trust fund recovery penaltyMany business owners believe that operating as a Corporation protects them from personal liability.

While oftentimes this is true, if a corporation does not pay income tax withholding and withheld Social Security, the IRS can and will pursue the collection of those taxes from the corporation’s officers, directors, stockholders, key employees.

The IRS does this though the Trust Fund Recovery Penalty.

The Trust Fund Recovery Penalty, also known as the 100% penalty because one hundred percent of the withheld income tax and Social Security tax can be assessed against a responsible officer, employee, director or stockholder, is authorized under section 6672 of the Internal Revenue Code. The penalty applies The code provides that any person required to collect, truthfully account for, and pay over any tax imposed by this title who willfully fails to collect such tax, or truthfully account for and pay over such tax, or willfully attempts in any manner to evade or defeat any such tax or the payment thereof, shall, in addition to other penalties provided by law, be liable to a penalty equal to the total amount of the tax evaded, or not collected, or not accounted for and paid over.

Who is Liable?

The IRS will usually seek collection of unpaid trust fund taxes from the corporate officers, directors or stockholders of the corporate entity. Those individuals will most likely meet the two requirements of section 6672 – “willfulness” and “responsibility.”

The IRS must determine:

  1. Determining whether the person was a responsible person within the meaning of §6671(b) and
  2. Whether the person’s failures to collect, account for, and pay over the trust fund taxes was “willful” as defined by the courts.

Before the IRS can proceed with asserting the Trust Fund Recovery Penalty, they must determine who is a “reasonable” officer, employee, director or stockholder.  The definition of a reasonable person is very broad.  There are no tax regulations that define the term “responsible person.” Courts have defined the term to mean any of the following:

  • Officer or Employee of a Corporation
  • Partner or employee of a partnership
  • Corporate Director or shareholder
  • Another corporation
  • Employee of a sole proprietorship
  • Surety lender
  • Any person with sufficient status, duty and authority to avoid the default on payment.
  • Any person with ultimate authority over expenditure of funds

Most frequently the courts have held that the responsible person for TFRP purposes is the one  e one with the ability to sign checks on behalf of the corporation, or to prevent a check’s issuance or to control the disbursement of payments. Godfrey v. U.S., 748 F2d 1568 (1984); Kalb v. U.S., 505 F2d 506 (1974); Gold v. U.S., 671 F2d 492 (1981); Calderone v. U.S., 799 F2d 254 (1986).

The reasonable person must have also acted willfully to fail to collect, account for and pay over the trust fund taxes as defined by the courts. Again there is no single definition of willful in the IRC.  The courts have defined the term through their decisions as the voluntary, conscious and intentional act of preferring other creditors over the United States.

An easy solution to the 100% penalty is an Offer in Compromise. Usually, the tax liability is so large; taxpayers cannot afford to pay it. Offers are accepted to reduce tax liability, even the 100% penalty where there is doubt as to liability or doubt as to ability to pay the tax liability.  Please see a legal tax professional with any questions or concerns you may have. It is always best to approach IRS issues with the advice and guidance of a tax professional.