by Mark W, Sullivan, EA
D R Sullivan & Company, CPA PC
The Internal Revenue Code of 1986 requires employers to withhold federal Social Security (FICA) and income taxes from the wages of their employees and to hold those taxes in trust for the government(i). In the event an employer did not pay their quarterly taxes Congress enacted section 6672(a) of the Code to protect against employers' squandering this trust fund and imposes a 100% penalty tax on any responsible(ii) person who willfully(iii) fails to collect, truthfully account for, and pay over these taxes(iv). Code section 6672 is a tough statute and more than one person can be held liable for the penalty.
Personal liability for the unpaid employment taxes can be extended to any person, and not just an officer, director or shareholder, under section 6672 "if they retain sufficient control of corporate finances that they can allocate corporate funds to pay the corporation's other debts in preference to the corporation's withholding tax obligations"(v). The concept of responsibility in this context does not focus on whether a particular taxpayer could himself have paid the taxes; rather, it focuses on whether the taxpayer could have impeded the flow of business to the extent necessary to prevent the corporation from squandering the taxes it withheld from its employees(vi). This legal doctrine affirmed by the U.S Supreme Court in Monday v. United States contributed to the IRS pursuing non-owner, managerial, administrative and clerical employees for unpaid employment taxes. In February 1993 the IRS issued a Revised Policy Statement P-5-14 to address the issue of non-owner employees being pursued for their employers unpaid taxes that stated “In general, non-owner employees of the business entity, who act solely under the dominion and control of others, and who are not in a position to make independent decisions on behalf of the business entity, [should] not be assessed the trust fund recovery penalty.”
Example 1: Mr. And Ms. Taxpayer each served as Assistant Vice-President and
Controller. They supervised accounting, finance, payroll activities, and prepared and issued the payroll, filed employment tax returns, and prepared monthly financial reports for the Board of Directors. Each admitted knowing that their employer failed to pay its withholding taxes for several tax quarters, yet each paid other creditors anyway. They feared they would lose their jobs by disobeying direct orders from their superiors not to pay the taxes.(vii)
U.S. District Court Opinion(1): The court acknowledged that they did eventually quit their jobs when they realized they could not prevent the employer from defaulting on its tax obligations. However, the court concluded they simply waited too long to quit to shield themselves from liability as a matter of law. Had they quit immediately upon learning of the unpaid taxes, or even shortly thereafter, the court may have not held them liable.
Example 2: Petitioner was a twenty-six year old general manager of a minor league professional hockey club. He had no responsibility for the financial affairs of the club, but primarily focused on marketing the team, overseeing the office staff, planning the game day activities, dealing with aspects of player management and generally promoting the team to the public. He occasionally signed checks as directed by, and as a convenience for, the out-of-town owners. The club owners made all financial decisions. The IRS determined the taxpayer was a responsible officer who willfully failed to pay over the employment taxes because he signed checks, one employment tax return and managed day-to-day club duties.
Common sense dictates the facts and circumstances establish that the taxpayer was an employee who dutifully did his job as directed by the owners.
IRS Appeals Determination: Based on the foregoing IRS Appeals held the Petitioner was not liable for the penalty. First, the petitioner provided credible testimony. Second, the administrative files and records established the petitioner was an employee who had limited authority and that the owners made all financial and employment decisions, including which creditors to pay. Third, that in accordance with court precedent signatory authority itself was insufficient to establish liability for the penalty. Finally, the IRS failed to consider all relevant facts and circumstances present in the case and ignored established IRS policies and procedures.(viii)
Example 3: Petitioner was Chief Financial Officer for a mid-size manufacturing company. Throughout his tenure he possessed the authority to sign checks on behalf of the company and insured all employment taxes were paid. However, the authority to determine which creditors to pay was vested with the President and sole shareholder. The petitioner learned the business could not pay its taxes for the last month of a quarter and gave oral notice that he would not sign any further checks. He submitted his formal, written resignation 7 – 10 days later. The IRS determined the taxpayer was a responsible officer who willfully failed to pay over the employment taxes because of he was the CFO and had check and tax return signing authority.
IRS Appeals Determination: Based on the foregoing IRS Appeals held the Petitioner was not liable for the penalty. First, the petitioner provided credible testimony, which the administrative file and available records corroborated. Second, the unpaid taxes accrued and liability for payment arose after the petitioner ceased signing checks. Third, the petitioner could not be presumed to be a responsible person merely from titular authority as CFO. Lastly, unlike in Example 1, the petitioner ceased signing checks and promptly resigned his position immediately upon learning his boss refused to pay the taxes.(ix)
Internal Revenue Service issues are serious matters, but retaining effective counsel who understands the procedural realities of tax enforcement can mitigate the risks of IRS enforced collection action.
- IRC 6672 are under the jurisdiction of the Federal District Court and not United States Tax Court
- 26 U.S.C. sections 3102, 3402
- Responsible person: 26 U.S.C. section 6671(b) defines "person" as "an officer, or employee of the corporation . . . who as such officer or employee . . . is under a duty to perform the act in respect of which the violation occurs."
- Willfulness: A responsible person acts willfully under section 6672 whenever he “acts or fails to act consciously and voluntarily and with knowledge or intent that as a result of his action or inaction trust funds belonging to the government will not be paid over but will be used for other purposes.
- Internal Revenue Code Section 6672(a). The Supreme Court has interpreted this statute to impose liability on any person who fails to perform his duty to collect, account for, or pay over the withholding taxes.
- As defined by the U.S. Court of Appeals for the 8th Circuit
- Monday v. United States, 421 F.2d 1210, 1214-15 (7th Cir. 1970), cert denied, 400 U.S. 821, 91 S. Ct. 38, 27 L. Ed. 2d 48 (1970) (noting that holding corporate office does not per se impose a duty, but that an officer may have such a duty even if he is not the disbursing officer so long as he otherwise has sufficient power within the corporate structure).
- Case example derived from Thomas v. United States, KTC 1994-724 (7th Cir. 1994)
- Case closed 2004, Mark W. Sullivan, EA, and Daniel F. Ryan, Esq. Representatives for Petitioner
- Case closed 2010, Mark W. Sullivan, EA, Representative for Petitioner