Ratiocinatororis Emptor[1] : Could You Be Liable for Your Client’s Unpaid Trust Fund Taxes?

by Heather G. Harlan

“What is the difference between a taxidermist and a tax collector? The taxidermist takes only your skin.” Mark Twain

The modern-day accountant is no longer viewed simply as a bookkeeper. Rather, today’s accountant wears many different hats consultant, systems analyst, business valuator, financial analyst and/or forecaster and insurance agent. The accountant’s role has changed, in part, because today’s business owners are highly sophisticated and demand a professional who understands his or her business and provides services that add value to that business.

Nonetheless, many accountants, particularly those who practice in economically challenged geographical areas, are engaged to perform what the industry has termed “write-up” work, which includes quarterly reporting of withholding taxes. Naturally, in conjunction with such write-up work, these same professionals are also likely to provide advisory services to their clients regarding cost-saving mechanisms in their businesses.

The external accountant has become a new and lucrative target for the Internal Revenue Service (“IRS”) to tag with the trust fund recovery penalty. Under the Internal Revenue Code (the “Code”), employers are required to withhold social security and income tax from their employees’ wages and turn over such funds to the government on a periodic basis. The government deems these sums, often called “trust fund taxes,” to be held “in trust” for the United States.

When an employer fails to remit such trust fund taxes, that employer becomes liable for those taxes that should have been paid. In addition, the Code imposes personal liability on individuals who are deemed to be in positions to determine whether employers remit withheld taxes to the government. Specifically, Section 6672 of the Code provides that:

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 . . . 

26 U.S.C. § 6672(a).

Circuit courts of appeals throughout the country have examined Section 6672 and have developed similar tests for determining whether a person is deemed to be a “responsible party” for trust fund taxes. In this regard, the Fourth Circuit Court of Appeals, whose jurisdiction encompasses West Virginia, has held that in order to impose the trust fund recovery penalty:

(1) the person assessed must be a person required to collect, truthfully account for, and pay over the tax, referred to as a “responsible person”; and
(2) the responsible person must have willfully failed to insure that the withholding taxes were paid.

O’Connor v. United States, 956 F.2d 48, 50 (4th Cir. 1992). Seven years later, the Fourth Circuit enumerated factors that serve as indicia of actual authority within the corporation to pay the taxes owed, including whether the employee:

(1) served as an officer of the company or as a member of its board of directors; (2) controlled the company's payroll; (3) determined which creditors to pay and when to pay them; (4) participated in the day-to-day management of the corporation; (5) possessed the power to write checks; and (6) had the ability to hire and fire employees.

Plett v. United States, 185 F.3d 216, 219 (4th Cir. 1999). At first blush, it seems inconceivable that an external accountant could be deemed a responsible person under Section 6672. However, the IRS has assessed the trust fund recovery penalty upon at least one external accountant (“Accountant”) in this State. [2] In this case, the IRS deemed the Accountant to be a responsible person because he signed certain quarterly withholding forms and because he was a signatory on a corporate checking account and wrote corporate vendor checks, albeit only after prior authorization from his client (“Client”). The IRS also found it significant that the Accountant gave his Client seemingly routine advice about how to reduce overhead in the business.

However, it was insignificant to the IRS that the Accountant was (1) never an officer, shareholder, or board member of the company; (2)that the company alone decided all.aspxects of its employment of individuals, including hiring, firing and wage rate and payment decisions; and (3) that the accountant paid vendors from the corporate checking account only after prior authorization from that Client and because he performed write-up services for his Client and maintained its accounts payable.

In the above case, the assessment against the Accountant arose as a result of a routine visit to the IRS. The Client had a history of tax problems and asked his Accountant to accompany him to the IRS, as his duly appointed representative with a power of attorney, to discuss the status of the Client’s delinquent taxes. Once there, the IRS agent completed IRS Form 4180, “Report of Interview with Individual Relative to Trust Fund Recovery Penalty or Personal Liability for Excise Tax” for both the Accountant and the Client.

The foregoing pending case illustrates that when an employer is either unwilling or unable to pay its trust fund taxes, the IRS will not hesitate to go after the employer’s external accountant if the Service perceives that the relevant factors are present.

While providing write-up services for small business and consulting businesses in a variety of financial matters is an inherent and expected function of the modern-day accountant, today’s accountant must proceed with caution in serving those clients having unpaid withholding taxes.

[1] This phrase is Latin for “Accountant Beware.”

[2] The appeal of this assessment is currently pending before a federal district court in West Virginia.

The author presents these materials with the understanding that the information provided is not legal advice. Due to the rapidly changing nature of the law, information contained in this publication may become outdated. Anyone using these materials should always research original sources of authority and update this information to ensure accuracy when dealing with a specific matter. No person should act or rely upon the information contained in this publication without seeking the advice of an attorney.