Prosecution for employment tax crimes in 2022, reflects an increase in investigations for employment tax violations by the Department of Justice, Tax Division and also provides some insight as to the Government’s intention to prioritize employment tax crimes. In this regard, you can expect an increase in the number of employment tax examinations and assessment of penalties under 26 U.S.C. §6672 (the “Trust Fund Recovery Penalty”) as well as an increase in criminal prosecutions under 26 U.S.C. § 7202.
In general, employment tax violations involve an employer’s obligation to (i)collect payroll taxes from its employees; (ii) file quarterly and annual payroll taxes and (iii) remit the taxes it collects from its employees together with the amounts due from the employer.
Depending upon the circumstances, the failure to comply with the Tax Laws pertaining the employment taxes can result in the assessment of the Trust Fund Recovery Penalty in cases where the employer is unable to satisfy the outstanding employment tax liability. In more egregious cases, criminal prosecution, imprisonment, orders of restitution and other monetary penalties may be imposed.
As the 2022 cases below illustrate, employment tax violations involve two scenarios: The first scenario pertains to civil liability and the assessment of the Trust Fund Recovery Penalty. Under this scenario, the employer files quarterly payroll tax returns, regularly withholds and collects payroll taxes on behalf of its employees and remits these funds to the Internal Revenue Service. In addition, the employer remits its share of employment taxes.
Using the Trust Fund concept, the employer as well as a responsible person is considered a fiduciary, and as such, is charged with the responsibility of segregating and safeguarding the employment taxes it withholds from its employees until such time that it remits those funds, together with the employer’s portion to the Internal Revenue Service.
In the civil context, problems arise when an employer experiences a downturn in business or is faced with an unforeseen and substantial expenditure. In this instance, the employer may decide to use the funds it has withheld from its employees for other business purposes including making payments to both secured and unsecured creditors, purchasing inventory or machinery as well as other legitimate business expenses, such as rent, utilities or business supplies. The employer’s rationale for diverting the entrusted funds is that business will soon pick up or the events which caused the cash crisis have subsided. In this situation, the employer reasons that he will catch up and make the IRS whole.
However, this logic is flawed for the following reasons. An employer has an unconditional duty to (i) withhold, account for and collect employment taxes from its employees; (ii) segregate and safeguard the employment taxes it collects; and (iii) remit these taxes to the IRS in a timely fashion. Under no circumstance may the employer divert employment taxes withheld from its employees for any purpose, including the payment of legitimate business expenses.
In rare instances, the employer rebounds and is able to catch up with its employment tax obligations. However, in many cases, the employer continues the practice of using the employment taxes it collects from its employees for business purposes theorizing that the diversion of employment taxes represents a form of government loan. In the event the employer is unable to satisfy the outstanding employment tax liability, the IRS will look to assess the Trust Fund Recovery Penalty against the responsible person equal to 100% of the employment taxes due, together with accrued interest.
To be clear. Any departure from the employer’s statutory obligations, is considered stealing by the IRS and the “responsible person” will be liable under Section 6672 for 100% of the employment taxes that should have been withheld and paid over to the Government, together with accrued interest.
The assessment of the Trust Fund Recovery Penalty is predicated upon two statutory components. First, the individual must be a “responsible person,” within the meaning of Section 6672 (a); and second, the person must have “willfully” failed to collect and remit the employment taxes due. Under IRC Section 6671(b) a responsible person includes any officer or employee of the corporation, or member or employee of a partnership, who has the duty to collect or pay employment tax.
The mere holding of a title is not controlling on the issue of a person’s liability. The determination of a person’s status is based on substantive evidence as to whether the person had the authority, duty, and status to control the Company’s financial affairs.
In order for liability to attach under Section 6672 a person must exercise significant control over the business financial operations and the ability to decide which creditors get paid. A significant factor the IRS considers is who signs the checks? The IRS also considers whether the person is an owner, officer or director of the Company, whether the person has the right to hire and fire employees, sign contracts or is otherwise active in the Company’s Day to day business. Other factors considered by the IRS is whether the person makes payroll deposits or is responsible for the disbursement of payroll.
To avoid assessment of the Trust Fund Recovery Penalty, the individual must demonstrate that he or she lacked the requisite financial control through such things as company business records, e-mails, court pleadings in litigation involving the business, and affidavits from third parties, combined with effective written and oral advocacy.
In order for liability to attach, it must also be established that the person acted “willfully” in failing to collect, account for, or pay the employment taxes. In the context of Section 6672 willfulness has been defined in Godfrey v U.S. 748 F2d 1568, 1575-76 (Fed Cir. 1984) as “voluntary, intentional and conscious decision to pay other creditors rather than remit the employment taxes to the IRS.”
The second scenario most often involves the diversion of employment taxes withheld for personal reasons including the payment of personal expenses, such as mortgage or car payments and often times include the purchase of luxury automobiles and jewelry as well as expensive dinners and exotic vacations. In cases where the IRS has assessed employment tax liability and related penalties, the individual may even form a new entity designating a nominee as the owner. This tactic is designed to frustrate IRS collection efforts. The pattern is repeated with the true owner failing to file payroll tax returns and pay over to the IRS, the employment taxes withheld from the employees of the new company.
In these instances, the responsible person charged with withholding and remitting the employment taxes may, in addition to or in lieu of the Trust Fund Recovery Penalty, be subject to criminal prosecution under 26 U.S.C. , titled” Willful Failure to Collect or Pay Over Tax. Section 7202 provides:
“Any person required under this title to collect, account for, and pay over any tax imposed by this title who willfully fails to collect or truthfully account for and pay over such tax shall, in addition to other penalties provided by law, be guilty of a felony and, upon conviction thereof, shall be fined not more than $10,000, or imprisoned not more than five years, or both, together with cost of prosecution.”
Under of Section 7202, it is the person or persons with the responsibility to collect, account for, and pay over who will be liable when there is a willful failure to perform this duty. The term “person” is construed to mean and include an individual, a trust, estate, partnership, association, company or corporations 26 U.S.C. § 7701(a)(1). Section 7343 extends the definition of “person” to include an “officer, or employee of the corporation or a member or employee of a partnership, who as such officer, employee or member is under a duty to perform the act in respect of which the violation occurs.” For purposes of the Trust Fund Recovery Penalty, 26 U.S.C. § 6671(b) provides an identical definition of “person.”
“A responsible person is someone who has the status, duty and authority to avoid the employer’s default in collection or payment of the taxes.” Ferguson v. United States, 474 F.3d 1068, 1072 (8th Cir. 2007). In addition, a person is responsible for collecting accounting for, and paying over trust fund taxes if he or she has the authority required to exercise significant control over the employer’s financial affairs, regardless of whether the individual exercised such control in fact United States v. Jones, 33 F. 3d 1137, 1139 (9th Cir. 1994).
In addition, to prosecution under Section 7202, a person who willfully fails to file a payroll tax return can be charged under 26 U.S.C. §7203, which is a misdemeanor.
While employment tax deficiencies have historically been the subject of civil enforcement, and the by product of civil examinations, there is an alarming trend where the IRS is using the civil examination as a pretext for referring cases to Criminal Investigation (“CI”) of the IRS with the ultimate goal of prosecuting the responsible person.
While the concept of “willfulness” under Sections 6672 and 7202 seem to be substantially similar, the Department of Justice is well aware of the interplay between the civil enforcement and criminal prosecution as evidenced in The Department of Justice, Tax Division, Criminal Tax Manual, Section 9, Page 9 which provides in pertinent part:
“Prosecutors should ascertain whether an IRS Form 2751 (“Proposed Assessment of Trust Fund Recovery Penalty”) or Form 4180 (“Report of Interview with Individual Relative to Trust Fund Recovery Penalty or Personal Liability for Excise Taxes) was completed during the civil administrative part of the case, and if so, whether these documents contain any relevant admissions or statement by the Defendant.”
In particular, if the individual agrees to furnish information for purposes of completing Section V entitled: “Knowledge/Willfulness of Form 4180, the responses to this Section may constitute an admission or statement by the defendants that will be used for criminal prosecution under Section 7202.
The difference between Section 6672 cases and Section 7202 criminal prosecutions relates to the burden of proof. An IRS assessment under Section 6672 is presumed to be correct, and the Taxpayer has the burden of proof of rebutting the presumption that the assessment is correct. The standard for rebutting the presumption is a preponderance of evidence. By contrast, in a Section 7202 prosecution, the Government has the burden of proof to prove all elements of the crime beyond a reasonable doubt.
The elements that the prosecution must prove include: (i) a duty to collect, account for and pay over a tax; (ii) the failure to collect, truthfully account for, or pay over the tax; and (iii) willfulness.
According to a report issued by TIGTA in March of 2017 titled: “A More Focused Strategy is Needed to Effectively Address Egregious Employment Tax Crimes,” TIGTA concluded that: (i) employment tax non compliance is a serious crime; (ii) when employers fail to account for and deposit employment taxes, they are, in effect, stealing from the Government; and (iii) Section 7202 needs to be used more often in order to promote compliance.
The objectives outlined in the TIGTA report are realistic goals in light of the Inflation Reduction Act (“IRA”) and the additional funds the IRS anticipates receiving. The funding under the IRA will be used to, among other things, aggressively pursue employment tax prosecutions.
The 2022 cases below have a common thread; In each case, the employer, through a responsible person, has diverted the employment taxes withheld from its employees and used the proceeds for both legitimate business expenses or to pay personal expenses or to support a responsible person’s lifestyle. While diverting employment taxes withheld for purposes of satisfying outstanding business debts or for other legitimate business purposes may seem less egregious than diverting trust funds for personal use, diverting employment taxes earmarked for the IRS is considered stealing in both cases and can serve as the basis for criminal prosecution.
The cases below represent a sampling, but not a complete inventory, of criminal prosecutions for the willful failure to pay over employment taxes for the Tax Year 2022:
- On December 12, 2022 a Maryland business man was sentenced by U.S. District Court Judge Richard D. Bennett to three years in prison for not paying more than $ 2 Million in payroll taxes to the IRS on behalf of its company employees. In addition, Jonas Purisch was ordered to serve three years of supervised release and ordered to pay approximately $3.4 Million in restitution to the United States.
According to court documents and oral testimony. Purisch operated two employee staffing companies, Titan Staffing Network, Inc. and Titan Services, LLC. The two companies provided workers for third party manufacturing businesses in Maryland. Between March of 2018 a March of 2021, Purisch collected over $2 Million from the employer’s employees but failed to pay the withheld employment taxes over to the IRS.
- On November 29, 2022, a Michigan business owner pleaded guilty to the willful failure to collect and pay over employment taxes on behalf of his employees. Court documents reveal that Yigal Ziv (“Ziv”) or (the “Defendant”) owned and operated Multinational Technologies, Inc., a software developer located in Michigan (the “Company”). As the responsible person, Ziv was responsible for the Company’s quarterly employment tax returns and collecting and remitting the withheld taxes to the IRS. According to court records, the Defendant collected approximately $691,000 in employment taxes from the first quarter of 2014 through the first quarter of 2018, but failed to file employment tax returns and also failed to remit the employment taxes collected to the IRS.
To exacerbate matters, despite learning of the IRS criminal investigation in 2018, Ziv did not file payroll tax returns from the fourth quarter of 2019 through the fourth quarter of 2020 and further failed to pay over to the IRS approximately $199,000 in payroll taxes withheld.
Court records reveal that during the same period Ziv caused the Company to spend several hundred thousand dollars on personal expenses including mortgage payments, luxury auto lease payments and department store purchases.
Ziv is scheduled to be sentenced in February of 2023 and could face a maximum penalty of up to five years in prison, be subject to supervised release and ordered to pay restitution.
- On November 28, 2022 Ari Weingard (“Weingard”) or (the “Defendant”), a Miami business owner pleaded guilty to willfully failing to pay over employment taxes to the IRS. Based upon court documents, Weingard owned and operated two car rental companies, Rent Max Miami, Inc. and Rent Max North, Inc. As the sole owner and CEO for the two companies, the Defendant was responsible for filing payroll tax returns, and collecting, accounting for and paying over the payroll taxes defendant withheld from his employees to the IRS. It was further reported that between 2011 and 2016 that Weingard withheld from his employees, but did not pay over to the IRS approximately $850,000 in employment taxes owed to the IRS. During this period the Defendant caused the two car rental companies to pay over to Weingard the sum of $50,000 in the form of a cashier’s check. In addition, the Defendant caused the rental companies to pay over to Weingard’s wife the sum of $45,000, also in the form of a cashier’s check and further directed the rental company to pay expenses relate to the Defendant’s 55-foot yacht. Weingard faces a prison sentence of up to five years, will be subject to supervised release and ordered to pay restitution and other penalties.
Sentencing has yet to be scheduled by U.S. District Judge K. Michael Moore.
- On November 22, 2022, Oleksandr Morgunov (“Morgunov”) or the (“Defendant”), a former resident of Key West pleaded guilty to immigration fraud as it related to the operation of several Key West labor staffing companies. According to court documents and other statements Morgunov assisted in operating Paradise Choice, LLC, Paradise Choice Cleanings, LLC, Tropical City Services, LLC and Tropical City Group, LLC, all of which operated in Southern Florida. The staffing companies facilitated the employment of individuals in hotels, bars and restaurants in Key West as well as other locations, despite the fact that the employees were not authorized to work in the United States.
In this regard, the companies withheld employment taxes from its employees, but failed to file employment tax returns and further failed to pay over employment taxes to the IRS.
The Defendant admitted that he and other co-conspirators defrauded the IRS out of more than $7.9 Million in employment taxes
Morgunov faces ten years in prison for conspiring to harbor aliens and to induce them induce them to remain in the United States. Sentencing is scheduled for January 31, 2023.
- On November 16, 2022, Kevin Alexander (“Alexander”) or (the “Defendant”), owner of a landscaping and construction firm pleaded guilty to tax evasion. According to court records,
Alexander owned K&L Construction. As the Company’s sole shareholder and president, the Defendant was responsible for filing quarterly employment tax returns and also responsible for collecting and paying over the employment taxes withheld from his employees. The court records further reflect that from the second quarter of 2014 through the first quarter of 2017 the Company withheld approximately $1 Million in employment taxes, but failed to remit the withheld employment taxes to the IRS.
During the collection proceedings Alexander accepted responsibility for paying the Company’s outstanding tax balance. However, the Defendant submitted a false form to the IRS that concealed some of his assets. As part of his plea agreement, Alexander admitted that he submitted the false form for purposes of concealing assets and evading the payment of the Company’s outstanding payroll taxes.
Alexander could be sentenced to prison for up to five years. He may also face a period of supervised release and be ordered to pay restitution and monetary penalties. Sentencing is to be scheduled at a later date.
- On October 2022, a federal grand jury in New Jersey unsealed an indictment charging Zeki Donuk (“Donuk”) or (the “Defendant”) with tax evasion and employment tax crimes, filing false returns ad making statements in bankruptcy. All charges other than the employment crimes are enumerated here for purposes of context and are not part of this discussion. According to charging document, from the third quarter of 2016 through the third quarter of 2017, the Defendant did not collect or account for or pay over to the IRS employment taxes on behalf of two construction companies operated by Donuk. It is further alleged in the indictment that for those quarters the Defendant did not file quarterly payroll returns, despite his obligation to do so.
If convicted, Donuk faces up to five years in prison as well as supervised visitation, restitution, and monetary penalties.
- On September 21, 2022 a West Virginia Federal Grand Jury returned an indictment charging Christopher Smith (“Smith”) or (the “Defendant”) with the willful failure to pay over employment taxes. According to the indictment, Smith operated three companies, all of whom, provide ambulance services in West Virginia. The Defendant was responsible for collecting and paying over to the IRS employment taxes withheld from the three companies, but did not pay over the employment taxes withheld from the companies’ employees, nor did he pay the employer’s share of payroll taxes over to the IRS. After the IRS assessed the Section 6672 penalty against Smith, the Defendant stopped operating Stat Ambulance Service and created Stat EMS in the name of a nominee owner. The defendant continued to operate the new company and, likewise failed to pay over to the IRS, the employment taxes owed.
The indictment further alleges that after the IRS attempted to collect the unpaid employment taxes for Stat EMS as well as the resulting penalties, Smith attempted to obstruct the IRS collection efforts by making false and misleading statements. Specifically, it is alleged that Smith stated that he did not own Stat EMS and further that he did not have a personal bank account.
To further frustrate IRS collection efforts, the charging document alleges that Smith paid personal expenses from Stat EMS business bank account, transferred funds from Stat EMS to a bank account the defendant controlled, and diverted his own paychecks into a bank account in the name of another person.
If convicted, Smith faces up to five years in prison, may be subject to supervised release and ordered to pay restitution and monetary penalties. Trial has yet to be scheduled.
As the above cases illustrate there are serious consequences associated with failing to withhold, account for, collect and pay over employment taxes that are withheld from employees, ranging from the assessment of the Trust Fund Recovery Penalty against the responsible person to imprisonment for a period of up to five years, and an order to pay restitution and other monetary penalties. The outcome in each case will depend upon the facts developed in connection with Forms 2751 and 4180, and any statements made by the individual during the Form 4180 interview. The information provided by the individual for purposes of completing both Forms may constitute an admission that the individual is a responsible person and that the diversion of employment taxes withheld was willful.
Given the high stakes, it is well advised to seek the advice of an experienced Tax Attorney if you are behind on your payroll taxes, received a Notice of Examination or have been contacted by the IRS.
Since no two cases are alike, reviewing the specific facts in each case with a Tax Attorney is critical for purposes of completing Form 2751 and deciding whether to provide information for purpose of completing Form 4180 and attending the interview. Both Forms provide for the signature of the individual under penalties of perjury. Consequently, honest responses to the questions contained in either Form could constitute an admission of guilt on the part of the individual and serve as a basis for prosecution. Furthermore, if the Individual elects to attend the Form 4180 interview, any statement made during the interview can be used to establish criminal liability.
If you are contacted by the IRS or receive a Notice of an Employment Tax Examination with respect to unpaid employment taxes, do not call or communicate in any way with the agent.
There is a natural tendency on the part of Taxpayers to try and convince an agent that the individual is not a responsible party or that the failure to file payroll tax reports and the failure to collect, account for or remit the employment taxes to the IRS was not willful.
In this regard, Taxpayers who call the agent and try to plead their case often times make incriminating statements, particularly in cases where employment taxes withheld have been used to pay legitimate business expenses. For some reason, some Taxpayer believe that diverting withheld payroll taxes in order to pay business expenses or creditors is justified. Clearly, it is not.
In addition, if a Taxpayer revises or changes any prior statement in an attempt to rehabilitate his testimony he or she may suddenly find that he or she is also being charged for lying to the agent.
Instead of engaging the agent, simply tell the agent that you wish to hire an Attorney and will not make any statement or complete any form without first consulting with an Attorney. Furthermore, you should inform the agent that you have an absolute right to be represented under the Taxpayer’s Bill of Rights.
After retaining an Attorney, the legal representative will typically reach out to the agent and discuss the nature and scope of the examination. In some cases, an experienced Attorney may be able to negotiate a limitation on the scope of the exam or the number of years to be examined.
Prior to taking any action, the following decisions need to be made:
- Should the Taxpayer’s representative be present during the examination?
- Should the Representative meet alone with the agent for purposes of the examination?
- Where should the examination take place?
- Following the examination, the IRS may issue Letter 1153 and Form 2751. Should the Taxpayer provide information for purposes of completing Form 2751?
- Should the Taxpayer sign Form 2751? By signing Form 2751 an individual is admitting that he or she is a responsible person and that the failure to withhold, account for, collect and remit the employment taxes to the IRS was willful. This finding can subsequently be used in a criminal prosecution.
- Should the Taxpayer attend the Form 4180 interview? and if so, should the Taxpayer’s representative be present?
- Should the Taxpayer provide information for purposes of completing Form 4180?
- Should the Taxpayer sign Form 4180?
Based upon TIGTA’s findings and its recommendations, and in light of funding to be provided under the IRA, the IRS is poised to aggressively pursue the assessment of the Trust Fund Recover Penalty and/or criminal prosecution against those who fail collect, account for or pay their employment taxes.
Retaining a seasoned Tax Attorney can mean the difference between a civil penalty assessment and criminal prosecution.
Anthony N. Verni is a Tax Attorney and a Certified Public Account. Mr. Verni has represented dozens of taxpayers in employment tax cases. For a free consultation, please contact Anthony at (561) 531-8809.