You own an accounting firm. A
potential client is willing to pay you $4,900 month to do their accounting,
including payroll. You will be writing checks and paying vendors, including deposits
with the IRS.
Are you interested?
What can go wrong, you ask. Since
this is a tax blog, you can anticipate that someone is going to step on the
IRS’ or state tax agency’s tail, but that does not means that someone is
automatically wrong. A significant
part of my practice is representation, for example, which usually entails arguing
that my client is right.
Buddy and Barry are brothers
and together own an accounting firm. There is a North Carolina entrepreneur (Erwin)
who owns or operated at least 60 restaurants. He has a new deal to start a
Golden Corral franchise, which he does under the name GCAD. There will
eventually be five franchises under GCAD.
The restaurants start to lag. There is negative cash flow of approximately $2 million. Understandably, GCAD has difficulty paying its creditors. Erwin hires a new business manager (Pintner), who knows Buddy and Barry. They are hired to handle the accounting and taxes for GCAD.
Buddy and Barry obtain data
by accessing the restaurant computers remotely. After running payroll, they
send the checks to Pintner for distribution to employees. GCAD allows them direct
access to the bank account to remit withholdings. They do not need further authorization
to make payroll tax deposits.
They are also responsible for
paying vendors, but that process is a bit different. Initially they send checks
for signature, but eventually they are given a signature stamp.
By the way, remember that they
too are a vendor of GCAD. They are paid $4,900 a month.
The brothers are aware of the
cash stress. They inform GCAD and Erwin that there is not enough money to pay
everybody.
Erwin learns that the
brothers had failed to remit payroll taxes. He and another partner fund a capital
call, sending the brothers $150,000 with the following instructions:
“that absolutely under no circumstances whatsoever
were [you] to be late with any taxes.”
That did not seem to take,
and GCAD is again late with payroll taxes.
Business does not improve.
Erwin obtains release from one of the leases. GCAD goes three more quarters without
remitting payroll taxes. Erwin and his partners make another capital call.
Erwin eventually fires Buddy
and Barry. He moves the accounting to North Carolina, and GCAD gets current
with its payroll taxes. GCAD however does not pay its back taxes. It can’t. It
needs all the money it has to remain in business.
GCAD finally folds.
Uncle Sam shows up, and he
wants his payroll taxes. Erwin pays some, then immediately countersues to get
the monies back. The IRS starts swinging, suing Erwin and Pintner and Buddy and
Barry.
Erwin
lawyers up. Pintner lawyers up. The brothers do not. They show up in court “pro
se,” which means they are representing themselves. I consider that decision to
be suicidal.
Why suicidal? The IRS
considers the brothers a “responsible person,” and the IRS has a point. The
brothers did have quite a bit of discretion over who was paid with the limited
cash available. The IRS argues that it gets paid first, a point they are now
emphasizing by going after Erwin and Pintner and the brothers for trust fund
penalties. This is the “big boy” penalty, and it is 100 percent of the
withholding taxes.
How did it turn out? Read the
court’s verdict for yourself:
... the Light Brothers are jointly and severally
indebted to the United States for the unpaid withholding taxes assessed against
them, plus the applicable interest accruing according to law.”
The tab? Try $325,734.
The monthly $4,900 fee was
sweet, but not enough to cover the penalty.
Could representation have
saved the brothers? I am speculating at this point, but I do not believe so.
The brothers took on too many of the trappings of a corporate officer. The IRS
would be harsh on their control over the checking account, for example. The IRS
takes priority when it comes to payroll withholdings, and it reserves the right
to disregard other vendors – even if not paying other vendors would put one out
of business. The brothers paid other vendors (including themselves) before
paying the IRS. They walked directly into
the IRS crosshairs.
