Don’t Always Believe What the IRS Tells You About Your Trust Fund Taxes (or Anything Else)

A 2017 case is a stark $300,000 reminder that the IRS is not bound by statements made by its employees, such as Revenue Officers. Tommy Weder was a responsible officer of a corporation which failed to pay its payroll taxes, and as a result, he was assessed a trust fund recovery penalty (TFRP) pursuant to IRC Section 6672. After he paid the $300,000, he filed suit in federal district court in Oklahoma requesting a refund. His theory was that the company had paid $300,000 towards the trust fund taxes, and that, therefore, his personal liability was reduced by that amount. In most cases, a taxpayer must pay any tax in full (not just a portion) before he or she can file a suit for a refund. However, under the so-called Flora rule, payroll taxes are divisible taxes, therefore, the taxpayer must only pay the tax due for one employee for one quarter.

The IRS took the position that the payment was not properly designated toward the trust fund, and that it was therefore entitled to, and did, apply the payment towards non-trust fund taxes owed by the company, which of course doesn’t reduce the trust fund recovery penalty. Weder didn’t dispute that there hadn’t been a written designation of tax. The payment had been made through the IRS’ EFTS system, and there was no designation. Weder argued, however, that the Revenue Officer that had been assigned to collection had met with representatives of the company, including its CPA, and that the Revenue Officer had demanded that the payment be made through EFTPS, and represented that the payment would be applied to the trust fund taxes.

The court ruled that absent a WRITTEN designation by the company, the IRS was free to apply the payment in the “best interest” of the government. The Court relied on Rev. Proc. 2002-26, which provides that absent written directions, the IRS “will apply payments to periods in the order of priority that the Service determines will serve the Service’s best interest.” It pointed out that prior to Rev. Proc. 2002-26 being promulgated, the prior IRS guidance was contained in Rev. Rul. 73-2. CB 43. That Revenue ruling only required that taxpayers give “directions.”

As to the alleged agreement between the taxpayer and the Revenue Officer, the Court ruled that an oral agreement between them was not binding in light of the Revenue Procedure. In some respects, the decision in this case was not surprising. Courts will generally not enforce the terms of oral agreements between taxpayers and an individual IRS employee. That is why it is so dangerous to blindly follow the instructions of an IRS employee. One would like to believe that IF the Revenue Officer told the company’s representatives that the payment would be applied to the trust fund taxes, that he did so in good faith. The problem was that once the payment was made, the Revenue Officer would have to affirmatively go into the IRS system to allocate the payments as he promised, and for whatever reason that never happened.

The solution is simple. If it’s important (and it always is), any payments to the IRS should be made by check and the designation should be stated on the face of the check, and also in a cover letter sent by certified mail. Anything less is invitation to disaster. $300,000 down the toilet because the taxpayer relied on the word of an IRS Revenue Officer!

There is a broader lesson. Taxpayers and their representatives can’t simply rely on statements made by IRS employees–especially as to the state of the law. As frustrating as it may be, taxpayers and their CPAs and lawyers must independently confirm any statement made by IRS employees.