Individuals that have “responsible” positions in a company could be found to be personally liable for the company’s unpaid taxes in certain states. State taxing jurisdictions are increasingly turning to responsible person laws to collect unpaid liabilities.1 This trend is due in part to the increase in company bankruptcies during the last few years. From 2007 to 2010, the number of U.S. companies filing for Chapter 7 or Chapter 11 bankruptcy almost doubled.2
Responsible person liability may apply in the context of sales and use taxes, withholding taxes and corporate income taxes, as well as all other taxes administered by a state taxing authority. Although responsible person issues often arise following bankruptcy, such issues may also present themselves following dissolutions and liquidations. The topic is important for officers, members and employees who may be personally liable for such taxes as well as for in‑house tax department personnel who manage tax reporting and payment.
In this article, we address: (1) the types of taxes and penalties that could be at issue; (2) the types of individuals who have been found to be responsible persons; and (3) procedural issues that may arise. One thing is certain. That is, the states are not uniform in the taxes for which an individual could be responsible, the individuals who could be responsible persons and the applicable procedure.
Applicable Taxes and Penalties
States may hold individuals liable for sales and use taxes, withholding taxes, corporate income taxes and even, in some states, all taxes administered by the state taxing agency. Individuals may also incur civil penalties or criminal penalties. Furthermore, joint and several liability may apply to multiple responsible persons within a company.
Sales and Use Taxes
State responsible person laws often apply to sales and use taxes. For example, California holds responsible persons liable for “any unpaid [sales and use] taxes and interest and penalties on those taxes, if the [responsible person] willfully fails to pay [those] taxes.”3 In addition to liability for the California sales tax that should have been collected on a company’s sales, an individual may be responsible for sales and use taxes that the company was responsible for paying as a consumer on its purchases.4
Other states, such as Connecticut, New Jersey, New York and North Carolina, do not use language that is as succinct as the California language to impose personal liability, but provide for liability by including responsible persons in the definitions of persons required to collect sales and use tax.5
Responsible person laws may also apply to withholding taxes. For example, the Massachusetts tax statutes provide that any officer or employee “who fails to withhold [personal income taxes] shall be personally and individually liable therefore to the commonwealth.”6 In South Carolina, a responsible person may be “individually liable for the amount of [personal income tax] not withheld or paid.”7
In some states, individuals may be liable for all taxes of a company. For example, Virginia law provides that any officer or employee who willfully fails to pay “any tax administered by the Department” may be liable for the tax.8 The Virginia Department of Taxation administers 23 taxes including corporate income tax, sales and use tax, withholding tax, bank franchise tax, cigarette excise tax and telecommunications tax.9
The Colorado statute is similarly worded and applies responsible person liability to any tax administered by Article 21.10 The Colorado Department of Revenue administers 13 taxes under Article 21 including corporate income tax, sales and use tax, withholding tax, cigarette tax and gasoline tax.11
Penalties and Interest
In addition to the tax liability, a state may provide that responsible persons can be liable for penalties and interest that would otherwise be assessed on the company.12 For example, in the sales tax context, Connecticut expressly holds responsible persons liable for the 15% late filing penalty that is typically asserted against the company.13 A responsible person under Connecticut law is also liable for interest at the rate of 1% per month running from the due date.14
States may also impose penalties that are specific to responsible persons. If a responsible person willfully fails to remit Colorado taxes, such as the corporate income tax or sales and use tax, a responsible person may be subject to a penalty of 150% of the tax due.15
Joint and Several Liability
A state may assert joint and several liability for a company’s unpaid taxes. New York case law provides for joint and several liability for responsible persons.16 The Rhode Island Division of Taxation’s position is also one of joint and several liability.17
Thus, responsible persons may be fully liable for the unpaid taxes to the extent that the tax liability has not been satisfied by another responsible person. For instance, a New York State Administrative Law Judge rejected the argument that, because there were three other officers that were also responsible for submitting the unpaid taxes, a responsible person should be held liable for only 25% of a company’s unpaid New York withholding tax.18
Beyond financial penalties, some states impose criminal liability on responsible persons who knowingly fail to collect and remit a company’s taxes to the state. It is a Class D felony in Indiana, for example, for a responsible person to knowingly fail to remit sales taxes to the state.19 A Class D felony in Indiana may result in imprisonment of up to three years.20
In Virginia, a willful failure to remit sales or withholding tax could result in an individual being found guilty of a misdemeanor.21 Certain persons who willfully fail to file a Wisconsin corporate income tax return may be guilty of a misdemeanor in that state.22
Who Could Be a Responsible Person?
The states vary in their definitions of a responsible person. The determination of who is a responsible person may depend merely on the person’s title or may be a fact-intensive inquiry.
Some states consider only an individual’s title in a company to determine potential individual responsibility. States may also look to whether an individual is a partner or member in a flow‑through entity (for income taxes) to determine whether the individual could be liable for unpaid taxes.
For example, the Maryland statutes extend the liability for Maryland sales and use taxes to “any president, vice president or treasurer.”23 The Maryland statutes do not contain language that would require such officers to oversee or manage financial or tax matters of the corporation.24
Also title-based, the Ohio regulations provide that officers of a corporation who own, collectively or individually, more than a 50% interest in the corporation are liable for Ohio withholding payments and sales tax if the corporation failed to file withholding reports or sales tax returns or failed to remit payment with a filed report or return.25 Under the New York statutes, a partner (whether general or limited) of a partnership and a member of a limited liability company may be held strictly liable for the company’s New York sales tax obligations even if the partner or member did not have a duty to remit the tax on behalf of the company.26 Recently, the New York State Department of Taxation and Finance adopted a policy that relieves qualifying limited partners and members of limited liability companies from per se liability for some or all of the unpaid New York sales and use taxes of the limited partnership or limited liability company if specific conditions are met.27
Defenses to Title-Based Liability
In states in which responsible person liability is based solely on a person’s title, state or federal constitutional protections may be available as a defense to personal liability. For example, West Virginia statutes impose liability on corporate officers for unpaid and unremitted West Virginia sales taxes and do not contain language setting forth any other standards for imposition of such liability.28 Nevertheless, the West Virginia Supreme Court of Appeals, the state’s highest court, stated that due process protections in the West Virginia Constitution may absolve a corporate officer from personal liability for a company’s unpaid and unremitted sales taxes, as follows:
[I]n the absence of statutory or regulatory language setting forth standards for the imposition of personal liability for unpaid and unremitted sales taxes on individual corporate officers . . . such liability may be imposed only when such imposition is in an individual case not arbitrary and capricious or unreasonable, and such imposition is subject to a fundamental fairness test.29
Recently, a West Virginia administrative law judge applied this fundamental fairness test and relieved an individual of personal liability where it was shown that the individual was released from his position as a vicepresident before the West Virginia tax liability was incurred and the individual had no financial responsibilities in the company.30
In some states, a person’s title is not determinative of whether the individual may be a responsible person; rather, an officer or employee could be held liable for the company’s unpaid tax if the individual is “under a duty” to act for the company in complying with its tax payment obligations.31 Whether an individual is under a duty to act may be a fact‑intensive inquiry and may involve the question of whether the person had knowledge of, or intent to evade, the tax liability.
Duty to Act?
Courts may look to a variety of factors to determine if a taxpayer has a duty to act.
Courts may also look to other states that have similar provisions.
The Tax Court of New Jersey, in Cooperstein v. Director, Division of Taxation, looked to the following nine factors to determine whether the person in question has a duty to act:
- the contents of the corporate bylaws;
- status as an officer and/or stockholder;
- authority to sign checks and actual exercise of this authority;
- authority to hire and fire employees and actual exercise of this authority;
- responsibility to prepare and/or sign tax returns;
- day-to-day involvement in the business or responsibility for management;
- power to control payment of corporate creditors and taxes;
- knowledge of the failure to remit taxes when due; and
- derivation of substantial income or benefits from the corporation.32
The Cooperstein Tax Court adopted the aforementioned factors from New York case law.33 The New York case law relied upon factors set forth by a federal district court.34
States other than New Jersey have relied on factors that include whether the individual is responsible for maintaining the corporate books35 or whether the individual had knowledge of the tax liability through an educational background or work experience.36
Knowledge May Not Be Required and May Trump Good Intentions
Knowledge of, or intent to evade, a tax liability may be a factor in determining whether an individual is a responsible person.
The Tax Court of New Jersey considers knowledge to be one factor in the analysis, but does not consider knowledge to be a necessary indicia of a responsible person liability. For example, the Tax Court of New Jersey found that two corporate officers were unaware of the outstanding sales tax liability and did not have an intent to evade the sales tax law.37 Nevertheless, it found the individual officers liable for a company’s outstanding sales tax obligations.38
By contrast, Texas law imposes liability on an individual for a company’s unpaid sales tax obligations only if the individual willfully fails to pay the tax.39 A responsible person acts “willfully” if the person:
- “has knowledge” that taxes are owed and yet pays other creditors; or
- “recklessly disregards the risk” that the taxes may not be paid to the state.40
In 2010, the federal Fifth Circuit Court of Appeals applied Texas law and found the trustee of a company in bankruptcy liable for the bankrupt company’s unpaid sales tax despite the trustee’s argument that his duty to maximize the estate’s value superseded his duty to timely pay the sales tax liability.41 The court was not persuaded by the trustee’s “good intentions” inasmuch as the trustee knew of the sales tax liability and chose to pay other creditors in order to keep the company operating as a going concern.42
Two procedural issues merit consideration: (1) extended statutes of limitations periods for assessments against responsible persons; and (2) the identification of responsible persons on forms and reports.
Statute of Limitations
The limitations period applicable to responsible person assessments may exceed the period within which a tax authority may assess the company for that same liability.
The California sales tax limitations period for a company is three years from the date that the return is filed (except in enumerated situations).43 However, the California statutes authorize assessments against a responsible person within eight years from a company’s dissolution date if the California State Board of Equalization does not have actual knowledge of the company dissolution.44
North Carolina has a more generally applicable extension that applies for a shorter period than California’s extension period. The North Carolina statutes permit the Department to assess a responsible person during a period that extends one year from the expiration of the company’s limitations period.45
Self-Identification as a Responsible Person
Some state tax forms and returns require that the preparer identify responsible persons. For example, California requires identification of corporate officers for sales and withholding taxes.46 In Michigan, if the company hires a payroll provider to remit payroll taxes, the company must file Form 3683, which must be signed by the corporate officer on a line that reads “[s]ignature of Corporate Officer, Partner, or Member responsible for reporting and/or paying Michigan taxes.”47 Furthermore, New York auditors have requested that companies complete responsible person questionnaires after sending assessment notices to companies.48
Individual liability for company taxes is a great concern that should not be overlooked. We encourage companies to closely review the responsible persons provisions in the states in which they conduct business. As discussed above, the factors to be considered for individual liability and the taxes for which an individual could be liable vary by state. Responsible person laws are likely to continue to be used often by state taxing agencies to pursue individuals for company liabilities.