§6672 Trust Fund Recovery Penalty (Part I): Surviving the TFRP Examination Process
If you are reading this article, it is likely because you or someone you know received a letter from the IRS. The letter is probably several pages long, gives the name of a revenue agent to contact, and indicates that the IRS is seeking to assess the Trust Fund Recovery Penalty (TFRP) against you under §6672 of the Internal Revenue Code. The letter may also tell you that you are thought to be a “responsible person," and that you failed to file and pay the tax due one of the following forms:
- 941, Employer's Quarterly Federal Tax Return
- 720, Quarterly Federal Excise Tax Return
- 1042, Annual Withholding Tax Return for U.S. Source Income of Foreign Persons
- 945, Annual Return of Withheld Federal Income Tax
- 944, Employer's Annual Federal Tax Return
- 8288, U.S. Withholding Tax Return for Dispositions by Foreign Persons of U.S. Real Property Interests, or
- 8804, Annual Return for Partnership Withholding Tax (Section 1446).
You looked at the letter several times, couldn’t understand why the IRS was coming after you personally, and went into a panic when you saw the amounts the IRS is proposing to collect from you. If you were really lucky, you received a phone call from the IRS agent already, probably at a really inconvenient time. Now, the IRS agent wants to meet with you or hold a telephone conference to “ask you some questions." You immediately went on the internet and are now looking to see what the next steps are that you should take.
Step 1: Breathe. Although the TFRP examination process is a serious matter, it won’t do you any good to have panic attacks, stay up until all hours of the night worrying, or otherwise hurt your health.
Step 2: Know what you’re up against. The TFRP is a penalty which the IRS will seek to impose against any person required to collect, account for, and pay over taxes held “in trust" for the IRS, if that person willfully fails to perform any of these activities. Put another way, the TFRP may be imposed for (1) willful failure to collect tax, (2) willful failure to account for and pay tax, or (3) willful attempt in any manner to evade or defeat tax. The TFRP amount is equal to the total amount of tax evaded, not collected, or not accounted for and paid over.
Step 3: Talk to a tax attorney. There are some instances where a taxpayer should feel comfortable talking to the IRS alone. This is generally not one of those areas. All too often, my clients come to me having already met with the IRS agent, having said things they didn’t truly mean or not clearly conveying what they wanted to, and now seeking my help in correcting the auditor’s report and findings. This is not a position you want to be in. Even if you don’t end up retaining him or her, an attorney can probably assess your level of risk and explain what exactly is going on with your case.
Trust Fund Recovery Penalty: Overview and Background
The TFRP is not a penalty in the usual sense, but is a mechanism used to facilitate the collection of tax and enhance voluntary compliance. Usually, it serves as an alternative means of collecting unpaid trust fund taxes from a company or business that failed to pay the taxes, and now does not have enough money to do so. In order to “assess" (or actually impose) the penalty against you, the IRS agent must establish both responsibility and willfulness. A "responsible person" is one who has the duty to perform or the power to direct the performance of collecting, accounting for, or paying over trust fund taxes. See Slodov v. United States, 436 U.S. 238 (1978). Most trust fund recovery penalty cases involve officers of corporations, but a responsible person may also be an employee or other person assuming control of tax collection and payment of company liabilities. There can be more than one responsible person.
If the IRS determines you were a responsible person, they must next determine that you were willful in your failure to collect, file, or pay the tax due. "Willful" is defined as intentional, deliberate, voluntary, and knowing, as distinguished from accidental. "Willfulness" is the attitude of a responsible person who, with free will or choice, either intentionally disregards the law or is plainly indifferent to its requirements. See IRM 5.7.3. Therefore, if a responsible person knows of unpaid tax liability and uses corporate assets to pay other debts, the IRS may find a basis for that person to be found willful in their failure to pay. Finding willfulness is a facts-and-circumstances determination, so it is particularly important to have appropriate representation when conveying all the facts to the IRS.
Trust Fund Recovery Penalty: Interviews and Investigations
During an investigation for potential imposition the TFRP, the IRS agent will try to conduct interviews with potentially responsible persons. The IRS agent will explain what the TFRP is, present a copy of the TFRP calculation, and advise that the IRS can potentially collect the liability from a responsible person’s personal income and assets. The IRS agent will also ask questions and try to obtain documentation items from the person under investigation to support the assertion of the penalty. If the documents are not secured at the initial meeting, the agent will set deadlines for the information and documents. See I.R.M. 22.214.171.124.
Perhaps the most important part of the IRS agent’s TFRP investigation will be securing a Form 4180, Report of Interview with Individual Relative to Trust Fund Recovery Penalty or Personal Liability for Excise Taxes, from each potentially responsible person. The Form 4180 lists questions for the IRS agent to ask of a potentially responsible person, and the responses given will likely play a significant role in determining whether further investigation and collection action is taken. It is helpful to review Form 4180 with an attorney to ensure that the answers you give are clear and concise, and cannot be misconstrued by the IRS. The IRS may issue a summons to compel the potentially responsible person to attend the interview.
TAXPAYERS BEWARE: The IRS agent will likely ask you to sign the Form 4180. You should carefully review the Form prior to signing to ensure that all of the information is accurate. Your signature shows that you agree with what is on the report. Although your statement can be updated at a later date (with the changes initialed by the revenue officer and the person interviewed) you should ensure that your responses are truly what you mean the first time around.
The IRS will request documentation from the business itself, the person against whom assessment is sought, and other third-party sources. Records the IRS may request to support the TFRP recommendation against an individual include Articles of Incorporation/Organization of a business entity, bank signature cards or electronic PINs/Passwords, and copies of cancelled checks demonstrating payment to other creditors in preference over the IRS. If the taxpayer uses electronic banking, bank statements themselves may demonstrate debit transaction payments made in preference of IRS debt. See I.R.M. 126.96.36.199.4.
One example, provided by the IRS itself, illustrates a common pattern for how many TFRP investigations are conducted. This example should serve as a warning to those in similar circumstances to consult with an attorney prior to IRS communication:
A revenue officer (RO) completes an initial analysis and determines who the probable officers are through the information reviewed in the Articles of Incorporation. The RO makes a field call to the business, speaks to the one officer present and secures Forms 4180 and 433-A Collection Information Statement. The RO requests bank documents from the taxpayer and establishes a deadline for the information. The RO schedules and completes a Form 4180 interview with the officer who was not present during the initial field call. When the taxpayers fail to submit the requested documents, the RO prepares Form 6639 requesting bank signature cards and a sampling of the front copy of checks for the periods of the liability. Following the expiration of the bank summons quash period, the RO reviews the bank records and determines there are no additional signature authorities on the account. Based upon review of the cancelled checks, the RO determines that payments were made by both officers to other creditors in preference to the accruing taxes. The RO has secured the core documentation items and has sufficient documentation to support recommendation of the TFRP against both parties. I.R.M. 188.8.131.52.4.
Preparation is the key to successfully defending a TFRP investigation. You do not want to be caught off-guard by an IRS agent and make statements that, although clear in your mind, will come back to bite you. All too often, people are assessed the TFRP because of statements they made which did not tell the entire story. Several of my past clients have been low-level employees of companies who were assessed the TFRP because of schemes and misdeeds perpetrated by those in charge. Most of them have had to spend otherwise-unnecessary time and money to file lawsuits to contest their TFRP assessment. Seeking the advice of a qualified tax attorney before and during an IRS investigation can not only give you peace of mind, but it can save you thousands in court costs and countless hours of your time.
NOTE: If you truly are a responsible person who willfully paid other creditors before the IRS, you may still have options available to you to prevent the IRS from collecting against your personal assets. See the discussion in Part III of this series.