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RECENTLY, I STARTED advising three entrepreneurial brothers who are the controlling shareholders of three companies with several hundred employees. All of their companies are presently short of operating cash and unable to borrow from banks or other conventional sources. Without quick infusions of funds, they’ll likely go under.
They won’t be able to pay skittish suppliers who refuse to extend additional credit, even if the brothers guarantee payment. Nor will they be able to meet payroll for employees. Many of these workers are high salaried and possess skills that are hard to replace in a tight job market. The ones who jump ship will readily find work with competing companies.
While my future clients were foraging for funds, they encountered a person I’ll call Curly, someone who recently ended a stint as a low-level White House staffer. Curly continually touted his tax expertise and ties to politicians.
The brothers were so awed by their new acquaintance that they gave him a high-five-figure payment for a strategy that he’d imparted to lots of other cash-strapped businesses: Have their companies pay employees their net salaries, but not remit hefty amounts of withheld income taxes and Social Security taxes to the IRS. Instead, use that money to satisfy suppliers. After all, as Curly assured the brothers, just as soon as business inevitably picks up, the companies can repay what they had “borrowed” from the IRS.
First though, my new clients sought my blessing. I demurred. All I had to do was rattle off long-standing rules set forth in Internal Revenue Code Section 6672. Those rules empower and encourage the IRS to act firmly and swiftly against companies that withhold taxes from paychecks, but fail to pass them along in a timely manner.
Like lots of other business owners who are unaware of Code Section 6672, my clients may think they’re doing nothing dishonest when they dip into the withholding kitty to make up temporary cash shortfalls. But many thousands of individuals who’ve played games with withheld taxes have been stunned to discover that their failure to pay such taxes made them personally liable—and that the IRS could grab funds in their bank accounts and retirement plans or seize other personal assets.
They belatedly learned that the IRS routinely assesses penalties equal to 100% of the amounts due against the people who are responsible for collecting or paying withheld taxes, and who “willfully” fail to collect or pay them.
That portion of my homily prompted the brothers to ask whether they’d be considered responsible persons. I told them that there can be no two opinions about whether they would be. After all, who else would decide which creditors to pay and when?
Worse yet, they’d also be jointly liable for the entire amounts owed. This would hold true even if, despite their controlling interests, they were somehow able to establish that other persons were more responsible than they were for the collection, accounting and payment of the missing taxes.
How does the IRS define “responsibility”? Let me count the ways. Responsible persons include:
How does the IRS define “willfulness”? It only requires a conscious, voluntary act, not intent to defraud. The act doesn’t have to be one of commission. It can be one of omission, as when a person fails to investigate or correct mismanagement. What if you file for personal bankruptcy? That does not relieve you of responsibility for your company’s failure.
Julian Block wrote and practiced law in Larchmont, New York, and was formerly with the IRS as a special agent (criminal investigator). He died in 2023. Check out the articles that Julian wrote for HumbleDollar.
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