There are times when we receive correspondence from the IRS with little nit-picky issues that are easy to resolve and are fairly inconsequential. But, even with these letters many taxpayers get lumps in their throats and butterflies in their stomachs.
Then there are times when those letters from the IRS bring tidings of really serious issues that, if they are left unanswered, can break both a business and business owner. One such issue that is always a threat is unpaid payroll taxes.
Businesses are required to withhold and pay both employer and employee Form 941 payroll taxes to the IRS. Unpaid payroll taxes can result in a business having its bank accounts seized or its accounts receivable from customers frozen. But if there are any payroll taxes unpaid that represent taxes withheld from employees, these taxes are not only a threat to the business, but a threat to the business owner.
Unpaid withholding taxes are also know affectionately by the IRS at "Trust Funds". The special thing about trust funds is that the IRS can collect those taxes not only from the business but also from the individual that is deemed to be a "responsible person" who has negligently used withheld taxes to fund the operations of a business. As far as the IRS is concerned not having enough money to pay employees and taxes both isn't a valid excuse. They just assume if you don't have enough cash to pay both, you should simply pay the employees less to ensure that you have enough cash for the payroll taxes.
But, who is considered a responsible person? IRS Form 4180 is the tool the IRS uses to identify the individual that is subject to personal liability for unpaid 941 taxes. This form is a simple interview form that lists a set of responsibilities and functions that are indicative of control over the decision to not pay the taxes due.
These functions include:
1. The ability to set the financial policies for a business.
2. The ability to direct and authorize the payment of bills.
3. The authorization to open and close bank accounts for the business.
4. The capacity to guarantee or co-sign loans.
5. The authorization to sign checks.
6. The responsibility for authorizing payroll.
7. The responsibility for making federal tax deposits.
8. The responsibility to prepare, review, and sign payroll tax reports.
9. The authorization to hire and fire employees.
The IRS makes its determination of responsibility based upon the overall picture painted concerning an individual and not simply because one or more of the above is answered yes. However, the more yes answers you get, the more likely you are the responsible person.
In addition to identifying the responsible person, the IRS must also determine that the individual operated in that capacity during the time period where the payroll taxes were unpaid. For instance, if a business hires a new CEO or CFO and it is found that payroll taxes were unpaid for periods prior to their hire, these new managers are not liable. The old managers are considered the responsible parties.
After this determination is made, then its the individual's bank accounts and wages that become the targets.
So what can be done to avoid this trauma? The first step is to identify the total payroll taxes due by period and break them down between trust funds and employer taxes. Next, begin paying out the oldest taxes first. But, be sure to identify on the face of the payment checks the tax periods that each covers and the fact that those payments are to be directed to pay trust funds first. A taxpayer has the absolute right to designate payments to cover trust funds first. But, if this designation isn't made, the IRS will be sure and apply the balance to the employer portion.
In addition, it is very important to keep track of all the outstanding periods and update the balances due for each as payments are made. Finally, whenever you receive a notice from the IRS, don't ignore the notice. You would be amazed at how much time you can buy simply through communication. The IRS will respect the fact that you are trying to resolve the issue and will delay collections as long as you are making steady attempts at communicating with them and dealing with the outstanding taxes. But, the best way to get yourself in trouble quick is to just ignore the bad news and try to live like there isn't a problem.
Good luck! And remember, a good plan for dealing with any crisis is always better than just watching the IRS take your stuff after you've lived a nice life in denial.