The IRS Trust Fund Recovery Penalty: What it is and How to Resolve this Tax Issue

The Trust Fund Recovery Penalty is the penalty you incur as an employer, if you withhold income tax, Medicare, and Social Security taxes from your employees’ wages, but don’t send the money to New York State or the IRS.

The penalty is basically these unpaid monies.

How much is the Trust Fund Recovery Penalty (TFRP)?

As an example, say an employee is paid $1,000 in wages for the week. Of that amount $150 is held back for federal income taxes, and $77 dollars for Social Security and Medicare. If you do not send the $227 to the IRS, then the TFRP against you would be $227.

Who can be held liable for the TFRP?

The TFRP is assessed against the person or persons responsible for failure to pay over trust fund taxes. The penalty can be assessed against individuals, employees, partners, officers of a corporation, and members of a limited liability company (LLC).

To establish responsibility for the TFRP, the IRS must be able to show that 1) the person responsible had control or possession of funds that were collected but not remitted, and 2) the lack of payment needs to be willful, a mistake and not paying would typically not create the penalty. The willful component is that the person knew or should have known that the withheld taxes were not paid to the government. Therefore, when a company used monies to pay other creditors and not the IRS, that can be a sign of willfulness.

One might ask how an owner is liable personally for the unpaid taxes. The concept of piercing the corporate veil.

Under IRC section 6672, officers and/or owners of a corporation may be personally liable for TFRP, if they failed to ensure that the withholding and payroll tax obligations were met.

Sec. 6672. Failure to collect and pay over tax or attempt to evade or defeat tax.

(a) General rule. 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.

How is the TFRP liability determined

In the case of the IRS, they gather documents related to the company and its bank accounts. Items such as check signature cards, incorporation documents, and employee interviews are all used to determine who is liable. For the owner and other company employees who are involved with the finances of the business, the IRS will conduct a Form 4180 interview. However, the TFRP and the interview can be contested. There are a few ways to challenge a TFRP assessment. If you feel that the TFRP is incorrect and should not apply, then you can challenge it with the IRS Appeals or Tax Court. Also, during the Form 4180 interview you can contest TFRP liability, or you can contest TFRP liability after the TFRP is assessed. A TFRP can also be removed via a Collection Due Process (CDP) hearing on your case. These approaches would be used if you are not responsible for the penalty, such as if you were merely the bookkeeper and not the person responsible for the financial affairs of the business.

At the Form 4180 interview, they go through a questionnaire type process, and ask questions such as:

  1. What is your job at the company?
  2. What is your title (as employee or director)?
  3. Do you have signature authority on the company bank account?
  4. Who signs company checks?
  5. Are you the only person who deposits money into the company bank account?
  6. Do you make the payroll deposits?
  7. Do you sign the tax returns?
  8. Do you set the financial policies of the company?

If you can show that you were not in control of or did not possess the trust fund taxes, then the TFRP may be removed. It is important to have a good tax lawyer represent you during this process. The TFRP can be a daunting tax issue, but with the help of a tax professional they can help get it resolved.

If you are clearly liable for the penalty, then not to waste resources you can admit your liability bey signing Form 2751 (Assessment of TFRP).

The statute of limitations to assess the Trust Fund Recovery Penalty is generally three years following the withholding tax quarter was filed. The TFRP time frame begins on the return due date which can be April 15th or if you have filed for an extension, then it would begin after October 15th each year, until your filing is either accepted by the IRS or rejected and you receive a notice about your tax liability. Therefore, if the assessment is close to when the time period for assessment expires, this all needs to be reviewed.

How to Resolve the Trust Fund Recovery Penalty

Once a TFRP has been assessed, you can create a payment plan or negotiate an offer in compromise to try and resolve the tax debt. If you are unable to make a full payment, the IRS may allow you to file for an extension of time to pay.

If you would like more information on the Trust Fund Recovery Penalty, or need help resolving a tax issue, please contact us today. Our team of experienced tax professionals would be happy to assist you at (917) 382-5142 or (518) 213-3445.

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