December 2002
By JAMES S. ANCHIN, CPA
In difficult economic times like today's, companies will frequently experience cash-flow problems and must be creative to sort out cash shortfalls. This may mean drawing down on lines of credit, having shareholders contribute or loan money to the company, becoming more aggressive in receivable collections and delaying payments of amounts owed to vendors.
However, one payment that should never be delayed is an obligation to a trust fund. These include payroll taxes withheld from employees, 401(k) contributions withheld from employees and sales tax collected from customers. These payments are due at specific points in time (depending upon the amounts involved) although, as in the case of withholding taxes, the reporting of the payments to the government may not be due until later. Consequently, companies in a cash crunch may be tempted to delay the payment, or in extreme circumstances, not make the payment altogether. If you are responsible for remitting these payments to the government, or if you're in a position of authority in the company, it's critical to make sure these payments are made in a timely fashion. Failure to do so can result in stiff penalties and you may be held personally liable for the payment. That liability is not easy to escape. Resignation from the corporation before the filing date won't get you off the hook, nor, in certain cases, will selling your interest in the company.
In the case of withholding taxes, by far the largest of the trust-fund payments, the IRS can nail you on two grounds. You must be responsible for controlling and disbursing company funds and you must have acted willfully. When no one individual is responsible for the particular task of remitting withholding taxes, the IRS will usually go after officers of the corporation; but that doesn't necessarily exempt rank and file employees or the company's accounting firm, financial advisor, or any third party with control over the company's financial affairs. Although the IRS itself takes the position that employees implementing the orders of others in the company, and not authorized to make independent decisions themselves, will not incur liability, the courts have in fact ruled otherwise.
The responsibility dragnet extends far and wide and typically results in joint and several liabilities where the responsibility is shared by more than one party. Investors in the corporation with authority to write checks on the corporate account, even though they have not exercised that authority, may be considered responsible. Likewise, volunteer members of the board who participate in the company's daily operations, and know about its failure to remit trust fund taxes, may also fall under the IRS' definition of responsibility. In assigning responsibility, timing is critical and determined quarterly, so that if you become a responsible party sometime during the quarter, by the end of the quarter you may end up being liable for the entire tax period. One way to potentially reduce your responsibility: if the trust fund taxes are diverted for any reason, you should go on record as protesting the decision.
To be held liable, you would have to have acted willfullyÑmeaning, you must have been aware of the outstanding taxes and chose to pay other creditors before the IRS. However, the definition of "willful" can often become tricky. You don't necessarily have to be directly involved in remitting trust fund taxes, but, if you know about the non-payment (or even if you're uncertain about whether the taxes have been paid and haven't checked out the situation thoroughly), the IRS may consider that to be a willful failure to collect and pay the required taxes.
In collecting trust-fund taxes, the IRS plays hardball and there's very little reprieve. Lack of corporate funds will not help you avoid the penalty.
Employment taxes are actually two taxesÑthe trust fund part and the part the corporation kicks in. If you pay only part of the tax, that amount is applied to the employer's portion, leaving the IRS free to tap the responsible party (or parties) for the balance of the payment, which will almost certainly be the trust fund portion. Should you want to file an appeal, you must first pay the tax.
If you find yourself faced with a trust fund recovery liability, enlisting the support of a tax advisor can be extremely beneficial. The process can be complicated. However, there are strategies to submitting partial payments of trust fund taxes. In the event of an actual penalty, there are methods of structuring your payments that can reduce your exposure to liability. While there is a certain latitude to maneuver, one thing is certain: the IRS has and will continue to hit hard on the trust fund recovery penalty collecting employment taxes.
About the author: Mr. Anchin is a managing partner of Anchin, Block & Anchin, LLP, a regional certified public accounting firm with offices in New York City and Westchester, that specializes in meeting the needs of contractors in the tri-state area.