Small Business Owner? Behind on Payroll Tax? You may be committing a Federal Crime.

bigstock-A-list-of-withholding-taxes-fr-7373728The Internal Revenue Code (IRC) at 26 U.S.C. Sect. 7202 makes the willful failure to collect, account for, and pay over employment tax a felonySee 26 U.S.C. Sec. 7202.

26 U.S.C. Sect 7215 makes it a misdemeanor for simply failing to pay the money collected.

Yes…it is a misdemeanor to collect FICA and Income Tax from your employee and not send it the IRS.

Fortunately the IRS doesn’t a make this crime a priority because it is under-staffed.

Yes…it is a felony to willfully fail to collect, account for or pay it to the IRS.

And yes…the IRS focuses it criminal effort on the felony cases and routinely charges small business owners with a crime under 26 U.S.C. Sect. 7202.  When it does, it also routinely gets convictions.

A few very recent examples:

In July, Michael and Laurie Russell of Hickman Nebraska were sentenced to 16 months and 6 months, and ordered to pay restitution to the IRS of more than $311,000.00.  They were convicted of “failing to pay that amount in tax and withholdings of their employees for 2006 when they owned North County Windows Inc. of Lincoln”.  See www.omaha.com/article/20130731/NEWS/130739695/1707

Last month, a man from Bear, Delaware was sentenced to 30 months after he plead guilty to keeping money withheld from his employees’ payroll taxes.  See www.delaware1059.com/story.php?id=4628

In October here in Arizona, the Lam Brothers plead guilty to charges that included evasion of payroll taxes.  See http://www.myfoxphoenix.com/story/23834491/2013/10/30/2-az-brothers-plead-guilty-to-tax-payroll-charges

If you are a small business owner and if you are having some payroll tax problems, you should be aware of a few things:

1.              The duty to collect and pay falls on the employer

The duty to collect the tax from the employee, account for it, and to make sure the IRS gets the money, falls on the employer.  It can’t be delegated away to someone else.  This doesn’t mean that you have to calculate the payroll and drop the check in the mail yourself…it just means that you need to make sure it is being done right.

2.              The duties to withhold, account for, and pay aren’t separable

The breach of any one of these duties is an offense under 7202; you don’t have to fail to do all three.

3.              The IRS doesn’t have to prove that an overt act was taken

7202 doesn’t require any proof that an affirmative or overt act was taken.  For example, the IRS doesn’t have to prove that you took the money and moved it into an offshore account for your retirement.

If you simply pay business creditors and the tax doesn’t get paid, the willfulness element of 7202 can be established, and the crime charged can move from a misdemeanor to a felony.

4.              A crime under 7202 or 7215 applies only to fiduciary tax but other crimes may be charged

These employee taxes are called “Fiduciary” taxes because you are simply the caretaker.  You aren’t the caretaker in the same sense when it comes to your (the employer’s) matching portion of the FICA tax.  However, failing to pay the employer’s portion can be charged as tax evasion under IRC Sect. 7201 or at a minimum, can be treated as relevant for sentencing purposes.

5.              There are some types of activities that increase the risk of a criminal charge

a.              Recidivism

If you have opened a number of businesses that have failed to account for, collect or pay this fiduciary tax, the IRS is looking more closely at you.

b.              Personal Benefit

A person who is making a good income while not making sure the tax is paid, is also a greater target.

c.              Toys

Fancy cars, boats, planes or other “Toys” will raise some eyebrows and increase the odds that you are charged with a crime.

d.              Claim Benefits on your personal Return

If the fiduciary tax didn’t make it the IRS, but you claimed that you paid the tax on your personal return, this is a big red flag.

6.              Penalties

The penalties for violating IRC Sect. 7202 pursuant to 18 USC Sect 3571 are:

a.              Fines up to $250,000.00 for individuals

b.              Incarceration up to 5 years

c.              The costs of prosecution

If you own a small business and are having a hard time paying all the business expenses, yourself and these fiduciary taxes, have a good CPA review your numbers immediately.  It may be better to let the business go, than to continue to ignore payroll tax problems.

 

 

My Company owes the IRS a substantial amount of Payroll Tax. Can the IRS take money from my personal account to pay it?

My Company owes the IRS a substantial amount of Payroll Tax. Assuming that the business is a multi-member LLC or Corporation, it owes the Payroll Tax.  You don’t…at least not yet.

As you know, the business withholds Social Security (FICA), Medicare and Income Tax from it’s Employees’ paychecks.  The business holds that money and adds some if it’s own to the pot.  It sends the entire amount in to the IRS, or at least it is supposed to.

The IRS considers the withheld Income, FICA and Medicare tax to be “Trust Fund” money.  This means that the Business is or was holding it in “Trust” for the employee and was responsible for it.  The Trust Fund amount is usually 70% of the total amount sent in.

Right now…you don’t personally owe the IRS any money, only the Business does.  In order for the IRS to treat you as a debtor and thereby gain access to your personal assets, it has to make a formal determination that you are a “Responsible Person”.  This determination process usually begins with an interview and a review of documents like bank signature cards, corporate officer status etc.  Once the determination is made, the IRS issues a “proposed” assessment of just the Trust Fund amount only and against you personally.  You than have 60 days to submit a written protest.

Until the protest period expires, you don’t owe anything.  Because you don’t owe it personally, i.e. there has been no assessment, the IRS can’t take any collection action.  It can’t even file a tax lien against you.

If it is the case that you meet the criteria to be named a “Responsible Party”, the IRS will probably get around to proposing an assessment against you before the Statute of Limitations runs out on it’s ability to do so.  That Statute period is 3 years from the date the 941 tax return is filed.  If the debt is going to be substantial, it is a good idea to discuss your options with experienced Counsel.

Michael Anderson, Tax Lawyer In ArizonaWritten By:

Anderson Tax Law
2158 N. Gilbert Rd. Ste 101
Mesa, Arizona 85203

Phone: (480) 507-5985
Fax: (480) 507-5988
Email: [email protected]
Website: https://taxlawyeraz.com

I was assessed an IRS Trust Fund Recovery Penalty, so was my Business Partner. I paid, he didn’t. Can I sue him for his share of the debt?

Our Mesa AZ Tax Lawyer Can Help With Your IRS Trust Fund PenaltyYes, you can try to recover from another person who was assessed an IRS Trust Fund Recovery Penalty under IRC Section 6672….but who didn’t pay their share.

Some more explanation is in order, but first some background:

Trust Funds?

The simplest way to understand what a Trust Fund Tax is would be to look at a paycheck.  The Employer collects certain taxes from the Employee’s pay and is responsible to make sure that those amounts collected are forwarded to the IRS.  Those amounts are all listed on the typical paycheck.

The taxes collected by the Employer from the check include Income Tax, Social Security Tax, and Medicare Tax.

The Employer matches the Social Security and Medicare Tax and sends the whole pot in.

Or…doesn’t.

Only the portion of the entire amount sent in that belonged to the Employee and was held in Trust by the Employer, is considered “Trust Fund Tax”.  It is called this because the Employer is responsible to hold it in Trust for the employee.

The IRS is very determined to collect these when they aren’t paid by the business.  It will go after the business of course, but it can also go after individuals for payment and will do so aggressively.

Who Can The IRS Go After?

The IRS can’t just send a bill for these Trust Fund amounts to anyone it wants.  It has to “assess” the Trust Fund amount against the person it thinks was responsible for collection and payment of the amount in some way.

26 USC Section 6672 allows the Internal Revenue Service to recover the Trust Fund amount from any individual who:

1.  Was required to collect, truthfully account for, and pay over any tax imposed, and who;

2.  Willfully failed to collect such tax, or truthfully account for and pay over such tax, or willfully attempted in any manner to evade or defeat any such tax or the payment thereof.

That’s a mouthful.

Willfulness?

In order for the “willfulness” part of the rule to be satisfied, the IRS must show that the Person was or should have been aware that the tax was owed and either intentionally ignored it or was indifferent to the consequences that might occur.  Lack of Money isn’t a defense to this, nor is the fact that you may have been just obeying the “Boss’ Orders”. (see Hochstein v. United States)

Who Can You Go After?

You probably noticed above that I mentioned that those assessed with this Penalty are joint and severally liable.  This means that if the debt is $50,000.00, everyone assessed the penalty is 100% liable for the full amount.  If one party pays the entire amount off, the IRS is satisfied and considers the penalty paid as to everyone else.

What does the person do though… who is jointly liable with several others and who ends up paying most of the debt…like you?

26 USC Section 6672(d) says:

Right of contribution where more than 1 person liable for penalty

“If more than 1 person is liable for the penalty under subsection (a) with respect to any tax, each person who paid such penalty shall be entitled to recover from other persons who are liable for such penalty an amount equal to the excess of the amount paid by such person over such person’s proportionate share of the penalty….”

Another mouthful.

The Code allows you to sue the other parties to the Penalty in US District Court for their share that you paid.  If there were two of you and the debt is $50,000.00, than he should have paid $25,000.00 and you should have paid $25,000.00.  If you paid the entire $50,000.00 you can sue him for $25,000.00.

It is important to remember that the IRS won’t do this for you.  The IRS doesn’t care and isn’t required to care.  The Trust Fund Rules are set up so that the “responsible” parties have to fight amongst themselves about payment issues.

Michael Anderson, Tax Lawyer In ArizonaWritten By:

Anderson Tax Law
2158 N. Gilbert Rd. Ste 101
Mesa, Arizona 85203

Phone: (480) 507-5985
Fax: (480) 507-5988
Email: [email protected]
Website: https://taxlawyeraz.com

IRS Trust Fund Recovery Penalty – 3 Reasons Why It Can Be “Scary”

The IRS Trust Fund Recovery Penaltyfile0001597709523-thumb-375x280-49365

The Phrase sounds scary and complex. In theory, it isn’t that complex. It can be scary though and especially for the small business owner who is struggling to make a profit each month.

First…Why it isn’t that complex

The basic idea behind the penalty is that Congress wanted to encourage businesses to send in the portion of income, social security and Medicare tax withheld from employee’s paychecks.

So it passed a few laws.

First, it made this tax a “Trust Fund Tax”

Internal Revenue Code 7501 says that whenever any person is the one required to collect any internal revenue tax from any other person and to make sure that it is paid to the US Government, that amount withheld is to be held in “Trust” i.e. it is a “trust fund tax”.

This means that the money shouldn’t be mixed in with other money the business earns while waiting for it’s trip to the Government Bean Counting Room.

Than, it made the Trust Fund Tax one that is owed by the business AND the people responsible for the books at the business.

Internal Revenue Code 6672(a) says that any person who is required to collect or account for this trust fund tax and who doesn’t pay it can become liable for the amount of the trust fund personally.

A few things to take from the above:

1. If you are responsible for collecting and paying the tax (most small business owners meet this requirement because there isn’t anyone else to do it)

and

2. If the failure to pay the tax was willful.. i.e. you paid other creditors when you knew the payroll tax hadn’t been paid or you just disregarded the problem after being warned by staff.

This penalty can be assessed against you.

For the small business owner, the theory behind the penalty isn’t that complex but the result of it can be scary…for three reasons.

1. You Become Personally Responsible

If you are a responsible party and the action was willful you will personally owe the debt. Not just the business. This can happen even if you don’t own the company.

2. The Debt Can Be Very Large

If the business has 10 employees and those 10 employees are each paid $3500.00 per month on average and assuming an overall tax on the employee paycheck of 10% for income, social security and Medicare…that equals about $10500.00 per quarter.

Fail to pay this for one year’s worth of quarters and the penalty can be as high as $42000.00

3. The Penalty Isn’t dis-chargeable in Bankruptcy

Never. Bankruptcy won’t help in relation to getting rid of the debt.

You have challenge the proposed assessment. If that doesn’t work, you have to try to get the IRS to take less in an offer in compromise. If that doesn’t work, pay it on a monthly basis potentially for a long time.

Conclusion

If you work somewhere that isn’t paying the tax collected from employees, or if you are a small business owner struggling to pay the tax as you go, do what you need to do to get the books in order and to start paying it.

We can help. We are able to review the history of your income and expenses and find ways to stop the bleeding so that the tax can start being paid.

Trust Fund Recovery Penalty: Responsible for making sure payroll tax gets paid by the business? You need to be aware of this.

Congress passed a law a long time ago that was meant to “encourage” employers to pay the income and fine pic-thumb-375x249-49354employment tax (social security and medicare) they collect from employees’ paychecks. This law provides for a penalty to be assessed if the tax collected isn’t paid. That penalty is called an IRS Trust Fund Recovery Penalty. It is often called the 100% penalty as well.

The tax that is collected from the employee’s paycheck is considered “trust fund” tax because the employer holds the tax in trust until the deposit is made to the IRS. If you are an employer, you are 100% liable for the amount that is collected.

Internal Revenue Code 7501 makes clear that whenever any person is required to collect any internal revenue taxes from any other person and to pay over such tax to the United States, the amount of the tax shall be held in a special trust fund for the United States.

If the person responsible to do so doesn’t forward the trust fund tax, the IRS can use the law passed by congress to penalize him or her for 100% of the Trust Amount. It won’t matter that the business is still operating.

Internal Revenue Code 6672(a) provides:

“Any person required to collect, truthfully account for, and pay over any tax imposed
by this title 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 on the payment thereof, shall, in addition to other penalties provided by law, be liable to a penalty equal to the total amount of the tax evaded, or not collected, or not accounted for and paid over.”

The most common assessments of the trust fund recovery penalty come from the
following taxes:

• 941, Employer’s Quarterly Federal Tax Return – most common
• 720, Quarterly Federal Excise Tax Return
• 944, Employer’s Annual Federal Tax Return
• 945, Annual Return of Withheld Federal Income Tax

The penalty is not based on 940 Unemployment Taxes.

The 941 penalty amounts are made up of the employee’s income tax and fica tax withheld form his or her paycheck. It doesn’t include the employer’s matching portion.

The Statute says…The 100% penalty can be assessed against you if:

1. you “willfully” fail to collect or pay the trust fund tax and if you are;
2. a person who is “responsible” for collecting and paying it.

Courts usually look at the following to determine whether you are a “Responsible Party”:

a. What were your duties
b. Did you have the ability to sign checks
c. What was the Identity of officers and shareholders
d. Who was the person(s) responsible for hiring and firing
e. Who was in charge of the financial affairs of the business

“Willfulness” is often shown by:

a. Paying other creditors after you know the withheld monies haven’t been paid to the IRS.
b. You recklessly disregard the risk that the taxes aren’t being paid.

In essence, even if you didn’t have actual knowledge that the taxes weren’t being paid, you can be assessed the penalty just because you disregarded what was going on. Being negligent isn’t enough but choosing not to investigate after finding out they weren’t being paid?

Most of our clients are small business people and as a result it is difficult for them to defend the allegation that they were responsible and willful.

It is often wise when the assessment is being considered by the IRS to talk to an attorney about other options you may have to avoid it or to deal with it once assessed. The IRS offer in compromise can play a big role in both avoiding the assessment and in reducing the amount of the assessment after the fact.
Look at newer blog entries for more about this penalty.

 

IRS Payroll Tax – Figure out a way to pay it or it will “pyramid”

IRS Payroll Tax

Access to capital is often difficult for a small business. Especially right now. Many small businesses faced with a pyramid - egypt-thumb-350x232-49259cash flow problem can’t pay the FICA or Payroll tax. The money just doesn’t exist. The problem often gets worse and eventually the IRS shows up and asks for it.

Some businesses avoid the payroll tax on purpose. They don’t do it when times are tough; they do it as part of the business plan. They will do one of the following:

Filing Fake Payroll Tax Returns

The Employer pays the employee than files a return that doesn’t match the reality. Typically, the return understates the amount of wages paid to the employee.

Cash Payroll

Many businesses pay employees in cash. The employee loses future social security and Medicare “credit” as a result, but is often satisfied with the arrangement because they aren’t paying any tax at all.

Sometimes businesses get into trouble innocently:

Leasing Employment

The employee works for business Y but his paycheck is signed by employment leasing company x. Perfectly legal but sometimes abused. These companies will sometimes collect the money from the underlying business, and neglect to forward the payroll tax to the IRS. They often have a volume business and the amounts of money not forward can be very large. The employment leasing company will “dissolve” and the business owners who are paying for the leasing services can become personally responsible for a portion of the unpaid tax.

Every small business will “pyramid” the debt if they don’t figure out a way to get it under control.

Pyramiding

No, this isn’t a cheerleading move. This is IRS lingo for the business that withholds and doesn’t pay the tax for a number of quarters in a row. The IRS hates this. In fact, the IRS doesn’t have to negotiate a settlement or a payment plan with a taxpayer business until a certain number of quarters are caught up.

The problem with Pyramiding is that some businesses use it in a failed attempt to avoid the tax. The business will build up the tax debt, dissolve and start under a new name with the thought that the payroll tax will simply stay with the old business.

The problem is that IRS can in certain circumstances continue to collect the tax from the new business and if it can’t, it will assess against the owners of the business a penalty in the amount of the employee portion of the payroll tax that wasn’t paid.

Conclusion

If you are starting a business, you will have to accept the fact that if you have employees you will have to collect and forward payroll tax. It is part of the cost of doing business until the tax code is changed.

Payroll tax problems can be some of the most difficult to deal with for owners of small businesses as the trust fund portion of the tax isn’t dischargeable in bankruptcy and the IRS is not as willing to negotiate this type of debt in an offer in compromise.

If you are having problems with payroll tax withholding, find a way to nip it in the bud now. If you have payroll tax now that is insurmountable, get some help.

Independent Contractor designation and the problems it can cause for your small business

Footba12Employment tax law requires the employer to withhold the employees’ fica tax, unemployment tax and income tax from the paycheck, throw it in a pot, mix some more money into the pot equal to the employee’s fica tax and shoot the whole thing over to the IRS each quarter.

This process requires a lot of work and a lot of money, especially when the business has a lot of employees.

So, the employer has a natural incentive or really a “dis-incentive” to do this work and pay this tax. The investment comes with no reward, reduces profits and reduces the number of employees the business can hire and products it can sell.

This incentive leads the small business to find ways in which it can avoid the burden by treating workers as independent contractors instead of as employees.  By doing this, the business avoids the tax reporting, the bookkeeping and the withholding tax and save’s itself a lot of money and headache.

The problem?

If the business treats workers as Independent Contractors when it should be treating them as employees, the headache can be much larger.

If the IRS gets involved and determines that an independent contractor should have been treated as an employee, the business can get stuck with penalties/costs up to 35% of the payments made to the wrongly classified worker…plus interest.

This misclassification is a priority problem in the IRS’ world. It targets businesses it suspects, like building contractors, doctors, sales organizations and beauty shops among others.  Often the IRS will make the determination without fully analyzing the status of the business’ work situation and leave it to the owner to prove that the workers deserve the independent contractor determination.

So – how to follow the IRS’s rules and classify/treat the worker appropriately in order to avoid a mess is the question and the topic of future posts.

Small business and IRS audits – What they are looking for and how to prevent problems

IRS Audit and Your Small Business

Face it…The Government is at odds with small businesses in America.  Money “belongs” to the government first right?…and small businesses move around alot of it. This makes the government uncomfortable, just like you would be if you asked your small child to watch your stash of bills.

Thus, the sour relationship.

The IRS doesn’t really care whether our tax policy is right or wrong, it just “enforces” the policy. It has indicated that most “cheating” is done by small business and as a result it watches small business owners more closely than wage earners.

This is partially evidenced by the number of IRS employees (more than 45,000) dedicated solely to squeezing the small businessperson where it hurts the most

As a result, small businesses are at great risk for an audit. We know though what the IRS is typically looking for when they conduct a small business audit, and the most common items are:

  • Personal living expenses written off as business expenses
  • Auto expenses written off for travel that was not business related
  • Large business entertainment expense
  • Failure to report all business related income
  • Whether workers are being classified as independent contractors when they should be classified as employees
  • Whether the business is making all of it’s payroll tax deposits.

I always make four suggestions to small business owners as a result:

1. Use a reputable payroll company – this helps prevent the use of payroll withholding to keep the business afloat during down times. The most dangerous problem is when the small business owes a lot of payroll tax. It won’t go away. It will stay with the business until it dies and a large portion of it will stay with the responsible owner etc. until it’s paid.

2. Use someone else to do the tax return – i.e. don’t do it yourself – a third party cpa or tax lawyer can look at the big picture and make sure the return makes sense, spot missed deductions, and apply tax law to the facts of your situation. This reduces the chances that income is missed and increases the odds that all legal deductions are taken. It is worth the dough in the end.

3. Plan ahead – talk to a cpa or tax attorney about what you can do in coming year(s) to take advantage of the tax code. Talk to them especially when you plan on taking on employees and paying them as independent contractors, or leasing a private jet.

4. Treat the business as a separate entity – set the business up properly, keep a separate set of books, use separate checking accounts, don’t use business accounts to pay for movie tickets and trips to the zoo.