By: Robert T. Leonard, J.D., C.P.A.
There is a lot you can do to show the IRS that your client was not really responsible for the payment of employment taxes.
WITH THE RECENT DISCLOSURE by the Government Accounting Office that the IRS has not collected many delinquent business payroll taxes, expect renewed emphasis on the trust fund recovery penalty of Internal Revenue Code ("Code") section 6672. (All section references are to the Code unless otherwise indicated.) IRS Revenue Officers are being trained in the use of laptop computers, which will give them access to more information in the field. The IRS's plan is to have Revenue Officers in the field sooner to head off businesses that owe employment taxes. At the same time, expect more personal assessments for unpaid payroll taxes under section 6672, which permits assessment for the "trust fund" part of the tax (withheld income tax and social security tax) against any persons required to collection, account for, and pay over the tax and who willfully fail to do so. With more personal assessments, there will be increased volume in IRS Appeals, the first stop for the responsible person assessed with the penalty. This article will discuss when to appeal a proposed section 6672 assessment, how to prepare a successful appeal, and how to present the case in IRS Appeals.
WHETHER TO APPEAL - The practitioner must first evaluate whether the proposed assessment is worth appealing. The IRS's letter proposing the assessment gives the assessed person 60 days to file a protest with the Revenue Officer. During that time, the practitioner should ask the following questions:
- Was my client an officer of the corporation?
- Was my client a check-signer? For what periods?
- Are there others who are more responsible for the unpaid taxes than my client?
- What will my evidence be to disprove the assessment?
- What evidence does the IRS already have in its files?
Officer Status and Check-Signing
If the client was a corporate officer, examine the title. Even if the client was the president, what did the client really do? Was he a figure-head? Was he in the office running the business on a daily basis, deciding what bills to pay? In many cases, it is useful to visit the business if it is still operating. Many clients are more comfortable in this setting and they may produce records that were not given to IRS Collection. Clerical employees of the business can be interviewed either on-site or off-site to see whether they can help the client's case.
The practitioner can go through the corporation's canceled checks for the quarters in question to see who signed the checks. Even if the client regularly signed checks, examine what the payments were for. Perhaps someone else more responsible signed for major expenses. Check to see who signed the company's tax returns for income taxes, payroll taxes, and sales taxes. Obtain a company chart. Even if the client is responsible for one quarter, it may be a low liability quarter. Take each quarter separately and evaluate the client's liability. This can be critical in IRS Appeals, where a split settlement is possible, with the client being assessed for only a portion of the total unpaid tax.
Other Responsible Persons
While visiting the client and/or the clerical employees of the business, ask who else was responsible for paying bills, meeting with customers, and making decisions. Typically, secretaries, suppliers, major customers, the business's accountant, and creditors of the business will give one or two names as their major contacts. This spadework on the practitioner's part is critical. For example, the client may have the title of vice president and be a check-signer for the business, which is a restaurant. However, the reality is that the client was never at the restaurant on a daily basis. She was an investor who signed checks to pay for renovation work at the business that she was supervising. Her full-time job was a carpenter, not a restaurant manager. With the help of statements from others with no interest in the outcome of the assessment, the carpenter can be absolved of liability.
In some cases, the client is responsible for the unpaid taxes but there are other parties who are equally responsible. Interviews, statements, canceled checks, and corporate records from the state's Secretary of State's office can confirm that others should be assessed. The practitioner must make the case for the IRS if the Revenue Officer failed to conduct a thorough investigation.
Evidence To Win
As cited above, written statements from persons who have no stake in the assessment are the keys to success in a Trust Fund Recovery appeal. Aim for at least three statements; 10 to 12 are preferable. If the interviewees will not sign a statement, either copy the notes of the interview and give them to the IRS with the person's name and telephone number or insert the information in a letter to the IRS. In many cases, the interviewee will write her own short statement by hand and sign it. That is sufficient. However, the practitioner should add by letter any additional information that the interviewee supplied and cite the date of the interview. The practitioner can offer to type the statement for signature but should not prepare the statement in advance or dictate it. IRS Appeals Officers are former Revenue Agents or Revenue Officers are former Revenue Agents or Revenue Officers and are not impressed by a series of identical statements supporting the taxpayer's position. It is far better to have a stack of hand-written notes, signed and dated by each person. Each person interviewed should be asked if he or she knows anyone else who could supply information. In one case, the dentist who treated all of the business's employees was helpful in identifying who paid his bills and ran the business.
In addition to witness statements, the practitioner should count the number of checks signed for the business, by quarter, to determine what percentage were signed by the client and by others. Examine checks signed by other responsible persons to determine the payees. The payees can be interviewed to provide statements implicating the check-signed as a responsible person.
Court records, such as lawsuits against the business, can be checked. Who appeared in the court on behalf of the business? Who signed or received the settlement check? Who signed the settlement on behalf of the business? Who hired the attorney? Who obtained necessary state and local operating permits and licenses?
Calculation Issues
Even if the client is otherwise responsible, there may be errors in the IRS's calculation of the Trust Fund Recovery Penalty. The IRS Form 4183 is a spreadsheet that is a record of the application of payments and additional assessments for a given tax period for a business's employment taxes. Each payment on the account will be shown by its date and amount. The columns on the form will show how the payment was applied, whether to penalties and interest (statutory additions) or to tax. Per the IRS's Internal Revenue Manual and its rulings, taxpayers have an absolute right to designate where payments go. The trick is doing it properly.
One thing that taxpayers fail to note is that designations made on federal tax deposits made through a bank are meaningless. For example, the taxpayer goes to her federal depository bank and notes on the check: "apply to trust fund taxes only of Acme Printing, EIN 43-000000." The problem with this designation is that the IRS will never see the check. The same check, hand-carried to the local IRS office, would be a designated payment. The better practice is to take a photocopy of the check and have the IRS receipt-stamp it.
For the practitioner coming into the case after the fact, it is important to ask the client whether there were any designated payments. Even if the client did not make any designation on the check, did he send a note to the Revenue Officer to that effect? Did he tell the Revenue Officer orally that the check was to be applied to Trust Fund taxes? The history sheets in the IRS Collection file may contain evidence that the client did try to designate the payments. In one case, the taxpayer's handwritten notes to the Revenue Officer, expressing the sentiment that "all payments be applied to tax only" were used to reverse a Trust Fund Recovery Penalty assessment and generate a refund for the taxpayer.
In addition to misapplication of payments, the practitioner should confirm that the IRS Form 941 returns were filed correctly. In some cases, the IRS prepared the payroll tax returns as substitute for return assessments under section 6020(b), based on estimated numbers. The Trust Fund Recovery Penalty assessment could be grossly inflated. The practitioner should confirm also that payments made to workers were wages. Could the payments to an officer have been nontaxable loan repayments? Could the payments to workers have been independent contractor payments? If the practitioner is confident of the taxpayer's position, the better method is to file the returns through the IRS Service Center rather than IRS Collection so that the returns can be processed more quickly. Copies of the filed returns should be attached to the IRS Appeals protest.
What Evidence Does the IRS Have in its File?
In many cases, the IRS Revenue Officer or his or her manager will permit the practitioner to examine the Trust Fund Recovery Penalty file involving the client. It is very important to review the IRS Form 4180, the interview form of potentially responsible persons, but also to examine the minutes in the file (history sheets) and the Form 4183, which is the spreadsheet showing the calculation of the penalty. If the client is the president of the company, the practitioner can obtain an IRS Form 8821, Tax Information Authorization, which will allow the practitioner to review the IRS file for the company's unpaid payroll taxes. The practitioner is looking to see who was interviewed, what evidence the IRS has in its file, and how the penalty was calculated. If IRS Collection will not supply the file, the taxpayer can file a Freedom of Information Act request. However, the practitioner should check first.
Drafting the Protest
The key to any successful appeal is the protest. The protest in the appendix illustrates the format. Practitioners should be selecting in filing protests. They will develop a poor reputation in IRS Appeals if they contest every case or fail to do their homework. Appeals Officers compare notes on taxpayers' representatives.
The protest should reflect the facts as known to the practitioner, with as much detail as possible, including witness statements, copies of checks to show payments designated to Trust Fund taxes, and evidence of others who should be responsible. It is a mistake to file a "shotgun protest," alleging grounds for protest that don't exist or haven't been investigated. In some cases, the protest will resolve the case without an Appeals conference. The Revenue Officer or her manager can rescind the proposed assessment before it reaches Appeals.
In drafting the protest, recall the purposes of a protest:
- Dispute that the client is responsible for the unpaid taxes;
- Dispute that the client was willful, even if he was responsible by virtue of his title or duties;
- Dispute that the client's liability was calculated correctly, and/or
- To have others assessed with the penalty.
Note that the protest cannot be filed for the sole purpose of having another assessed. Sending a letter to the Revenue Officer or her manager can do this. IRS Appeals is concerned with the case before them; they cannot propose an assessment against another taxpayer. Appeals can send the case back to the field to the Revenue Officer for further investigation.
For practitioners unsure of how to present the case in Appeals, there is no shame in finding out which Appeals Officer(s) handle Trust Fund Recovery Penalty appeals. Once contacted, Appeals Officers can tell what type of evidence they look for in successful appeals. Although the law regarding section 6672 is relatively well settled, the practitioner should have a file of those cases in which taxpayers were found to be not liable for the penalty, in addition to a case on the elements of section 6672 liability by the federal Court of Appeals for the judicial circuit in which the client's case arose. Another technique is to file a Freedom of Information Act request for the Appeals file of a successful appeal of a Trust Fund Recovery Penalty. For example, if the client knows of a co-worker who was relieved of liability, that taxpayer's representative may allow the practitioner to obtain the IRS file via an IRS Form 8821 - Tax Information Authorization.
Evidence in Appeals
In most cases, the Appeals officers are not interested in interviewing the taxpayer or other witnesses. They will rely on the IRS Forms 4180, the interview forms regarding the Trust Fund Recovery Penalty, witness statements, and other documents in the IRS Collection file. From the taxpayer's standpoint, this is preferable to an unstructured interview. The representative's job is to take the evidence and prepare a persuasive written package for Appeals that demonstrates why the proposed assessment is incorrect. In the most successful cases, the taxpayer's brief will form the basis of Appeal's recommendation for settlement.
IRS Appeals Settlements
IRS Appeals is a low-cost means of settlement for the taxpayer. It is much more difficult to prevail via a refund claim or in federal district court. When the taxpayer files a refund claim, it will be reviewed by IRS Special Procedures, which may have a higher degree of experience and sophistication than the Revenue Officers. If the claim is denied, the taxpayer can go to Appeals. However, the next step, a refund suit, is an expensive and difficult process. The U.S. Department of Justice takes over the case and will force the taxpayer to participate in formal discovery, such as depositions, as opposed to the simple witness statements that sufficed in Appeals.
To avoid problems later, the practitioner with a dispute with an Appeals Officer should set forth the dispute in writing. Addressed to the Appeals Officer's manager, the letter should provide the basis for the disagreement, such as the applicable law or the evidence.
In some cases, the taxpayer may obtain a split assessment, in which the taxpayer agrees to be liable for a portion of the quarters involved. The practitioner should take each quarter separately in preparing for the Appeals conference, allocating the witness and evidence to the quarters, at least for internal use. In that way, if the taxpayer needs a split settlement (e.g., the taxpayer became President of the company in the third quarter, but wants to avoid liability for the first and second quarters, before the payroll declined sharply), the practitioner can submit a proposal that Appeals can use in justifying the settlement.
CONCLUSION ▪ Careful selection of which cases to appeal, advance review of the IRS file, detailed protests supported by multiple witness statements and copies of written evidence, and knowledge of what IRS Appeals is looking for will help practitioners win a high percentage of their trust fund recovery penalty appeals.
APPENDIX
Sample Protest - Lack of Responsibility
January 1, 2005
CERTIFIED MAIL - RETURN
RECEIPT REQUESTED
Mr. Rudy Revenue Officer
Internal Revenue Service
1222 Compliance Avenue
St. Louis, MO 63102
Re: Sally CEO
SSN: 222-22-2222
Dear Mr. Revenue Officer:
This is a protest of the enclosed proposed assessment of the Trust Fund Recovery Penalty, Form 2751, dated December 1, 1999, against Sally CEO, SSN 222-22-2222 as follows:
- Name, address and social security number: Sally CEO, 999 Millennium Place, St Louis, MO 63124, SSN 222-22-2222.
- Request to Appeal Findings to the Appeals Office: Taxpayer Sally CEO requests a conference in IRS St. Louis Appeals regarding this protest.
- Date and Symbols from the Letter Disagreed With: Letter 1153(DO); letter dated December 1, 1999.
- Tax Periods Involved: Tax Periods 03/31/98; 06/30/98.
- Findings Disagreed With: Sally CEO disagrees with the findings of responsibility and willfulness. Ms. CEO is not aware of how the IRS applied payments to the employment tax liability and therefore disagrees with the application, pending receipt of the Form 4183, Application of Trust Fund Payments.
- Statement of Facts Supporting Taxpayer's Position: As indicated by Ms. CEO's IRS Form 4180 and the previously supplied affidavits of office manager David Diligent and treasurer Max Moneybags, both of whom worked at Cairo Boilerworks, Inc., during the period of nonpayment of trust fund taxes, Sally CEO was not involved in the day-to-day operations of the company. Cairo Boilerworks is a subsidiary of CBB, Inc., an investment company. Ms. CEO was not involved in the payment of bills or involved in the compensation of employees.
Ms. CEO was nominally an offer of Cairo Boilerworks. However, she traveled outside of the office much of the time, visiting the far-flung operations of CBB, Inc. According to her calendar, she was out of the office 55 out of 60 days during the period in question. Enclosed are statements by two suppliers to the company, as well as by three major customers, confirming that they dealt exclusively with Marvin Manager, and never with Sally CEO.
- Applicable Law. Applicable federal employment tax cases support the conclusion that Sally CEO cannot be liable for Cairo's failure to remit the taxes. In Stewart v. United States, 19 Cl. Ct. 1 (1989), the taxpayer was the sole shareholder, officer, and director of his medical corporation. The Claims Court concluded, however, that he was not a responsible person because he had no control over the corporation's business. The corporation's administrator had final authority over the payment of bills and taxes - she did not have to consult with the president.
Similarly, in In re Brady, 110 B.R. 16 (Bankr. D. Nev. 1990), the vice-president and 50 percent shareholder of a corporation was held not to be responsible for the nonpayment of employment taxes. Although the debtor had the right to co-sign checks, he was out of the office much of the time, and not involved in the company's affairs. To the same effect is In Re Hughes, 137 B.R. 614 (Bankr. E.D. Va. 1992), in which the court absolved the vice-president and director of a corporation from liability, after finding that he lived in Virginia, while the corporation operated in Mississippi, with the result that the debtor had no involvement in the daily management of the company and did not negotiate with creditors or decide which bills to pay.
The theory of the proposed assessment is that Ms. CEO, who was out of the office most of time, and lacking any knowledge that taxes were not being paid, nonetheless is liable. This is an improper legal conclusion. As the court notes in Cline v. United States, 997 F.2d 191, 197 (6t Cir. 1993): "We have found no case where a corporate officer or employee so far removed as Cline from financial control and decisions of his employer has been held willful under Sec. 6672 for mere failure to act." Here, Ms. CEO had minimal operational dealings with Cairo and no knowledge of unpaid taxes.
Based on the applicable law and facts, the assessment against Sally CEO should be withdrawn.
The foregoing appeal and protest was prepared by me pursuant to the Form 2848 previously filed for the taxpayer Sally EO based on information submitted by her and the persons previously identified in this protest. Although I believe the statements contained herein to be true, I do not know personally that the statements of fact contained herein are true and correct.
Sincerely,
Robert T. Leonard
Sample Protest - Calculation Error
January 1, 2005
CERTIFIED MAIL - RETURN
RECEIPT REQUESTED
Mr. Rudy Revenue Officer
Internal Revenue Service
1222 Compliance Ave.
St. Louis, MO 63102
Re: Sally CEO
SSN 222-22-2222
Dear Mr. Revenue Officer:
This is a protest of the enclosed proposed assessment of the Trust Fund Recovery Penalty, Form 2751, dated December 1, 1999, against Sally CEO, SSN 222-22-2222 as follows:
- Name, address and social security number: Sally CEO, 999 Millennium Place, St Louis, MO 63124, SSN 222-22-2222.
- Request to Appeal Findings to the Appeals Office: Taxpayer Sally CEO requests a conference in IRS St. Louis Appeals regarding this protest.
- Date and Symbols from the Letter Disagreed With: Letter 1153(DO); letter dated December 1, 1999.
- Tax Periods Involved: Tax Periods 03/31/98; 06/30/98.
- Findings Disagreed With: Sally CEO disagrees with the calculation of the Trust Fund Recovery Penalty assessment. In addition, Ms. CEO lacked willfulness as to the second quarter of 1998.
- Statement of Facts Supporting Taxpayer's Position: On March 31, 1999, and October 7, 1999, Ms. CEO sent IRS Revenue Officer Rudy Revenue Officer $5,000 to apply to the unpaid employment taxes of Cairo Wrecking, Inc., for the third quarter of 1998 (see enclosed letter). The IRS Form 4183 Record of Application of Payments and Additional Assessments to Tax Period 9809, enclosed, indicates that the payments were not applied to tax only, contrary to the taxpayer's designation. Revenue Ruling 79-284, 1979-2 C.B. 83, provides that "Rev. Rul. 73-305 [requiring the IRS to honor designated payments] applies to withheld employment taxes and collected excise taxes where the taxpayer provides specific written instructions for the application of a voluntary partial payment." Here, Cairo Wrecking, Inc. specifically designated the voluntary payments to tax only.
Per the enclosed schedule, Ms. CEO attempted to designate to Trust Fund tax only five tax deposits to the account of Cairo Wrecking, Inc. on February 23, 1999 (2), March 2, 1999 (2) and March 4, 1999. The checks and deposit slips were marked, "apply to trust fund account only." The taxpayer does not claim that the IRS received the designations made on the federal tax deposit coupons and on the checks. Cf. Wood v. United States, 808 F.2d 411, 416-17 (5 th Cir. 1987) (notations on check stubs accompanying checks deposited with bank to pay taxes held not to constitute designations; "Wood presented no evidence at trial showing that the supposed direction on the check stub ever reached the IRS. Indeed, his attorney agreed at trial that the check stubs likely never left the bank.") However, the designations indicate that the taxpayer lacked willfulness for the unpaid trust fund taxes for the third quarter of 1998.
In Oakey v. United States, 93-1 U.S.T.C. ¶50,112 (W.D. Va 1992), the court held that when the taxpayers made payments in the amount of trust fund only and though that they were paying trust fund only via the tax deposits, they lacked willfulness under Internal Revenue Code section 6672. "Taxpayers are not required to know the Service's internal accounting procedures." Id. at p. 87,428. The Oakey case applies here - the taxpayer tried to designate its payments on the form 9809 Federal Tax Deposit Coupon and on the checks. Ms. CEO lacked willfulness as to the third quarter of 1998. The enclosed March 3, 1999, February 8, 1999, December 5, 1998, March 31, 1999, and October 7, 1998, letters from Ms. CEO to Revenue Officer Rudy Revenue Officer demonstrate a pattern of the taxpayer lacking willfulness as to the unpaid trust fund taxes of Cairo Wrecking, Inc.
Based on the applicable law and facts, the assessment against Sally CEO should be withdrawn and/or recalculated.
The foregoing appeal and protest was prepared by me pursuant to the Form 2848 previously filed for the taxpayer Sally CEO based on information submitted by her and the persons previously identified in this protest. Although I believe the statements contained herein to be true, I do not know personally that the statements of fact contained herein are true and correct.
Sincerely,
Robert T. Leonard
PRACTICE CHECKLIST FOR
Winning the Trust Fund Recovery Penalty case in IRS Appeals (with Forms)
Section 6672 permits assessment for the "trust fund" part of employment taxes (withheld income tax and social security tax) against any persons required to collect, account for, and pay over the tax and who willfully fail to do so. With more personal assessments, there will be increased volume in IRS Appeals, the first stop for the responsible person assessed with the penalty. How to handle such cases?
- First evaluate whether the proposed assessment is worth appealing. Ask the following questions:
- Was my client an officer of the corporation?
- Was my client a check-signer? For what periods?
- Are there others who are more responsible for the unpaid taxes than my client?
- What will my evidence be to disprove the assessment?
- What evidence does the IRS already have in its files?
- The key to any successful appeal is the protest. The protest should reflect the facts as known to the practitioner, with as much detail as possible, including witness statements, copies of checks to show payments designated to Trust Fund taxes, and evidence of others who should be responsible. In drafting the protest, recall the purposes of a protest:
- Dispute that the client is responsible for the unpaid taxes;
- Dispute that the client was willful, even if he was responsible by virtue of his title or duties;
- Dispute that the client's liability was calculated correctly; and/or
- To have others assessed with the penalty.
