Trust Fund Penalty – Rules for DBA and Single Member LLC

Generally, the IRS has to assess trust fund penalties to make individuals in a corporation personally liable for unpaid payroll taxes.  The word “corporation” has meaning in tax law.  If the business is not considered a corporation, then the owner is automatically personally liable for unpaid payroll taxes.  Read this blog for more information on the trust fund recovery rules for DBAs and Single Member LLCs. 
Read blog “Trust Fund Penalty – What is it?” for more information on the definition of trust fund recovery penalty.  For more information on who is considered a responsible person read blog “Trust Fund Penalty – Who is the Responsible Person?”
Please note that multi-member LLCs are automatically treated as a corporation.  Therefore, the IRS must conduct a trust fund recovery penalty investigation to hold individuals in the multi-member LLC personally liable for unpaid payroll taxes.

The rule for DBAs is simple.  A DBA is not a corporation for federal tax purposes.  As a result, the IRS does not have to conduct a trust fund recovery investigation for DBAs.  This means that the owner of the DBA is personally liable for all unpaid payroll taxes.  This includes the employees portion and the employer’s portion of payroll taxes.  To insure compliance, the IRS will tie the DBA’s Employee Identification Number (EIN) to the business owner’s social security number.   The IRS will have the option to collect the unpaid payroll taxes by issuing liens on personal assets and levying/garnishing personal bank accounts.

The rule for a Single Member LLC is a little more complex.  There are two factors involved when determining whether the IRS must conduct a trust fund recovery penalty investigation to hold individuals in the business personally liable for unpaid payroll taxes.   Those factors are the following:

1)    Are the unpaid payroll taxes for periods before or after January 1, 2009?
2)    Was an election made to treat the Single Member LLC as a corporation?  If so, when?

Due to court rulings, it was determined that after January 1, 2009, all Single Member LLCs are treated as corporations for employment tax purposes.  What this means is that if there are unpaid payroll taxes after January 1, 2009, then the IRS must conduct a trust fund recovery penalty investigation to hold individuals in the corporation personally liable for this period of unpaid payroll taxes.  However, if there are unpaid payroll taxes prior to January 1, 2009, the IRS does not have to conduct a trust fund recovery penalty investigation and the owner of the LLC is personally liable for this period of unpaid payroll tax.  See the following examples.

Example 1 – Single Member LLC business fails to pay payroll taxes due for 2nd quarter of 2008.  The IRS does not have to conduct a trust fund recovery penalty investigation.  The owner of the LLC is personally liable for unpaid payroll taxes.

Example 2 – Single Member LLC business fails to pay payroll taxes due for 3rd quarter of 2010.  The IRS does have to conduct a trust fund recovery penalty investigation.  Any individual in the LLC may be held liable for the trust fund portion of unpaid payroll taxes.

Example 3 – Single Member LLC business fails to pay payroll taxes due for 2nd quarter of 2008 and 3rd quarter of 2010.  The IRS does not have to conduct a trust fund recovery penalty investigation for 2nd quarter of 2008 taxes.  The IRS does have to conduct a trust fund recover penalty investigation for 3rd quarter of 2010 taxes.

The second factor to consider is whether there was an election filed to treat the Single Member LLC as a corporation for federal tax purposes.  If the Single Member LLC is treated as a corporation, then the IRS must conduct a trust fund recovery penalty investigation to hold individuals in the corporation personally liable for unpaid payroll taxes.  It is important to note that the date the election is made can change things.  To help explain please review this example.

Example:  A Single Member LLC has unpaid payroll taxes for March 30, 2004, through June30, 2005, and March 30, 2006, through December 31, 2006.  These back payroll returns were filed in 2012.  Please read my blog “Trust Fund Penalty – How long to assess?” to understand why I noted the filing due dates.

Scenario 1 – The Single Member LLC elected to be treated as a corporation when the business started on January 1, 2004.  Since the company was treated as a corporation on January 1, 2004, the LLC is considered a corporation for federal tax purposes during the time the business failed to pay payroll taxes.  Therefore, IRS must conduct a trust fund recovery penalty investigation to hold individuals in the corporation personally liable for all unpaid payroll taxes.

Scenario 2 – The Single Member LLC elected to be treated as a corporation effective January 1, 2006.  The LLC is not considered a corporation prior to January 1, 2006, because it is before January 1, 2009, explained previously.  The LLC is considered a corporation after the election date of January 1, 2006.  Therefore, the IRS does not have to conduct a trust fund recovery penalty investigation for tax periods March 30, 2004, through June 30, 2005.  The IRS must conduct a trust fund recovery penalty investigation for tax periods March 30, 2006, through December 31, 2006.

Understanding the trust fund recovery penalty rules can be complicated, if you need help to determine if the IRS rightfully assessed you trust fund penalties, call ALG Tax Solutions 855-MI-Tax-Help (855-648-2943) or provide your contact information online.

IRS Circular 230 Disclosure: To the extent this writing contains advice on a federal tax issue, the advice is not intended to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code, or (ii) promoting, marketing, or recommending to another party any transaction or matter addressed in this communication.

2 Responses to “Trust Fund Penalty – Rules for DBA and Single Member LLC”

  1. Thank you for this very helpful article. I do have one question. In IRS Publication 3402, Taxation of Limited Liability Company, it states that an LLC can elect to be classified as a S corporation. Does an individual member of an LLC that has elected S corp status have the same protections from personal liability for payroll taxes as an individual member of an LLC that has elected C corp status? Stated differently, does the IRS have to conduct a trust fund investigation to impose personal liability on individual members of an LLC that has elected S corp status?

    Thank you.

    • Yes, the IRS must conduct the trust fund investigation for a single member LLC that has elected to be taxed as a S-Corp.

      If the LLC did not file for S election since the LLC started then there are other factors to consider.