What are “Trust Fund Taxes”?
“Trust Fund Taxes” refer to any taxes required to be withheld on behalf of an employee by an employer for federal tax purposes. These include income tax withholding, social security, and Medicare taxes. Simply put, as an employer you do not pay your employee all of their wages. Instead, you have a duty to withhold certain federal tax portions from your employees’ paychecks. You hold these funds “in trust” for the federal government.
What is the Trust Fund Recovery Penalty?
The Trust Fund Recovery Penalty (“TFRP”) is penalty on responsible individuals who fail to withhold and/or pay Trust Fund Taxes to the federal government. Many individuals view a business’ tax debts as separate from their personal tax debts. However, some individuals may be personally liable for the tax debt of their business. The key to understanding the TFRP lies in two key terms: “responsible person” and “willful.” The first term identifies who the penalty may be proposed against. The second term broadly defines the actions, or lack of actions, required to be liable for the penalty.
Who is a “Responsible Person”?
The term “Responsible Person” includes only those persons who are responsible for the nonpayment of taxes. In determining who may be a “Responsible Person,” the IRS includes a great number of potential roles within every type of business. However, your title or role within a company is not the actual deciding factor. Rather, your status, duty, and authority within the organization determines your “responsible person” status.
The courts have further identified the following 7 legal factors in deciding the status of an individual:
i. Is the individual an officer or member of the board of directors;
ii. Does an individual own shares or possess an entrepreneurial stake in the company;
iii. Is the individual active in the management of day-to-day affairs of the company;
iv. Does the individual have the ability to hire and fire employees;
v. Does the individual make decisions regarding which, when, and in what order outstanding debts or taxes will be paid;
vi. Does the individual exercise control over daily bank accounts and disbursement records; and
vii. Does the individual have check-signing authority
If an individual is determined to have “responsible person” status, then that individual may be personally liable for the trust fund tax debt of the business.
What does it mean to “willfully” fail to collect, truthfully account for, and pay over Trust Fund Taxes?
In a civil context, in order to determine “willful” failure to collect, truthfully account for, and pay over trust fund taxes, the focus is primarily on your knowledge of your duty to withhold and pay the Trust Fund Taxes and your willing and conscious decision not to pay those taxes. This knowledge element includes not only things you actually knew at the time but also things you should have known undertaking reasonable efforts to determine your tax duties.
How do I avoid the TFRP?
The best way to avoid the TFRP is to be aware of your Trust Fund Tax requirements and to make timely reports and payments to the IRS. If you are uncertain about your reporting or payment requirements, it will be well worth your time and resources to seek out an experienced tax professional. Contact the attorneys at Wilson Ratledge today if you have any questions regarding the Trust Fund Recovery Penalty.