A recent case (Erwin v. United States) decided by the U.S. Court of Appeals for the Fourth Circuit (which has jurisdiction over appeals from federal district courts in North Carolina) provides a useful reminder of the perils of failing to withhold and pay income and payroll taxes.
Under the Internal Revenue Code, employers must withhold income taxes and certain payroll taxes (Social Security and Medicare) from wages paid to employees. These taxes must be held in trust until they are paid to the government (along with unemployment taxes and the employer’s matching share of Social Security and Medicare taxes) and may not be used for any other purpose — hence, the name “trust fund taxes.” To ensure that the taxes are withheld and paid, the Internal Revenue Code imposes personal liability on any person “required to collect, truthfully account for, and pay over any tax” (a “responsible person”) who willfully fails to make sure the taxes are paid. The amount of the penalty is the amount of the unpaid taxes. So, if the IRS can’t collect the full amount of unpaid income, Social Security or Medicare taxes from the employer, the IRS can collect the shortfall from officers, employees or agents who qualify as “responsible persons” and who willfully fail to ensure payment by the employer.
As summarized by the court in Erwin, several factors are weighed to determine whether someone is a “responsible person” for these purposes, including whether the individual:
“(1) served as an officer or director of the company;
(2) controlled the company’s payroll;
(3) determined which creditors to pay and when to pay them;
(4) participated in the corporation’s day-to-day management;
(5) had the ability to hire and fire employees; and
(6) possessed the power to write checks.”
In this particular case, the court applied these factors to the undisputed facts and held that as a matter of law Erwin (a shareholder and officer) was a “responsible person” and willfully failed to remit the taxes.
For more information on the responsibilities of employers under federal tax law for withholding and paying trust fund taxes, see IRS Publication 15 (Circular E), Employer’s Tax Guide.
