Article: Undeposited Payroll Taxes a No-Win Situation

December 2008

Undeposited Payroll Taxes a No-Win Situation

From imposing penalties and interest to personal liability, Uncle Sam comes down hard on employers who treat his money as theirs

When an employer runs into cash flow problems, there may be a temptation to dip into the pool of undeposited withholding taxes and withheld retirement plan contributions in order to meet more pressing financial obligations. As is the case with most temptations, this is definitely one to resist.

Failing to remit payroll taxes and retirement plan contributions in a proper and timely manner not only undermines your fiduciary responsibility to your employees and the government; it could subject your company to harsh penalties and make you personally liable for the amounts that your company fails to pay.

From the moment you issue a paycheck, the income and Social Security taxes that you withhold from that check is no longer yours to use. If you don’t remit the deducted amounts by the next tax deposit deadline, along with the appropriate amount of payroll taxes, you could face penalties for making late deposits, not depositing the proper amount, failing to file returns, and filing false returns.
The rate of these penalties increases every day that they remain unpaid past the due date, and interest is charged both on the unpaid taxes and on the penalties that are ultimately assessed, retroactive to the date of the event that gave rise to the penalty. If you have ever been assessed penalties and interest by taxing authorities, you know from painful experience that they can grow to enormous proportions.

Personal liability. Perhaps the most compelling argument to make is that you could be personally on the hook for unpaid taxes, penalties and interest. Under Code Sec. 6672, when an employer fails to properly pay over its payroll taxes, the IRS can seek to collect a penalty equal to 100% of the unpaid taxes from any “responsible person,” i.e., a person who (1) is responsible for collecting, accounting for and paying over payroll taxes, and (2) willfully fails to perform this responsibility.

Retirement contributions. Businesses that maintain a retirement plan and allow employees to make elective deferrals might be tempted to “borrow” money they deduct from employees’ pay for plan contributions to pay other business expenses.

Employers have fiduciary obligations under the Employee Retirement Income Security Act of 1974 (ERISA) to deposit the deducted amounts as soon as those amounts can be segregated from their own general assets, but no later than the 15th business day of the month immediately after the month in which they withheld the contributions. (However, making the deposit by the 15th business day is not a safe harbor; the attitude of the U.S. Department of Labor is that, with today’s technology, employers should be able to consistently segregate the contributions in three to five days.) Under a proposed Labor Department rule, plans with fewer than 100 participants are treated as meeting this deposit rule if such contributions are transferred to the plan within seven business days from the date those amounts would otherwise have been payable to the employee in cash.

Based in Mesa, Arizona, and serving closely held businesses in the East Valley, the Phoenix area and throughout Arizona, Schmidt Westergard & Company, PLLC, is an independent full-service tax, audit, accounting and business advisory firm focusing on the middle market.