Trust fund liability.(Commentary)

EVEN IN THE BEST TIMES, MANAGING cash flow can be challenging. In a recession, businesses are frequently forced to find creative financing alternatives. Many times the solution is delaying the payment of taxes, specifically trust fund taxes.

Trust fund taxes are among the largest portions of the taxes collected by state and federal governments. Trust fund taxes are taxes paid by, or for, someone else but collected by the business. Typical trust fund taxes are employees' withholding taxes, sales taxes and excise taxes.

Business owners, officers and employees should be aware of the serious repercussions of delaying the payment of trust funds. A short-term problem generally can be corrected by paying stiff penalties and interest. However, when the business continues to "borrow" trust funds, serious attention will be forthcoming from the IRS and/or the Arkansas Department of Finance & Administration. Frequently, an IRS revenue officer will arrive unannounced at the business to collect the unpaid trust fund.

Both the IRS and the DF&A can impose personal liability for the nonpayment of trust funds on the "responsible persons." Federal and Arkansas laws provide for personal liability for individuals required to collect, account for and pay over trust fund taxes on behalf of an organization. Even though an entity such as a corporation or LLC generally limits the liability of the individual for the business debts, individual liability for failure to pay over trust fund taxes is not limited.

The personal liability at the federal level is the amount deemed withheld from the corporation's employees' paychecks, not the matching portion. Personal liability at the state level is for the withholding taxes and sales taxes that should have been paid over. A sole proprietor or partner in a general partnership is held personally responsible for the entire tax amount, including penalties and interest, not just the trust fund portion.

A corporation or LLC's state and federal unemployment, non-trust fund and corporate income taxes are not statutorily assessable as personal liabilities.

The IRS will aggressively pursue the assessment and collection of the Trust Fund Recovery Penalty against people who authorized or signed checks to other creditors when they knew the trust funds were unpaid. Employees with check-signing authority but acting only at the direction of a superior generally are not held liable.

More than one person can be assessed the trust fund penalty, but only the total unpaid trust funds of the business can be collected from all the liable people and the business combined. The DF&A rarely pursues assessment of trust fund liability and generally chooses to close a business that continually fails to pay sales taxes.

Trust fund liability is not dischargeable in bankruptcy, and the obligation lasts for a minimum of 10 years. Criminal liability also exists for failure to pay trust funds, as the federal criminal statutes are virtually identical to the civil statutes providing for personal liability. However, IRS prosecution is usually pursued only when other tax deficiencies or other criminal activities are present and the lifestyle of the business owner is lavish.

When it becomes clear that the corporation cannot quickly repay the "borrowed" trust funds, the people responsible likely will be personally assessed. Several steps can be taken to minimize personal liability. A corporate installment agreement for the unpaid taxes or security offered by the corporation for the payment of the trust funds might cause the IRS to not pursue the responsible person penalty.

Ensuring that corporate tax payments are designated to trust funds will reduce the individual's trust fund liability. The IRS usually erroneously computes the trust fund in its favor if any timely federal tax deposits were made, thus allowing a challenge and delaying personal assessment. If several people are proposed to be assessed, it could be beneficial to delay one's individual assessment in the hopes others might pay before collection is sought. Other options may be available, depending on the case.

When the non-payment of trust funds becomes more than a short-term problem, competent advice needs to be sought on how best to address the problem.

Neil Deininger, an attorney and CPA, and Stan Kozij, a CPA, are with Deininger & Wingfield PA, a Little Rock law firm that specializes in tax issues.

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