Taxpayer Can't Avoid Being a Responsible Person Due to CPA's Embezzlement Scheme

(Parker Tax Publishing April 2024)

The Tax Court held that the sole shareholder and an officer of a company that failed to withhold and pay over employment taxes was a responsible person under Code Sec. 6672(a) and was liable for a penalty equal in amount to those employment taxes. The court rejected the taxpayer's argument that he was not a responsible person because of a learning disability with respect to mathematics and that the failure to pay employment taxes was due to embezzlement by the company's CPA; the court found that the focus was not on the taxpayer's abilities or whether he personally took responsibility for paying the employment taxes, but on his authority to control the company's employment tax obligations. Taylor v. Comm'r, T.C. Memo. 2024-33.

Background

Rodney Taylor has degrees in political science, speech, and theater, is fluent in several foreign languages. He has an interest in international affairs and also has a management degree in international relations. Early in his professional career he worked for the Mississippi Economic Development Authority at various locations in the United States and abroad. Later Taylor became associated with a management consulting firm but eventually left that firm to work for one of the firm's clients. In 1984 Taylor formed and operated his first consulting business. In 1993 he caused the incorporation of Taylor & Co., Inc., a management consulting and executive recruiting business.

Taylor was the CEO and sole shareholder of Taylor & Co. He had the authority to hire and fire employees and exercise control over the company's bank accounts. In January 2014 Taylor transferred assets from Taylor & Co. to a newly organized business entity. According to Taylor, his successes in management consulting and other professional endeavors are attributable to his interpersonal skills. He claims to suffer from a learning disability with respect to mathematics, but he is otherwise competent to conduct his personal and business affairs. Throughout his professional career he delegated many business and sometimes personal financial responsibilities to employees and accountants, including a CPA named Robert Gard.

Taylor hired Gard to manage Taylor and Co.'s bookkeeping and other accounting matters. Over a period of years Gard embezzled between one and two million dollars from the company. The embezzlement scheme was discovered in August 2013. Gard suffered a heart attack during a meeting with Taylor while they were going over records that Gard apparently had fabricated to cover up his embezzlement. According to Taylor, he took actions that saved Gard's life; and while recovering at the hospital, Gard confessed to the embezzlement. Taylor hired attorneys and accountants to reconstruct the amount of the losses Taylor and the company sustained because of Gard's embezzlement. Later Taylor and the company sued Gard to recover those losses.

According to the complaint filed in one of those lawsuits, Gard embezzled and spent funds allocated for the payment of some of Taylor &. Co.'s employment taxes. That lawsuit was settled in February 2014 upon a $175,000 payment to Taylor & Co. from an insurance company. Also in February 2014 Taylor and the company sued the bank that Gard used to further his embezzlement scheme. The parties agreed to settle that lawsuit by payment of $900,000 to Taylor in June 2015. Taylor used portions of the settlement proceeds from both lawsuits to pay personal expenses. Apparently, none of the settlement proceeds from either lawsuit were used to pay any of Taylor & Co.'s outstanding employment tax liabilities. Taylor continued to operate Taylor & Co. while the above-referenced lawsuits were pending. In December 2013 Taylor paid himself a bonus of over $77,000. In January 2014 funds held in Taylor & Co.'s bank accounts were transferred to bank accounts maintained by a new business entity that Taylor organized.

The IRS determined that Taylor & Co. had failed to collect and/or remit employment taxes owed for certain periods and assessed a trust fund recovery penalty (TFRP) against Taylor under Code Sec. 6672. Under Code Sec. 6672(a), any person required to collect, truthfully account for, and pay over any federal tax who willfully fails to do so is liable for a penalty equal to the total amount of that tax. "Person" as used in Code Sec. 6672(a) is defined in Code Sec. 6671(b) to include an officer or employee of a corporation who is under a duty to collect, account for, and pay over the tax. According to the IRS, upon the failure of Taylor & Co. to withhold and/or pay over employment taxes, Taylor was a responsible person under 6672(a) and therefore was liable for a penalty equal in amount to those employment taxes.

The IRS assessed the TFRP on April 2015. In a February 2016 letter, the IRS notified Taylor that a notice of federal tax lien (NFTL) had been filed with respect to the underlying liability. After an administrative hearing, the IRS determined to proceed with collection of the TFRP assessment. Taylor then took his case to the Tax Court. He argued that he was not a responsible person under Code Sec. 6672(a) due to his limited ability to comprehend mathematical concepts. Taylor noted that he hired others, including Gard, to take responsibility for Taylor & Co.'s bookkeeping and tax matters. As Taylor viewed the matter, the failure to pay Taylor & Co.'s employment taxes resulted from Gard's embezzlement, not from anything Taylor did or failed to do. Taylor also contended that he did not "willfully" fail to pay Taylor & Co.'s employment taxes. He also argued that he had reasonable cause for the failure to satisfy the company's employment tax liabilities.

Analysis

The Tax Court held that Taylor was a responsible person under Code Sec. 6672(a). The court found that Taylor controlled the financial affairs of Taylor & Co., disbursing corporate finds both to himself and to a newly formed business entity. Taylor also exercised authority to hire and fire employees and delegated various tasks involved in operating Taylor & Co. to those employees. The court noted that Taylor apparently made the decision to sue Gard on the company's behalf. In the view of the court Taylor clearly had and exercised control over Taylor & Co.'s corporate affairs.

The court rejected Taylor's contention that his responsible person status was negated by his difficulties comprehending mathematical concepts and his delegation of accounting and tax matters to others, including Gard. The court said that the focus was on Taylor's authority to control Taylor & Co.'s obligations to pay its employment taxes, not on whether he personally took responsibility for that duty. Considering his position with Taylor & Co. and taking into account his decisions to disburse company funds to pay for items other than the company's employment tax liabilities, the court concluded that Taylor was a responsible person for purposes of Taylor & Co.'s outstanding employment tax liabilities.

The court also rejected Taylor's argument that he did not willfully fail to pay Taylor & Co.'s employment taxes. The court noted that Taylor became aware of Gard's failure to pay the company's employment taxes no later than September 2013 when he filed a lawsuit alleging that Gard had "confessed to spending the funds allocated for payment of employment taxes." Taylor nonetheless disbursed Taylor & Co.'s funds to pay obligations other than those owed to the IRS. Taylor's willfulness was indicated, in the court's view, by his payment of these other obligations rather than paying Taylor & Co.'s outstanding employment taxes. Further, the court found that Taylor was obligated to ensure that the company's employment taxes were collected and paid over to the IRS even though he delegated responsibility for discharging that duty to Gard. The court also rejected Taylor's suggestion that he had reasonable cause. The court found that reasonable cause may not be asserted by a responsible person who knew that the employment taxes were due, but who made a conscious decision to use corporate funds for other purposes.

For a discussion of the responsible person penalty, see Parker Tax ¶210,108.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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