Five Payroll Tax Mistakes to Avoid

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If you have at least one employee, you are responsible for payroll taxes. These include withholding federal (and, where appropriate, state) income taxes and FICA tax from employees’ wages as well as paying the employer share of FICA tax and federal and state unemployment taxes. The responsibility is great and the penalties for missteps make it essential that you do things right.

1.    Misclassifying workers

Perhaps the hottest audit issue today is misclassifying workers. There’s incentive to treat workers as independent contractors rather than employees because payroll taxes and employee benefit costs are high; a company’s only tax responsibility for an independent is issuing a Form 1099-MISC if payments in the year are $600 or more.

You don’t have the freedom to select the label for the worker; classification depends on whether you have sufficient control over the worker. This essentially means having the right to say when, where, and how the work gets done. Having an independent contractor agreement is helpful in showing that you and the worker do not intend any employer-employee relationships, but it doesn’t bind the IRS, who is not a party to the agreement.

2.    Not using an accountable plan for employee reimbursements

If you normally pay for travel, entertainment, tools or other business costs for employees, you’re wasting employment tax dollars if you don’t use an accountable plan. With this arrangement, you deduct the expenses but avoid all payroll taxes on reimbursements; employees do not have any income from reimbursements.

To be an accountable plan, the employer must formalize the arrangement and set reasonable times for action (the following times are reasonable to the IRS but you can adopt shorter time limits for action):

  • The reimbursable expense must be business related.
  • Advances cannot be made before 30 days of the expense.
  • Employees must account for the expenses within 60 days of the expense.
  • Employees must return excess reimbursements to the employer within 120 days of the expense.

3.    Failing to keep payroll records

You are required to maintain payroll records and have them available for IRS inspection. These include time sheets, expense accounts, copies of W-2s and other payroll records. Usually, you should keep information for at least four years. You should also retain copies of Forms I-9, which shows an employee’s eligibility to work in the U.S. States may also have certain hiring forms that should be retained (e.g., E-verify forms).

4.    Choosing to pay creditors before the IRS

When a business gets into a cash crush, it may be tempting to pay the landlord, vendor, or utility company before the IRS; don’t! As a business owner, you are a “responsible person” who remains 100% personally liable for “trust fund” taxes (amounts withheld from employees’ wages). This is so even if your business is incorporated or is a limited liability company.

Best strategy: Set aside cash to cover payroll taxes so you won’t use these funds for any other purpose.

5.    Failing to monitor payroll company activities

Many small businesses use outside payroll companies to handle the job of figuring withholding as well as transferring funds to the U.S. Treasury to cover payroll taxes. However, some of these companies may not do their job, by error or intentionally. As an employer, even if you use an outside payroll company you remain responsible for payroll taxes.

Best protection: Monitor your tax account to see that funds are being deposited on time and in the correct amount. If deposits are made electronically using EFTPS.gov, you can easily see activities in your account.

What payroll tax liabilities of my business could I be personally liable for?

It would be for those liabilities we call “Trust Fund Liability”. This constitutes those amounts an employer is required to withhold federal income and payroll taxes from its employees’ wages and pay them to the IRS. Withheld payroll taxes are called trust fund taxes because the employer holds the employees’ money (federal income taxes and the employee portion of Federal Insurance Contributions Act (FICA) taxes) in trust until a federal tax deposit of that amount is made.

If you have any responsibility for a business you will want to make sure you do not have this personal exposure.

Tax problems are usually a serious matter and must be handled appropriately so it’s important to that you’ve hired the best lawyer for your particular situation. The tax attorneys at the Law Offices Of Jeffrey B. Kahn, P.C. located in Los Angeles, San Diego San Francisco and elsewhere in California are highly skilled in handling tax matters and can effectively represent at all levels with the IRS and State Tax Agencies including criminal tax investigations and attempted prosecutions, undisclosed foreign bank accounts and other foreign assets, and unreported foreign income.

Description: Let the tax attorneys of the Law Offices Of Jeffrey B. Kahn, P.C. resolve your IRS tax problems to allow you to have a fresh start.

When Payroll Taxes Pyramid It Means Penalties, Even Jail

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The IRS does pursue all taxes equally. The IRS is especially vigorous in going after payroll taxes withheld from wages that somehow don’t get paid to the government.  The IRS calls it trust fund money that belongs to the government.

That makes any failure to pay—or even late payment—much worse. 

In fact, that’s so regardless of how the employer or its principals use the money and regardless of how good a reason they have for not handing the money over to the IRS. When a tax shortfall occurs in this setting, the IRS will usually make personal assessments against all responsible persons who have an ownership interest in the company or signature authority over the company accounts.

How Does The IRS Expand Business Payroll Tax Liability To Individuals?

The IRS can assess a Trust Fund Recovery Assessment, also known as a 100-percent penalty, against every “responsible person.” The penalty is assessed under Section 6672(a) of the tax code, and the IRS uses it liberally. You can be responsible and therefore liable even if have no knowledge that the IRS is not being paid. If there are multiple owners, multiple officers, multiple check signers, they all may draw a 100% penalty assessment.

When multiple owners and signatories all face tax bills they generally squabble and do their best to sic the IRS on someone else. Factual nuances matter in this kind of mud-wrestling, but so do legal maneuvering and just plain savvy. One responsible person may get stuck paying while another who is even guiltier may get off scot-free.

If the IRS is going after individuals, the IRS will still try to collect from the company that withheld on the wages. The IRS also wants to make sure this kind of bad tax situation doesn’t occur again and the IRS wants to collect as much money as quick as possible from as many parties as it can get to.

Can The IRS Seek Criminal Penalties?

Sure they can and the government will typically seeks to enjoin this behavior. The following examples of recent criminal employment tax investigations show the trouble taxpayers can get into if they fail to properly withhold and pay over employment taxes. 

Maryland Business Owner: 24 Months in Prison

In January 2013, Alphonso Tillman was sentenced to 24 months in prison and three years of supervised release for failing to account for and pay over employment taxes. Tillman was also ordered to pay restitution of $2,205,991. According to his plea agreement, Tillman was the president and sole owner of two companies that provided security guards to protect commercial and residential properties. Both companies withheld taxes from their employees’ paychecks, but Tillman failed to file the required forms or pay the payroll taxes due, with the exception of payments from IRS collection efforts. The total amount of taxes lost from Tillman’s failure to pay these taxes was $2,205,991. Tillman spent hundreds of thousands of dollars from the business bank accounts to cover his personal expenses between 2005 and 2008. “Using money withheld from your employees’ compensation for personal gain is reckless,” said Sheila Olander, acting special agent in charge, IRS Criminal Investigation, Washington Field Office. “Business owners are responsible to withhold and pay over income taxes from their employees’ compensation to the IRS. [This sentence] shows failing to do so is a serious offense to which Mr. Tillman is being held accountable” (U.S. Attorney’s Office, District of Maryland, Press Release, March 26, 2013).

Colorado Business Co-Owner: 28 Months in Prison

In September, Beth Ann Pettyjohn, of Englewood, Colo., was sentenced to 28 months in prison and three years of supervised release, and was ordered to pay $4,669,532 in restitution to the IRS, as well as a $25,000 fine. According to court documents, Pettyjohn, the co-owner and vice president of Overhead Door Co. of Denver, stopped paying over the payroll taxes withheld from employee wages, as well as the employer’s matching portion of FICA, totaling almost $4.7 million. Pettyjohn managed the accounting department, determined which bills would be paid, and issued and signed checks. She used the money to buy a number of houses, including paying $285,000 cash to purchase a condominium for her son. “Employers who fail to remit employment taxes are victimizing legitimate businesses by creating an unfair competitive advantage over those businesses that lawfully pay their share of employment taxes,” said Stephen Boyd, special agent in charge, IRS Criminal Investigation, Denver Field Office. “As this sentence demonstrates, there are real consequences for committing employment tax fraud” (U.S. Attorney’s Office, District of Colorado, Press Release, Sept. 12, 2013).

Nebraska Couple: Husband and Wife Both Get Prison Time

Michael and Laurie Russell, of Hickman, Neb., were sentenced to prison terms (16 months and six months, respectively) for failing to pay over employment taxes. The Russells were also jointly ordered to pay the IRS $311,486 in restitution. According to court documents, the Russells jointly owned and operated a window installation business, for which they withheld employee income and FICA taxes, but paid none of it to the IRS. The couple lived a comfortable lifestyle and could afford to pay the taxes, but apparently chose not to. “Business owners have a responsibility to withhold income taxes for employees and remit those taxes to the Internal Revenue Service,” said Sybil Smith, special agent in charge of IRS Criminal Investigation. “We are committed to pursuing those who violate the employment tax laws” (U.S. Attorney’s Office, District of Nebraska, Press Release, July 30, 2013).

Pyramiding Of Payroll Taxes.

The practice the government was going after is sometimes called “pyramiding.” The DOJ noted that the company had made minimal payments of its tax debts, and that attempts to induce voluntary compliance failed. To stop the bleeding in a case like this, the Justice Department can seek an injunction to require a company and its principals to make timely tax deposits, to pay all withheld employment taxes, and to timely file all employment tax returns.

Tax problems are usually a serious matter and must be handled appropriately so it’s important to that you’ve hired the best lawyer for your particular situation. The tax attorneys at the Law Offices Of Jeffrey B. Kahn, P.C. located in Los Angeles, San Diego San Francisco and elsewhere in California are highly skilled in handling tax matters and can effectively represent at all levels with the IRS and State Tax Agencies including criminal tax investigations and attempted prosecutions, undisclosed foreign bank accounts and other foreign assets, and unreported foreign income.

Description: Let the tax attorneys of the Law Offices Of Jeffrey B. Kahn, P.C. resolve your IRS tax problems to allow you to have a fresh start.

IRS Collection Of Employment Taxes

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Employment taxes make up two components:

1.         The taxes withheld from each employee’s paycheck – FICA, Medicare, FWT and SWT – we call this component Trust Fund Liability.

2.         The second category is the employer’s matching share of the FICA Medicare withheld by from each employee’s paycheck.

Now any business will be liable for both components.  But that is not enough for the IRS – the IRS will also seek liability for individuals who the IRS determines are “responsible persons”.

Responsible persons will have joint and several liability for the Trust Fund Liability.

Who are responsible persons?

1.         Officers, directors – basically any one in the business organization with the duty to perform and the power to direct the collecting, accounting, and paying of trust fund taxes.

2.         Any one whose name is on the business bank account.  So the bookkeeper who can sign checks even though having no other authority is a responsible person.

Now at first the IRS will only be looking to collect from the business and if it is incorporated, only the corporation will at first be subject to collection enforcement by the IRS.

However, if the IRS feels they are not collecting enough, the IRS will determine who the responsible persons are and then after that determination has been made and the person fails to appeal that determination, the IRS will now start collection against that person individually.

That’s why it is really important that when a business is falling behind in making its employment tax payments, that you contact the Law Offices Of Jeffrey B. Kahn, P.C as early as possible to mange the situation and come up with a plan.

Description: If your business is behind in employment taxes or the IRS is coming after you for the collection of employment taxes, it’s urgent that you speak with an employment tax attorney. The experienced tax attorneys in the Law Offices Of Jeffrey B. Kahn, P.C. know how to manage this problem and protect you or your business from collection action.