else did they try to collect from anyone else
- You have right to find out what IRS is doing for other taxpayers
- If they can get payment from someone else – can get off the hook
- However, there’s right of contribution – means that others who were required to pay can sue the other people to get their money back ***
What is the third party liability rule under 3505?
- Third parties may become responsible for the trust fund taxes if they loaned money to cover net payroll. This may occur when the business cannot cover net payroll so a spouse or other family member loans the company the net payroll so the employees can be paid. That spouse or family member may be deemed to be a responsible person and liable.
- Must have actual notice or knowledge that the employer will not make timely payroll deposits of the withholding taxes.
- Liability is limited to 25% of the funds supplied.
