Closing A Business with Payroll Tax Debt
(Can We Really Do That?)
Clients regularly seek my advice closing their companies when faced with back taxes and interest. In many cases, they want to walk away from the failing business and the unmanageable text debt. One of the most common problems that these companies face is wrestling with payroll taxes. Payroll tax complicates business closures.
We’ve been blogging lately about closing businesses with IRS tax debt. We should discuss here what happens when closing a business that has unpaid payroll tax liability.
Are Payroll Taxes Such a Big Problem?
Payroll taxes make it very tempting to close a business. Let me explain.
First, let’s just talk through a typical business’ cash flow. Cash comes in, cash flows back out for operating expenses, salaries, wages, rent, etc. However, maybe your business doesn’t always enough cash inflow to meet the cash outflow. Then you, as the business owner, must decide which bills to pay, right?
Some expenses require immediate payment. Items such as rent, telephone, utilities and wages usually require payment short time. It is easy, even logical for business owners to give these items payment priority.
On the other hand, payroll taxes are different. Although taxes are incurred each pay period, those funds withheld from their paychecks can be paid at a later date. If cash is short, this “deferred tax payment” really helps with cash flow. But once this happens over a few weeks, or over a few months, any unpaid liability really begins to snowball into a large tax debt. And this creates a much bigger problem with IRS. Let me explain.
See, many new business owners, especially those who have not dealt much with IRS, are not aware of the rules regarding payroll tax debt. Specifically, they are not familiar with the Trust Fund Tax Penalty.
So What Is A Trust Fund Tax Penalty?
Remember our discussion about the unpaid payroll tax? The business could pay most of its expenses, partly because it did not immediately pay its payroll taxes. Said differently, the business did not pay over to the government the tax that it held back from its employees’ paychecks.
Well, those funds, once withheld, no longer belonged to the business. The workers always “trust” the employer to handle their earnings fairly. So when those funds were deducted from workers’ pay, the money was held “in trust”, to be paid to the IRS or state. But instead, the business decided to those funds for other purposes (like rent, phone expenses, even other taxes).
This decision creates a new situation for the owner, funds manager, payroll officer, or decision maker regarding the use of cash. The person(s) responsible for paying over the funds, who chose not to pay the taxes, could become personally responsible for the unpaid tax liability. IRS imposes this unpaid tax upon that person as the “Trust Fund Tax Penalty”. This penalty is equal to the amount of taxes withheld from workers’ pay, but not paid over to the government.
Personal responsibility for the Trust Fund Tax Penalty does not go away when the business closes. It is not dischargeable in bankruptcy, either. It sticks with you, even when you close the business. And IRS becomes very aggressive about collecting this penalty. So that’s bad news.
One note of better news, though. Because we are consulted regularly by failing businesses, we have developed a very strong history in reducing or eliminating Trust Fund Tax Penalty assessments. Everyone’s situation—and their solution—is unique. But because IRS procedures remain mostly the same, Tax Law Offices can create a solid “game plan” to help eliminate or reduce the penalty.
If you are in need of a Downer’s Grove IRS tax attorney, look no further than us and contact us today.