A trust fund recovery penalty primer.

• Author: Kossman, Seth

During poor economic conditions or other times when cash is short, business owners may implement cost-cutting procedures to free up capital, but, unfortunately, that may not be enough. To ease an immediate cash flow problem, cash-strapped businesses or other entities might tap into money withheld from their employees' wages for Social Security, Medicare, and income taxes and pay creditors instead of using the money to pay the IRS as intended. They mean to "borrow" this money temporarily, but in many instances the borrowing continues, and the business relegates the IRS to the back of the line of creditors or ignores it altogether.

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To help ensure that taxpayers properly remit payroll taxes to the IRS, Sec. 6672(a) imposes a penalty on any person who is responsible for paying payroll taxes and willfully fails to do so. This is known as the trust fund recovery penalty (TFRP). Typically, the TFRP equals the amount of money the employer withheld from employees' wages (e.g., Social Security, Medicare, and income taxes) that was not remitted to the IRS.

The rationale for imposing this penalty at the individual level is that the individual held these taxes in trust for the government. While a corporate structure may generally shield individuals from personal liability, it does not shield individuals from the TFRP, and a "responsible person" may be personally liable for the TFRP if the business fails to properly remit the requisite amounts. This item discusses the basic mechanics of the TFRP, what qualifies someone as responsible for payroll taxes, and what constitutes willfulness. It also briefly describes the process and procedures of a TFRP assessment.

Responsible Person

Under Sec. 6671(b), a responsible person "includes an officer or employee of a corporation, or a member or employee of a partnership, who as such officer, employee, or member is under a duty" to pay over taxes withheld. Courts have generally understood responsible person status to depend on the individual's control over corporate payments. Specifically, could the individual influence the decision to pay other creditors before the IRS? The IRS considers many factors in making this determination, including the individual's duties, corporate status, signature authority over the business's accounts, and ability to hire and fire employees. Ultimately, the determination rests on the facts and circumstances of each case.

"Control" in this context does not require the individual to have the final say about disbursing company funds. As long as the individual can exercise significant control over...