In the recent case of Laird v. United States, (5th Cir. 2019) the court addressed the issue of whether the IRS could offset an overpayment resulting from an attempted designated payment. The Fifth Circuit distinguished earlier circuit precedent that the IRS could offset extra money that a taxpayer sent by creating a rule that the IRS can only do so when it applies the extra money to the tax account of the person remitting the money. The rule makes sense but here the facts get muddy.
If you have never represented someone who might have the trust fund recovery penalty (TFRP) assessed against them, you might wonder why one taxpayer would pay the taxes of another. Sure, there are many good and generous people in the world and we are in the giving season, but still, the payment of someone else’s taxes is not a customary holiday gift nor an ordinary act at any time of the year. The picture becomes clearer when the TFRP enters the picture. Let’s look at a typical fact pattern.
Corporation A builds buildings. It has 20 employees. Business has been slow, but it expects a turnaround at any time. Corporation A has a cash flow problem. To get it through the lean times, it looks for ways to conserve cash. One way it decides to do this is to pay its employees their salaries, otherwise they will walk, but to hold off on paying the IRS the withheld taxes and the employer’s share of FICA. Corporation A anticipates that it will soon have a contract that will allow it to make the tax payments and has no intention of stiffing the IRS. Unfortunately, the business downturn lasts longer than it anticipates, and some of its accounts do not pay on time. The unpaid taxes build up for several months at which time a friendly revenue officer appears at the door of Corporation A to demand payment, or levies will occur and the responsible officers will have the TFRP assessed against them pursuant to IRC 6672.
An officer of Corporation A, Bob, decides that the best thing to do in order to avoid the consequences of non-payment of the taxes is to pay them himself. He sends the IRS a check for the unpaid taxes and designates on the check how the funds should be applied. Unfortunately, he miscalculates the amount of debt that brought the revenue officer to the door of Corporation A and he sends a check for too much. While it does not happen too often that a corporate officer sends in too much in this situation, it does happen, and it did happen in the Laird case.
The IRS knew what to do with the extra money. It applied the funds to another debt of Corporation A which had not yet reached the hands of the revenue officer or it applied the debt to the non-trust fund portion of Corporation A’s outstanding liability. Bob did not intend to pay the non-trust fund portion of Corporation A’s debt because he had no personal liability for this debt. He only sought to pay the trust fund portion. He requests that the IRS return to him that portion of the check which overpaid the liability he sought to satisfy. The IRS argued that it had the right to offset this money against other debts of Corporation A.
In the case of United States v. Ryan, (11th Cir. 1995), the Eleventh Circuit answered the question in this case by holding that the IRS could keep the extra amount of a check sent in with a specific designation; however, in Ryan the taxpayer sending the check was the same taxpayer who owed the money. In Laird the person sending in the money, like Bob, is not the taxpayer. The entity, like Corporation A, is the taxpayer. The Fifth Circuit holds that this distinction makes a difference. Here, it holds that the individual (Bob) may require the excess amount be returned to him. In the case, however, these facts were unclear. The Fifth Circuit could not tell the true source of the funds. So, it remanded the case to the district court for a determination of the true payor of the funds. If the IRS can show that the corporation really paid the funds instead of the individual, then the IRS will be allowed to offset the funds. If the individual can show that the money was his, then the IRS must return the money to him.