Under the laws of the United States, there is generally no obligation to withhold and pay over employment tax to the IRS, unless you are an employer and pay payroll. If you do pay payroll, you are obligated to withhold the tax at statutory rates and “pay over” that tax to the United States, or risk significant civil penalties and possibly criminal prosecution. Many employers have suffered dire consequences by paying sums withheld as payroll tax to other, more immediately demanding creditors, under various rationales including, “If I don’t pay the employees they won’t work for me, and may sue me;” or “I’ll get the money together by the time the payroll tax return is due.” In our experience, a substantial majority of the employers who embrace such reasoning do not remain employers in the long run. Thus, if you are going to pay payroll, pay the payroll tax on time and in full, with no exceptions.
Personal liability for the “trust fund recovery penalty” is a familiar concept to many; yet most employers are unaware that the United States government will prosecute employers and others (including lenders in some situations) who:
- Willfully fail to withhold, truthfully account for, and pay over employment taxes;
- Willfully seek to evade assessment and payment of employment tax obligations;
- File false employment tax returns;
- Willfully seek to evade collection of the trust fund recovery penalties; or
- Endeavor to impede or obstruct the administration of the tax laws by lying to the IRS, submitting false documents, willfully misclassifying workers, or hiding assets or income.
Prosecutions of employment tax crimes are generally brought under Internal Revenue Code (26 USC) Sections 7202 (willful failure to collect or pay over tax); 7201 (tax evasion); 7206(1) (false returns); 7212(a)(obstruction); and 18 USC § 371 (conspiracy to defraud).
The government can prove a “willful” failure to collect or pay over through circumstantial evidence. The employer’s financial inability to pay the withheld tax to the government is not a defense. Accordingly, a voluntary, conscious, and intentional act of paying the claims of other creditors, including the wage claims of employees, instead of paying the withheld employment taxes to the IRS, constitutes a “willful” violation of the employer’s duty to pay the tax. Courts have held that “[e]mployees to whom wages are owed are but a particular type of creditor,” and an employer violates its legal duty to pay over the tax where it pays the wage claims of employees instead of the employment tax claims of the United States. Sorenson v. U.S., 521 F.2d 325 (9th Cir. 1975). The courts have also held that “[it] is no excuse that, as a matter of sound business judgment, the money was paid to suppliers and for wages in order to keep the corporation operating as a going concern – the government cannot be made an unwilling partner in a floundering business.” Collins v. U.S., 848 F.2d 740, 741-42 (6th Cir. 1988)(a § trust fund recovery penalty case).
Moreover, based upon evidence that an employer repeatedly paid net wages to his employees knowing that withholding taxes were not remitted to the IRS, a court stated that the employer’s conduct “shows that he voluntarily and intentionally violated Section 7202” (a criminal statute). U.S. v. Gilbert, 266 F.3d 1180, 1185(9th Cir. 2001).
If you or a colleague or affiliate are contacted by the IRS regarding payroll tax liabilities, or if you are concerned about failures to withhold and remit employment taxes currently and in full when they are due, please contact a member of our Tax Group.
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