10..30.20 – Mitch Reitman- Reitman Consulting Group
The IRS periodically reports successful criminal prosecutions of taxpayers who commit fraud, are prosecuted, and convicted. While some of them are the result of scams or criminal activity, a few are just bad business practices and decisions which either landed a business owner in criminal court or resulted in losses to innocent businesses due to the fraudulent acts of others. Below is a summary of a tax fraud cass and a bit of analysis:
Engineer Jeffrey Fitch has been sentenced to a year and a day in prison for failing to collect or pay over federal employment taxes.
Mr.Fitch, of Portland, Oregon owned and operated SFA Engineering and SFA Design Group. Between March 2013 and December 2016, he collected federal income, Social Security and Medicare taxes from employees’ paychecks and gave them paystubs reflecting the taxes withheld. He never paid the IRS the tax withheld nor did he file appropriate employer returns. Fitch also failed to pay the employer’s share of federal payroll taxes.
It isn’t uncommon for small business owners to fail to pay over payroll taxes or to file the required payroll tax returns. These businesses essentially use tax money for a line of credit. It’s easy to do, at first. Eventually the IRS catches on and things can get rough. Unlike a typical business creditor, the IRS has some very powerful collection tools.
Payroll taxes have two components,
- the taxes that the business pays for the “Employer” portion of Social Security (FICA) and Medicare
- the “Employee” portion that the business deducts from employees’ paychecks for the employees’ portion of FICA and Medicare, and, for the Federal Income Tax that the business withholds from paychecks and is required to pay over to the IRS
Component number 2 is considered “Trust Funds” by the IRS in that they are funds that belong to the IRS and are held in trust by the employer for the employees’ benefit. Unlike the taxes in component 1 that are expenses of the business, Federal Law gives the IRS tremendous power to collect the Trust Funds. One of the collection tools is Trust Fund Recovery. This allows the IRS to collect the amount from an owner or officer of the company personally, if certain requirements are met. Employers who do not pay over Trust Funds are almost always subjected to Trust Fund Recovery and the amounts are collected from their personal tax refunds, levy of their personal bank accounts, or even seizure of assets. The process is very invasive and seems unfair, but it really isn’t. The IRS takes the position, and it is a well established position, that this money belongs to the IRS, and is for the benefit of the employee, and that the business had no right to do anything but pay it over to the government. I have heard plenty of arguments regarding fairness, and Constitutionality, but they all fall flat. This isn’t a tax, or fee, these funds don’t belong to the business and never did.
The IRS is serious about collecting Trust Funds. The amounts are easy to compute. Businesses are required to file Forms 941 on a quarterly basis, and, even if they don’t, they have most probably withheld the funds on paychecks and there are pay stubs that document the withheld amounts. Employers are also required to report FICA and Medicare amounts to the Social Security Administration. When an employer fails to report the amounts to the Social Security Administration employees often become aware that the deposits aren’t being made and may report an employer to the IRS. The IRS looks at the check stubs and can’t find payroll tax returns showing the deductions.
While the Trust Fund Recovery process is usually successful, some taxpayers use schemes and other tactics to thwart the process, for awhile. You have probably seen the advertisements for the “services” that offer to “reduce your tax bill to pennies on the dollar.” While these services are occasionally successful, they typically only prolong the inevitable. In extreme cases, these services can get a taxpayer into more trouble than they were in originally.
I am not sure if Mr. Fitch received bad advice, was careless, or if he planned and executed his own scheme, but, he is going to have a year and a day in Federal Prison to think about it. It appears that Mr. Fitch’s Tax Liability was around $1,000 a week. This is approximately the liability resulting from a $12,000 per month payroll so he probably had three or four employees. As many businesspeople find out, it is easy to “borrow” from payroll taxes, and most issues I have seen start out small and grow quickly. Mr. Fitch’s second mistake was not filing his payroll tax returns. Fortunately he didn’t make the bigger mistake of filing returns with incorrect or fraudulent numbers. The liability grew to over $450,000 and the IRS wanted their money. I don’t have complete details on the case, but it is obvious that the situation became acrimonious very quickly and the IRS used a fairly new approach under which they consider failure to pay over trust funds as theft and prosecuted Mr. Fitch in Federal Court. It isn’t clear if they also prosecuted him for failure to file the payroll tax returns, but this was definitely a factor in the case. The IRS also found that “Fitch used a large portion of the withheld funds to pay his and his family’s personal expenses.” This never sets well with the IRS and wouldn’t look good in front of a jury. Fitch owed the IRS $453,879.40, which he paid just prior to sentencing. He most probably did this to reduce his sentence under the Federal guidelines. He was also ordered to pay more than $453,000 (typically penalties and interest) in restitution to the IRS.
Let Mr. Fitch’s experience be a lesson for us all.
- Resist the temptation to “borrow” money from the IRS
- Make timely tax deposits
- File accurate payroll tax reports (even if you can’t pay at the time)
- Seek advice from competent tax advisors
- Don’t develop schemes or theories
- Resist the temptation to fall for “too good to be true” offers from “tax resolution” firms