Payroll Taxes and Trust Fund Recovery

Written by Wendy Stultz   // July 11, 2011   // 8 Comments

1040

If you run a business and have employees, you are likely familiar with the distinction between 1099 and W2. This makes a big difference in not only how much money you give directly to your employees, but also in who is responsible in dealing with Uncle Sam and the IRS on the taxes for that employee.

A W2 wage earner has taxes deducted form their paycheck based on the W4 form that the employee completes and files with the employer. This person will receive a W2 at the end of the year showing their wages and taxes withheld. A 1099 employee or contract employee will not generally have taxes withheld from their pay and will receive a 1099-Misc. from the employer at the end of the year showing the total gross amount paid. The 1099 income receiver is responsible to have been paying Estimated Tax Payments through out the year to cover their expected tax burden. In this case, it is not up to the employer to have withheld the taxes for the 1099 employee. W2 employees are most common with large companies, franchises, or salaried employees. 1099 employees are generally contract employees, as needed employees, subcontractors, or other at will employees.

The IRS has resources for employers to help determine the classification of employees, the resulting tax issues, and filing and Federal Tax Deposit schedules. Publication 15, Employer’s Tax Guide and Publication 15-A, Employer’s Supplemental Tax Guide are key for the basics. For more information see the IRS small business section on Employment Taxes.

Payroll taxes only come into play for W2 employees. The employer (not the employee) will need to file quarterly 941 tax returns and a yearly 940 tax return. These tax returns represent both the employer-paid and employee-withheld taxes that must then be turned over to the IRS. Apart from filing the returns, are the payments for the returns.

As of January 1, 2011, the IRS expects that all employers are making Federal Tax Deposits using the electronic payments system, the Electronic Federal Tax Payments System or EFTPS. This is a free service, but it does require registration by the business or individual. You must make separate payments for each return type (940, 941, 945, etc.) Employers generally are required to make Federal Tax Deposits either monthly or semi-weekly.

For 940 returns, make the payment on or before the last day of the month following quarters end, so by April 30, July 31, October 31, and January 31. For 941 returns, make the payments either when you pay your employees or by the next required due date based on your lookback period. If the due date falls on a Saturday, Sunday or legal holiday (which includes federal and DC holidays, regardless of what state you are located in), payments made by close of business on the following working day will be considered timely made.

Why make Federal Tax Deposits/Why Pay Payroll Taxes?

Well, the short answer is that businesses that do not remain in compliance with Payroll Taxes quickly find themselves dealing with the IRS. This may include a Revenue Officer showing up at the business, a levy being issued to all business bank accounts to capture all funds, or a demand for the officers of the business to present their personal financial information to determine if the Trust Fund Recovery Penalty should be assessed against the individual officer(s) (as opposed to remaining a business liability). In some cases, it can also include the IRS beginning a process to seize business assets to pay back the Payroll or Employment Taxes.

If you are running a business, the presumption is you want a successful business. It seems like falling behind on Payroll Taxes is a super-fast way to ensure your business is not going to be successful for very long. How do you think your employees are going to react if their paychecks bounce because the business payroll account gets levied? Or will your suppliers continue to do business with you if you can’t pay them?

To put it as simply as possible, falling behind on Payroll Taxes is essentially theft. A business has already withheld taxes from their employee’s paycheck with the agreement to the employee and to the IRS that that money will be paid over to the IRS to cover the employee’s tax burden based on the income received from the employer. This withheld money is held in “trust.” If that money is not timely paid to the IRS, then the business is throwing up all kinds of red flags to the IRS. Businesses who may have had problems and want get back into compliance should immediately hire a payroll service or tax professional like a Certified Public Accountant or bookkeeper to manage the Federal Tax Deposits and get the business into compliance as quickly as possible. Once the business shows that they are moving into compliance, the IRS will consider payment arrangements on the back liabilities. This can be difficult for a business, since it requires not only paying the currently owed Federal Tax Deposits, but will then also require additional funds to pay on the previously incurred liabilities.

Trust Fund Recovery Penalty

An officer or owner of a business may personally become liable for the Trust Fund portion of Business Payroll Taxes. The IRS may choose to perform a Trust Fund Recovery Penalty interview to determine if the officer or officers knew of the tax liabilities, made financial decisions for the business, were responsible for having paid the Federal Tax Deposits, or paid other expenses in lieu of Federal Tax Deposits, for example. If so, then the officer or officers can be PERSONALLY liable for the Trust amount. Not the business itself- the individuals who are running the business or who own (part of) the business. This gives the IRS additional avenues of collection. Once a Trust Fund is assessed against an individual, the IRS can then attempt to collect from that individual.

If you are running a business, there are a lot of items that demand your attention. Payroll Taxes are just one of them. But failing to stay on top of this can have consequences, both for the business and potentially for you as an individual. The best thing to do is to stay on top of Payroll Taxes at all times. If something happens to prevent that, the next best thing to do is to immediately take steps to remedy the missed payment(s). The IRS articles for small businesses are helpful and designed to make sure businesses know their requirements and can find answers to their questions. If you can’t manage to get compliant on your own, hire a professional to help you get your books in order, or keep track of the payment calendar. And if the IRS has already contacted your business, consider hiring a Tax Professional to help you walk through the Trust Fund Recovery process and the business and personal financial disclosure. You and your business will still need to figure out how to pay the balances owed, but having a professional working with you can ease the process. Expect it to take some time to get a resolution- time where the IRS will be closely watching to make sure your business is correctly making the Federal Tax Deposits.


8 COMMENTS

  1. By John Dough, July 28, 2014

    As a blogger and photographer, I am no stranger to the 1099. It is crucial that a contract employee set aside the taxable part of his income in a savings account to be prepared for the April filings. Great info and Article.

    Reply
  2. By JBanks, July 28, 2014

    Sounds as if there are very few (if any!) restrictions on the IRS when it comes to collecting delinquent tax debt. Is there any recourse for businesses or consumers who think their tax burden was incorrectly calculated or erroneously applied? Is it even worth the risk to fight the IRS in such a matter?

    Reply
    • By Tax-y Lady, July 28, 2014

      There are absolutely options for businesses or individuals who think that taxes were unfairly or incorrectly assessed. What options are available depend on the situation. Specifically with the Trust Fund discussed on this post, the business owners or interested parties meet personally with the IRS Revenue Officer in determining whether it is appropriate to assess the Trust Fund against them as individuals before it happens. If the Trust Fund is assessed, it is usually because that person (it can be more than 1 person responsible for part or all of the Trust Fund) made financial decisions, had authority over the operations of the business, and were involved in (or should have been) preparing or filing the taxes or making the federal tax deposits.

      Regardless of your situation: if you feel that you need help in an IRS issue, it can be very much worth your time and money to hire a professional. You should understand what is happening, and if you need clarification of the IRS regulations, hiring a professional is often going to be the best option.

      Reply
  3. By Jason, July 28, 2014

    I understand the need to stay caught up on payroll taxes, but when business is slow, there are times when paying the employees and suppliers is only possible if I skip a quarterly payroll tax payment. I guess I have been lucky, because I have always been able to make a payment plan to catch up on the back taxes. Maybe that is because my arrears never were more than $10,000?

    Reply
    • By Tax-y Lady, July 28, 2014

      You most likely have been lucky. This is the type of decision I am talking about that can lead to the personal assessment of the Trust Fund- deciding to pay employees and suppliers to the detriment of the IRS. Do this too often, or on too big a balance, and you may see not only big penalties assessed for failing to timely deposit, but also IRS Agents asking to meet with you about this. Making a payment plan once is usually possible, but try again and you see a lot more hoops to jump through and a lot more justification necessary as to why the IRS should allow the subsequent payment plan. You may be better off to consider other options if business is that slow- fewer hours for employees (which means less owed in tax), fewer employees (again- less taxes owed), or making payment arrangements with suppliers.

      If you are the one making these decisions for the business- be aware that in a worst case scenario, the IRS could be asking YOU personally for the equity in your house, filing a tax lien against you, levying your bank account, or otherwise expecting you personally to cover the business Trust Fund.

      Reply
  4. By eMoney, July 28, 2014

    I know from previous experience working as a 1099 real estate agent and mortgage loan officer for a brokerage firm that it is really important to set aside some of that money from your checks. Otherwise it can bite you in the you know what if you don’t manage it wisely.

    Very informative article!

    Reply
  5. By Katrina, July 28, 2014

    Nice article. As always the main piece of advice to know is to always pay your taxes! As a company, not paying your taxes will bring you down. No one can cheat the IRS! As a working individual who has filled out her W-4 blindly and has also worked as an independent contractor, best word of advice to others is to make sure you know your exemptions or you may have a nice “bill” from the IRS at the end of the year and save your work related receipts!

    Reply
  6. By it outsourcing for small business, July 28, 2014

    You ought to take part in a contest for one of the best websites on the web.
    I’m going to highly recommend this blog!

    Reply

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