Trust Fund Recovery Penalty

TFRP or Trust Fund Recovery Penalty

What does TFRP mean? Trust Fund Recovery Penalty also known as TFRP, basically means you can be held personally liable for a penalty for not properly managing the employment taxes of a business. This is known as the “trust fund recovery penalty” (TFRP).

The TFRP is not a penalty in the traditional sense of being an amount added to a deficiency in tax due by an individual, corporation, or another taxpayer. Rather, the TFRP is a collection device that permits the IRS to impose liability on a “responsible person” who “willfully” failed to remit the employment taxes that were held in trust for the government.

TFRP cases rely heavily upon the fact pattern, and your success in defeating the penalty depends on the presentation of the evidence and knowledge of the IRS’s TFRP procedures.

The Two Prongs of the Trust Fund Recovery Penalty

There are two statutory components that must be established under IRC section 6672(a) before a person can be held liable for the TFRP.

First, the individual must be a “responsible person” for withholding and paying employment taxes to the IRS. Second, the person must have “willfully” failed to collect and remit the employment taxes due.

For purposes of IRC section 6672(a), the liability of a responsible person who has acted willfully is equal to the federal income taxes withheld from the employees’ wages and the employees’ share of the Social Security and Medicare (i.e., FICA) taxes.

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The IRS requires businesses to withhold a certain amount of funds from employee paychecks every pay period. These funds, which include social security and Medicare contributions, are to be held in “Trust” by the employer until paid in full to the IRS.  When a business fails to pay these Payroll withholding taxes held in trust to the IRS… the IRS will look to determine who was responsible for the payroll tax deposits, and these individuals may be targeted and held accountable through what is known as the trust fund recovery penalty.  Read on to learn more about how the TFRP is determined and how the penalty can be managed.

Two Key Determining Factors For The Trust Fund Recovery Penalty

When determining if and how to administer this penalty, the IRS must consider two key factors.

  1. The first is who is responsible for failing to pay the payroll deposits.
  2. The second factor to consider is if this failure to pay was Willful.

Who Is Responsible?

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Tax Court In Brief: Trust Fund Recovery Penalty IRC 6672

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Cashaw v. Comm’r, No. 9352-16L, T.C. Memo 2021-123 | October 27, 2021 | Greaves |

Short Summary:  This case involves the application of trust fund recover penalties (“TFRP”) pursuant to I.R.C. § 6672.  The primary issue is whether such penalties were properly assessed against the Petitioner.

Key Issues:

  • Whether Petitioner, as temporary chief administrator of Riverside, was individually responsible for TFRPs as a result of Riverside’s failure to remit the full amounts of employment taxes and tax withholdings.
  • Whether Petitioner was a “responsible person” under I.R.C. § 6672(a).

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How To Designate An IRS Employment Tax Payment

When a taxpayer makes a voluntary payment to the IRS, the taxpayer has the option to designate the application of the payment to certain periods and/or taxes.  For example, if a corporation owes federal employment taxes and the corporation desires to make a partial payment towards the past due employment taxes, the corporation or an authorized individual may designate the payment towards the “trust fund portion” of employment taxes due.  In this manner, the payment reduces not only the employment taxes owed, but also the potential liability for persons who may have been liable or may be subsequently found to be liable for so-called trust fund recovery penalties (“TFRPs”) under Section 6672 of the Code.

On July 23, 2021, IRS Chief Counsel released a Chief Counsel Advice Memorandum on this issue, and it serves as an important reminder to tax professionals and taxpayers regarding the option to designate payments and also the requirements taxpayers must follow to do so.

Trust Fund Recovery Penalties Generally

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"Extreme Personal Hardship” Doesn’t Excuse Trust Fund Recovery Penalties

Trust Fund Recovery Penalties (or TFRPs) refer to the tax penalties assessed against the responsible person(s) of a business (e.g., directors, officers, etc.) that failed to collect, account for, or pay over taxes on behalf of its employees. As a result, the failure of a business to pay over employment taxes does not necessarily stop with the business. Directors and officers may be personally liable for their actions (or inactions) with respect to the business’ employment taxes. In a recent decision by the Fifth Circuit Court of Appeals, the Court affirmed the lower court’s determination that the president and owner of certain businesses was personally responsible for trust fund recovery penalties. Further, while the taxpayer experienced “extreme personal hardship,” as well as business difficulties, those circumstances did not excuse his underlying tax responsibilities.

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Taxpayer Wins Major Victory At Pleadings Stage On Trust Fund Recovery Penalty Case

Employees are required to withhold federal income and social security taxes from the wages of their employees.  If an employer fails to do so, the government will often assert the trust fund recovery penalty (“TFRP”) against those responsible for payroll decisions.

Generally, the bar to assert the TFRP is a low one.  First, the government must merely show that the taxpayer was a “responsible person,” i.e., someone with a certain degree of decision-making authority over payroll.  Although this almost always includes owners of the employer company, it also commonly ensnares others such as executives or directors of the company.  Second, the government must show that the responsible person acted “willfully.”  For these purposes, willful conduct generally means that the responsible person voluntarily chose to pay other creditors over the IRS with knowledge of the outstanding IRS payroll obligations.

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Venar Ayar - Trust Fund Recovery Penal

The trust fund recovery penalty (TFRP) is equal to 100% of any unpaid trust fund taxes. You may become personally responsible for this penalty if the IRS determines that you are a responsible person at the business who willfully failed to send the payroll tax money to the IRS.

The TFRP is a severe penalty, and you should consult a tax attorney if you are being investigated for a possible TFRP assessment.

Negotiating The TFRP

First, you have the option to request mediation before the IRS assess the TFRP. This involves a neutral mediator who will attempt to reach a settlement between you and the IRS.

The good thing about mediation is that it isn’t binding on either party. If you don’t like the deal, the IRS can move forward with the penalty assessment and you can use your formal appeal rights.

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Manasa Nadig

I for one am glad that 2016 finally ended. Coming out of a contentious election with a boat load of vitriol thrown around, I don’t know about you, but I was swinging between the need for relief for it all to be over and the fear of who would take over the presidency and if it would go into capable hands. I am so glad tax season started so I can get to the business of preparing returns!

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TaxConnections Picture - Dollar Sign and Money15. DEFENSE TACTICS

§ 5:75 In General

The practitioner’s goal in defending a Trust Fund Recovery Penalty is to remove the onus from one’s client and place it on some other person or in the alternative to limit the amount of liability. Literally, one of the best ways to protect your client is to use the “he did it” defense. Blame someone else!

§ 5:76 “He Did It” Defense

The “he did it” defense can first be asserted at the initial interview of your client. Be prepared to present documentation to support why another person bore ultimate responsibility for payment of the taxes. The best evidence may be affidavits from third parties and your client asserting that some other party was responsible.

§ 5:77 Protest

Upon receipt of the letter proposing liability, submit a protest in the format set forth on the back of the IRS letter. Even if your client is a responsible person and willfully failed to pay the tax, you may protest the computation of the tax. It is not unusual for the IRS to miscalculate the Trust Fund Recovery Penalty and you have the right to assure that the penalty is in the proper amount. Read More

TaxConnections Picture - Dollar Sign and Money14. RECOMMENDING ASSERTION OF PENALTY

§ 5:70 In General

Having completed a preliminary investigation, the Revenue Officer next prepares proposed Trust Fund Recovery Penalties against the persons whom he or she believes to be responsible persons. For this purpose the Revenue Officer prepares a report titled “Recommendation Re: Trust Fund Recovery Penalty Assessment.” The report calls for the Revenue Officer to determine whether to assert against each potentially responsible person. The Officer can decide not to assert against a responsible person if it is determined that the penalty would not be collectible from that party. (Since the Internal Revenue Service views the Trust Fund Recovery Penalty as a collection device, the author has found that the greater his client’s net worth, the less likely the IRS is to determine the client not to be a responsible person.)

§ 5:71 Notice To Taxpayer

The completed recommendation is presented to the Revenue Officer’s Group Manager for concurrence. Upon approval by the Group Manager, a Letter 1153 and Form 2751 (Proposed Assessment of Trust Fund Recovery Percent Penalty) are mailed to each potentially responsible person. The letter is mailed to the person’s last known address. That letter grants the taxpayer ten days to contact the Revenue Officer to present a defense, or the taxpayer may request an appeals conference within sixty days of the letter. The format for a protest is set forth on the reverse side of the letter. Read More

TaxConnections Picture - Dollar Sign and Money13. INFORMATION GATHERING

§ 5:68 In General

Once, a Revenue Officer has determined the basic financial and organizational information about a company, he or she will begin gathering supporting documents. It is standard practice to summon the company’s banks for corporate resolutions, signature cards, bank statements, cancelled checks, and loan agreements. Revenue Officers will also seek copies of contracts, leases, and corporate minutes books. Normally at the outset of the investigation, the Revenue Officer will not have the corporate tax returns, but as the investigative process begins, he or she will request copies from the Service Center.

§ 5:69 Oral Presentations

Oral presentations on behalf of your client sometimes will prevent assertion. Always point out your client’s dire financial situation when appropriate since the Internal Revenue Service might give her a pass based upon uncollectibility. [IRM]

TaxConnections Picture - Dollar Sign and Money12. IRS INVESTIGATION TECHNIQUES

§ 5:64 In General

At any time after an employer fails to pay trust fund taxes, the IRS may begin investigating a proposed Trust Fund Recovery Penalty. It is standard practice for the Service to begin investigating any time a Revenue Officer discovers that a company owes taxes. Many times the Revenue Officer will begin the process when the company is still operating and has entered into a payment agreement with the Service. [IRM] If the payment agreement will be for more than 18 months, the potentially responsible officers must sign a statutory waiver to avoid assessment. [IRM 5:7.4.8] The Service views the Trust Fund Recovery Penalty as a collection tool and rightly believes that the threat of personal liability will cause the management of an operating company to maximize payments to the IRS. Such a policy can create severe management disruptions if corporate officers must try to juggle corporate financial problems, conflict to each other, and the potential for personal financial devastation if they are assessed a Trust Fund Recovery Penalty. In many areas, the Service will assess responsible persons and begin collection from the officers even though the corporation is still operating and making payments on its overdue taxes. [IRM]

§ 5:65 Interviews With Potentially Responsible Persons

The IRS normally begins its investigation Fund Recovery Penalty by interviewing corporate officers. The IRS utilizes an interview form titled “Report of Interview Held with Persons Relative to Recommendation of 100-Percent Penalty Assessments.” Upon review of the form you will note that the interview format takes two approaches: (1) the gathering of corporate financial and organizational information; and (2) the gathering of information relative to proving responsibility and willfulness. Read More