First Circuit upholds corporate officers’ responsible person status

Schiffmann v. U.S., (CA 1 1/29/2016) 117 AFTR 2d ¶2016-386

The Court of Appeals for the First Circuit has upheld a district court’s determination that two officers of a corporation, that was years behind on its income and payroll taxes, were liable for the Code Sec. 6672 penalty. The Court found that both individuals, within certain time periods, had sufficient authority within the company to be considered a responsible person, and that each individual had acted willfully where he could have directed that unencumbered funds be used to pay off the company’s tax debts.

Background. Code Sec. 6672 imposes the trust fund recovery penalty on any person who: (1) is responsible for collecting, accounting for, and paying over payroll taxes; and (2) willfully fails to perform this responsibility. The amount of the penalty is equal to the amount of the tax that was not collected and paid.

In determining whether an individual is a responsible person, courts consider factors including whether the individual: (1) is an officer or member of the board of directors, (2) owns shares or possesses an entrepreneurial stake in the company, (3) is active in the management of day-to-day affairs of the company, (4) has the ability to hire and fire employees, (5) makes decisions regarding which, when and in what order outstanding debts or taxes will be paid, (6) exercises control over daily bank accounts and disbursement records, and (7) has check-signing authority. (Vinick v. Comm., (CA 1 1997) 79 AFTR 2d 97-190579 AFTR 2d 97-1905) Responsibility is generally a matter of status and authority, and it is determined on a quarter-to-quarter basis. In determining whether there is willfulness, the courts have focused on whether a taxpayer had knowledge about the nonpayment of the payroll taxes, or showed reckless disregard with respect to whether the payments were being made.

Facts. Richard Schiffmann began working for ICOA and became its president in October 2004. On Apr. 1, 2005, Schiffmann became CEO and, at or about the same time, also became a member of ICOA’s board of directors.

As CEO, Schiffmann supervised employees, had the authority to fire employees, and was involved in the acquisition of numerous subsidiaries. He also authorized payments to creditors, including payroll, was a signatory on ICOA’s bank account and exercised check signing authority when the officer who normally did so was unavailable. He was aware that ICOA experienced cash flow problems and had trouble paying creditors and, in August 2005, hired Stephen Cummings as a financial consultant. Cummings became the CFO on Oct. 25, 2005, and as such had check signing authority and was generally responsible for the company’s financial well-being.

Cummings learned shortly after becoming CFO that ICOA hadn’t paid its payroll taxes for several years and then made Schiffmann aware of this liability. In November, they informed the board of directors that ICOA was approximately four years behind on its payroll and income taxes. They had discussions on ways to raise funds to pay the tax liabilities and spoke to an attorney, but didn’t actually make any payments. ICOA’s board of directors fired Schiffmann and Cummings effective June 23, 2006.

After notice and demand on ICOA’s payroll processor, IRS made tax assessments under Code Sec. 6672 against Schiffmann for the second quarter of 2005 through the second quarter of 2006, and Cummings for the fourth quarter of 2005 through the second quarter of 2006.

Schiffmann filed a complaint to recover payroll taxes assessed and collected and to nullify the assessments against him. IRS counterclaimed to collect outstanding taxes against him and Cummings and moved for summary judgment. IRS also filed a statement of facts with its motion which Schiffman and Cummings didn’t dispute and was thus deemed admitted.

District court decision. The court determined that both Schiffmann and Cummings were responsible persons during the quarters for which the Code Sec. 6672 tax was assessed against them. Of the seven Vinick factors noted above, at least five were present for Schiffmann and at least four were present for Cummings.

On the issue of Schiffmann’s willfulness, the court noted that it “is settled law that a responsible person who becomes aware that taxes have gone unpaid in past quarters in which he was also a responsible person is under a duty to use all “unencumbered funds” available to the corporation to pay those back taxes.” (U.S. v. Kim, (CA 7 1997) 79 AFTR 2d 97-223879 AFTR 2d 97-2238) In this case, although Schiffmann didn’t learn of the tax delinquency until early November of 2005, the record showed that ICOA had sufficient unencumbered funds available to pay the taxes assessed for the period from the second quarter of 2005 through early November 2005. Because he failed to do so, he was considered to have acted willfully for that period. For the period after he learned of the delinquency, the court found that, by continuing to pay ICOA employees, he willfully preferred other creditors in lieu of paying taxes.

With respect to Cummings, the court noted that he became CFO in late October 2005 and learned of the unpaid taxes in early November 2005. As CFO, he chose what bills to pay in order to keep ICOA operating, authorizing payments to creditors other than the U.S., and was thus considered to have acted willfully for Code Sec. 6672 purposes. (Schiffman v. U.S., (DC RI 2014) 113 AFTR 2d 2014-1732113 AFTR 2d 2014-1732; see Weekly Alert ¶ 6 04/24/2014 for more details)

IRS then moved for summary judgment on the claims asserted by Schiffman and Cummings, respectively, which the court granted in an unpublished order, then entered final judgment to include sums certain ($394,334 plus interest against Schiffman, and $254,281 plus interest against Cummings).

First Circuit affirms. The First Circuit first considered the district court’s summary judgment determination that Schiffman and Cummings were responsible persons and found no error in its conclusion. Schiffman’s CEO status gave him effective power to pay the taxes, and he acted willfully in allowing the company to use unencumbered funds to pay other creditors. Similarly, Cummings was a CFO with check-signing authority who also authorized the use of company money to pay rent and operational expenses instead of taxes.

With regard to the second grant of summary judgment, the First Circuit similarly found no error in the district court’s conclusion. Here, although Schiffman and Cummings did submit a counterstatement of disputed material facts, those facts didn’t undermine the overall conclusion that they were responsible persons who acted willfully.

Specifically, they claimed that ICOA’s funds were actually largely encumbered and not available for tax payments, but failed to show the existence of any such legal obligation; they unsuccessfully attempted to draw a distinction between their technical power to avoid a default and the power they actually had, which the Court rejected as a “false dichotomy” that ignored the fact that each had the responsibility and authority to address the situation; their claim that the board of directors limited their check-signing authority by directing it not be used to pay taxes was belied by the record, which contained no such limitation; and their argument that they were subordinate to the board’s wishes, if true, wouldn’t shield them from liability because Code Sec. 6672 liability requires significant, but not exclusive, control over the disbursement of funds.

Recommendation. If your client is receiving IRS notices regarding payroll tax issues …PLEASE have a confidential conversation with them and their corporate attorney to determine  whether they may have  personal exposure to liability under Code Section 6672.