Stay-at-Home Mom Not Liable for Trust Fund Recovery Penalty

The IRS has the ability to assess a trust fund recovery penalty against those who are responsible for withholding payroll taxes for employees if they fail to withhold and pay over the taxes to the IRS. Then penalty is equal to the amount of the withheld but unpaid tax. Liability for the penalty falls on the “responsible person” or persons. The Fitzpatrick v. Commissioner, T.C. Memo. 2016-199, case involves the common situation where a stay-at-home mom was assessed a trust fund recovery penalty for her husband’s business.

Facts & Procedural History

The facts and procedural history are as follows:

  • The taxpayer’s husband was a semi-active partner in a franchised restaurant.
  • The taxpayer provided minimal assistance to the restaurant, primarily during its startup phase.
  • This included hiring Paychex, a payroll tax processing firm, setting up the bank accounts, and delivering paychecks and mail (that was sent to her home address) to the business.
  • Other than these tasks, the taxpayer was a stay-at-home-mother who was caring for a child with a serious disability.
  • Paychex stopped debiting the payroll taxes from the checking account in 2008 when it was not able to debit payroll taxes due to insufficient funds in the checking account. Paychex continued to produce payroll checks and reference copies of Forms 941 and it debited the amount of the payroll checks from the checking account.
  • In 2011, after the restaurant had shut down, the IRS started investigating whether additional payroll taxes should have been paid.
  • The IRS ended up assessing trust fund recovery penalties for the two owners, the restaurant manager, and the taxpayer.
  • The taxpayer filed suit to challenge the assessment.

The Trust Fund Recovery Penalty

As mentioned above, the trust fund recovery penalty is equal to the amount of the withheld but unpaid payroll taxes. The person responsible for the penalty includes an officer or employee of a business who is under a duty to collect, account for, or pay over the withheld tax given their role and responsibility in the business.

As noted by the court, responsibility is indicated by “the holding of corporate office, control over financial affairs, the authority to disburse corporate funds, stock ownership, and the ability to hire and fire employees.”

At the administrative level, the IRS often interprets this to include any person who has an ownership interest in the business and any person who has any connection with the business checking accounts.

The Responsible Person

The IRS argued that the taxpayer “possessed all the recognized indicia of responsibility and was therefore a responsible person” and asserted that she “exercised substantial financial control over [the business] … and that at all times [she] … was a de facto officer of the corporation because she opened two corporate bank accounts, had signatory authority on both accounts, and signed checks on behalf of the corporation.”

The taxpayer countered by arguing that she lacked decisionmaking authority, did not exercise significant control over corporate affairs, and despite her signatory authority, she was not a responsible person within the meaning of section 6672 because she had a limited role in the business’ payroll process and merely signed payroll checks for the convenience of the corporation.

The court agreed with the taxpayer. It concluded that “her role was ministerial and that she lacked decision making authority.” So it held that the taxpayer was not a responsible person for purposes of the trust fund recovery penalty.

The Takeaway

As noted by the court, the taxpayer’s credibility as a witness went a long way in helping her prevail in this case. The court found the taxpayer’s testimony to be highly credible. This is juxtaposed with the other witness whose testimony the court found not to be credible. This credible versus not credible factor often drives the outcome in trust fund recovery penalty disputes. As in this case, it is a factor that IRS employees often fail to take into account when assessing the trust fund recovery penalty.

The taxpayer’s limited role in the business and significant role in caring for her disabled child also helped. This helped establish that it was reasonable that she was not aware that Paychex was no longer debiting payroll taxes and that she did not have authority to remedy the problem even if she had known of it. The IRS would have been privy to these facts if it had taken the time to perform a more thorough investigation of the facts for this taxpayer before assessing the penalty.

As in many cases, the IRS merely assessed the penalty against the taxpayer given her limited connection with the checking account and business even though the IRS did not have any substantial contact with her. It is not clear from the opinion why the IRS appeals function did not settle this case during the collection due process hearing. It would seem like the appeals function would have concluded that a stay-at-home mom with limited involvement in the business, as in this case, is not liable for the trust fund recovery penalty for her husband’s business.

So the takeaway is that taxpayers who find themselves in this situation should contest the IRS’s determination that they are a reasonable person for the trust fund recovery penalty.

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