Many businesses are operated through a legal entity that affords the owners of the business limited liability. Yet, business owners who are active or involved in their business are still at risk of personal liability for certain tax obligations of the business.
A prime example is the federal trust fund recovery penalty (aka TFRP). The IRS can impose the trust fund recovery penalty (i.e., personal liability) on any “willful” failure by a “responsible” person to pay the IRS federal “trust fund” taxes. The IRS must find that the individual is both “responsible” and “willful.”
Generally, trust fund taxes are those taxes that are collected from employees and held in trust for the United States. Trust fund taxes include, but are not limited to, federal income tax withholding and employment tax withholding (i.e., one-half of FICA).
A business might be going through a tough period, and someone may decide that the payments to the IRS will have to wait. Thus, even if a business is unprofitable, unpaid payroll taxes can accrue to very large sums. It happens all the time. This can create financial peril for both the business and for responsible persons.
Not only are business owners at risk. Any individual that has status, duty, and authority to control the business’s finances is at risk. As a result, business owners, officers, directors, managers, and even bookkeepers/accountants can and have been held personally liable through the trust fund recovery penalty.
Depending on what stage you are in the trust fund recovery penalty process, we can assist you with handling the Trust Fund Recovery Penalty investigative interview (i.e., Form 4180), appealing the proposed assessment (Letter 1153), challenging the assessment, and/or dealing with IRS collections.
IRS’s Decision (Letter 1153), Appeal Rights, and Court Challenge to Trust Fund Recovery Penalty
What is Letter 1153?
After the IRS agent has completed the investigation, the agent will determine if one or more individuals should be assessed the trust fund recovery penalty. The IRS agent will send a Letter 1153, via certified mail (or hand delivery), notifying the individual that the IRS agent proposes to assess the trust fund recovery penalty against the individual.
An attachment to Letter 1153–Form 2751-Proposed Assessment of Trust Fund Recovery Penalty–specifies the amount of the penalty and the tax periods at issue. Letter 1153 will also provide a summary of the individual’s appeals rights, an opportunity to agree to the proposed assessment and additional information regarding the effects of filing bankruptcy.
Can I appeal the IRS decision in Letter 1153?
Yes. The recipient of a Letter 1153 has 60 days to protest the proposed assessment. If you do not protest within 60 days, then you lose your right to a hearing with IRS Office of Appeals.
The protest is heard by IRS Office of Appeals, which is an independent unit within the IRS that hears tax disputes. The hearing is an informal, administrative process that is usually conducted over the phone between the individual (or the individual’s representative) and the IRS Appeals officer.
What happens if I disagree with IRS Appeals decision?
The IRS Appeals decision is not subject to judicial review. Instead, a taxpayer must either file a refund suit in US District Court or the Court of Federal Claims. Although the trust fund recovery penalty assessed may be quite sizable, the individual can usually pay a smaller portion of the underlying tax in order to obtain jurisdiction in federal court.
What if I missed the deadline to appeal the IRS determination in Letter 1153?
The individual can institute a refund suit in federal district court, challenge the assessment in bankruptcy court, or file an offer in compromise – doubt as to liability.
What if I never received Letter 1153?
If you can demonstrate that the IRS never issued Letter 1153 or they mailed it to the wrong address, then a potential additional avenue to challenge the trust fund recovery penalty assessment through a Collection Due Process (“CDP”) hearing. But, if the IRS sent Letter 1153 to your “last known address”, then the IRS is deemed to have satisfied its notice requirement and you generally cannot challenge the assessment in CDP hearing.
Overview of Responsible and Willful in Trust Recovery Penalty Analysis
Who is considered a “responsible person”?
An individual is a responsible person if they are someone who has the “status, duty, and authority” that provides the individual significant control over the business’s finances.
IRS policy states that individuals who perform ministerial acts without exercising independent judgment will not be deemed responsible. But, the test is a facts and circumstances test. The test is often liberally applied by IRS agents to find that an individual is “responsible.”
The IRS looks for individuals who meet one or more of the following criteria:
- Are officers, directors, or shareholders of the corporation
- Hire and fire employees
- Exercise authority to determine which creditors to pay
- Sign and file the excise tax or employment tax returns, such as Form 941, Employer’s Quarterly Federal Tax Return
- Control payroll/disbursements
- Control the corporation’s voting stock
- Make federal tax deposits
For example, see Shaffran v. Commissioner: Tax Court Rejects IRS’s “De Facto Officer” Argument in Trust Fund Recovery Penalty Case
What is does “willful” mean?
The definition of “willful” in the context of trust fund recovery penalty is not the same as in the context of criminal tax cases. Willful does not mean that the individual had an evil intent or bad motive.
Rather, willful means intentional, deliberate, voluntary, or reckless; it means more than accidental. As a result, the IRS generally must show that the responsible person knew, or at least should have known, that the business was failing to pay over trust fund taxes to the IRS and other creditors (including employees) were paid instead of the IRS.
What if there are other “responsible” parties?
The trust fund recovery penalty is derivative of the businesses tax liability and more than one individual can be assessed the trust fund recovery penalty for the same underlying tax obligation. But, IRS policy states that the IRS can only collect the tax once. Thus, if the IRS secures payment from the business or from another person who was found to be liable, then the other parties are no longer liable for the tax/Trust Fund Recovery Penalty.
Statute of Limitations, Collections, and Miscellaneous
How long does the IRS have to assess the Trust Fund Recovery Penalty?
The statute of limitations for the assessment of the trust fund recovery penalty is based upon the deadline for filing the tax return associated with the underlying tax. For example, the IRS generally has three years form the filing date of the Form 941- Employer’s Quarterly Federal Tax Return to assess the trust fund recovery penalty related to the failure to pay the taxes associated with the Form 941. But, for Form 941, the “filing date” is deemed to be April 15th of the year following the period covered by Form 941 (e.g., the SOL for Form 941 for 1st quarter of 2015 would be April 15, 2019).
Keep in mind that certain actions may toll the statute of limitations. And, if no return was filed, then the statute of limitations is open.
If the Trust Fund Recovery Penalty is assessed, how long does the IRS have to collect the balance?
Generally, the IRS has 10 years from the date of assessment to collect the trust fund recovery penalty. However, the statute of limitations may be tolled (i.e., extended) by certain actions. Generally, these tolling events are actions that preclude the IRS from taking collection action (e.g., proposing an installment agreement or submitting an offer in compromise).
Can I recoup payments of the Trust Fund Recovery Penalty from other parties?
Potentially. Even if you are held to be personally liable for the trust fund recovery penalty by the IRS, you may not bear the full weight of the tax obligation under business law or contract law. For example, you might have a right of contribution via your corporate by-laws, partnership agreement, LLC operating agreement, or employment agreement. However, this may provide little relief if the other party does not have the wherewithal to pay their obligation.
Depending on what stage you are in the trust fund recovery penalty process, we can assist you with handling the trust fund recovery penalty investigative interview (i.e., Form 4180), appealing the proposed assessment (Letter 1153), challenge the assessment, and/or dealing with IRS collections.
Additional Resources From the IRS
For an overview of the trust fund recovery penalty from the IRS, see: Employment taxes and the Trust Fund Recovery Penalty (TFRP) | Internal Revenue Service (irs.gov)
For a deeper dive into the trust fund recovery penalty from the IRS, see: 5.19.14 Trust Fund Recovery Penalty (TFRP) | Internal Revenue Service (irs.gov)