What to do if you can’t pay your payroll taxes?

The IRS really hates businesses that fail to pay their payroll taxes for good reason. The government ends up paying for these failures twice. First, they never get the money. Second, they end up having to credit the employees with the withholding and potentially pay refunds on the money they never received. The resulting IRS policy is to put you out of business as soon as possible to avoid the run-up of these tax debts.

What should you do if your cash flow just can’t hack it?

Step 1 is to stop digging the hole. Immediately, start paying your payroll taxes for each payroll at the same time you pay the employees. If your cash situation is so bad that paying your payroll taxes and employees is not feasible, start laying them off until you get it down to what you can pay. In my experience, the idea that your business is going to magically improve next week never happens.

Step 2, you need a new business plan yesterday. The planning process needs to consider all the standard cash flow options such as collecting on receivables, stringing out suppliers, and improving inventory turns. Cash flow is one thing, but profitability is the only thing that works in the long term. Unless you can find a clear path to profitability, the company is not going to survive. Recognize it. Close it. Go on to something new.

Step 3 is to minimize the impact on you the business owner. The IRS will eventually show up and assess a penalty on you personally for the monies withheld from the employees’ paychecks. You can minimize this impact by paying those trust funds personally and designating that payment to be applied to the “trust funds only”. This will reduce the unpaid trust funds portion that the IRS could eventually assess upon you. This only works if you make the payment voluntarily. The company cannot do this.

Conclusion

Unpaid payroll taxes are the worst tax debt you can have. The IRS will eventually shut you down, but they usually don’t show up until the debt is large. You then file for bankruptcy, but the IRS will assess the Trust Funds Penalty on you personally. Now you’re out of business and an employee again. But you owe $100k or more with the IRS threatening levies against your wages for the next 10 years. The time for action is now.

What to do when you can’t pay your payroll taxes?

Cash flow is in the toilet, and you are past due on prior quarters’ payroll tax liabilities. You can barely cover the next payroll check run. What to do? My number one rule for having a better life is “Don’t go broke while owing the IRS for payroll taxes”. The reason is simple. They will make your life even more miserable by assessing the Trust Fund portion of the taxes on you personally. You will not be able to discharge this penalty in bankruptcy which means that the IRS will be after you for the next 10 years.

Must Do Steps

Step Number One is you need a new business plan, and you need it fast. Moreover, it must be a real plan that shows a clear path to cash flow and profitability. If you can’t produce this plan, it’s time to shut the business down. Either go back to being a sole proprietor without employees or move on to something better. Digging the hole deeper is a bad bet.

Step Number Two is to reduce the liability for the Trust Funds portion of the payroll tax liabilities. Assuming the business is being taxed as a corporation, transfer whatever cash is available to the owner and let them make a voluntary payment to the IRS for the payroll taxes. The owner needs to pay the IRS by check along with a letter that designates that the payment is to be applied to the “Trust Funds Only” for each outstanding liability period under Rev. Proc. 2002-26. Eliminating the trust fund portion of the tax debt eliminates the possibility of the Trust Fund Recovery Penalty being assessed on the owner individually.

Staying in Business

Here are a couple of ideas if the business is going to continue:

1. The business should immediately set up a payment plan to cover the balance of the payroll taxes owed. Do not wait for the IRS to contact you. Things will not get better with a Revenue Officer assigned to your case.
2. Make future payroll tax deposits on the same day that you pay the employees. Your payment plan will automatically be in default if you do not make all tax deposits timely. It is critical that you don’t let this get away from you.

The great thing about the American Economic System is that you are allowed to fail and go on to other things. However, a payroll tax liability that is perhaps in the hundreds of thousands is going to make that recovery ever so much harder.

Don’t Put Mom In a Payroll Tax Ditch!

The Scenario – You need to make payroll this week but don’t have the cash. So, you go to Mom for a loan. She wants to help, but has limits. So, she writes you a check for the exact amount of the net payroll, and good record-keeper that she is, writes in the memo, “Net payroll due June 19, 2020.”

NOT such a great idea!

IRC Section 3505 allows the IRS to collect unpaid payroll Trust Funds from third party lenders. This applies when lenders lend funds for payroll knowing that the employer could not or would not deposit the required federal payroll taxes.

Yes, taking a loan for the net amount of the payroll is reasonably good proof that the loan was only for payroll; it was unlikely that the corresponding payroll deposit would be made. The IRS uses this evidence to assess the unpaid taxes on Mom, who may no longer love you as much.

How do you avoid alienating Mom? Do what professional lenders do in such loan circumstances. First, they’d never make the loan for the exact amount of the net payroll. Second, the loan agreement would NOT specify that the money was to be spent on payroll. This is a reasonably easy way to avoiding putting Mom down a hole.

If you or someone you know has received a Notice of Intent to Levy or has some other federal or state tax problem, please feel free to call or text me at (352) 317-5692 or email me at jim@taxrepgainesville.com .

Smart Way to Pay Late Payroll Taxes

The Scenario – Your business has fallen behind on paying payroll taxes. You can borrow some money, but not enough to pay off the full past due amount. Now what?

The answer is that you want to minimize the impact of the IRS assessing a penalty on you personally for 100% of the unpaid Trust Funds. The way you do it is to make a voluntary payment with a check. On that check you want to write in the comments section “Trust Funds Only”. Due to Revenue Procedure 2002-26, the IRS must comply with your request on how to apply the payment against your account.

Why is this good? Sooner or later the IRS is going to get around to collecting those payroll taxes. Their big tool in this process is to access a penalty on the “responsible parties” equal to 100% of the money withheld from employees’ paychecks for income, social security, and medicare taxes. If you make a payment for the business to cover part of the past due amount without any designations, the IRS will automatically apply it first to the unpaid employer taxes. This allows them to maximize the 100% penalty when it is assessed.

If you or someone you know has received a Notice of Intent to Levy or some other federal or state tax issue, please feel free to contact me at either (352) 317-5692 or email jim@taxrepgainesville.com .

Can’t Pay Your Payroll Taxes?

Despite shrinking revenue, many businesses owners are choosing to keep valuable employees during the coronavirus shutdown. And with cash in short supply, it’s tempting to ‘defer payroll tax deposits to the IRS.

I assure you, going broke owing the IRS for payroll taxes is the worst mistake a business owner can make.

It’s time for a new game plan! Companies that are unable to make their required payroll tax deposits —and are out of borrowing power —have these choices:

Downsize the staff to a level you can afford. This may mean going back to the owner being the only employee. But drastically cutting your overhead will allow you to get by while exploring other avenues.
Close altogether.
Or, take the biggest risk of all – keep things as they are, and hope things get better. This approach has led a lot of people to a decade of grief. They continue to pay payroll, but stop making their payroll deposits.

You might think that the payroll tax is a corporate liability and that you personally can walk away. Think again. The IRS can and will assess a penalty equal to the trust funds (taxes withheld from the employees) on anybody that they feel is responsible for not paying them. Every business owner with check-signing authority will most likely be considered a responsible person. Here is the disaster — you cannot get rid of this penalty by filing individual bankruptcy. The IRS is going to be after you for at least 10 years.

If your cash flow is not cutting it, options 1 and 2 are your best bet. Your life will probably recover in 2 to 5 years and you can mark it up to lessons learned. Failing at option 3 will greatly expand your suffering.