Trust Funds
The portion of payroll tax deposits that represents withholding from employee paychecks is referred to as "trust taxes." The legal assumption is that once you issue the paycheck, you are holding the funds in trust for the government until you pay them. Trustees can always be held personally liable for failure to act prudently on the trusts they oversee. Therefore the government will conduct a Trust Fund Recovery Penalty Interview to determine if anyone has had any responsibility or control over the funds. This can cause key employees, officers, directors, sometimes spouses, former partners, and other people you may not expect, to each become fully liable for the full trust fund amount. No corporation or limited liability company can protect you from becoming fully personally liable for trust funds.

Trust funds cannot be waived by a bankruptcy court, unlike some income taxes. When delinquent trust fund taxes are assessed against a business owner personally, it is called a Trust Fund Penalty. Because the amount is re-characterized as a penalty, you must pay the full amount, but you get no income tax break, since penalties are not deductible.

1099 Forms
Some businesses have true contract laborers. (See our discussion on the 20 point test the IRS uses to determine if you really have contract laborers versus employees - you might be surprised!) Many businesses mistakenly think that 1099 forms are only for contract labor. In reality, you must issue Form 1099 for everyone you pay at least $600 per year who is not incorporated (with some exceptions). That means individuals, partnerships, trusts, and limited liability companies. Also, payments to medical and legal corporations must also be given 1099s. The goal is to track payments to entities that have a historically poor record of tax compliance.

Why would you want to help the IRS find additional income? The penalty of $75 per 1099 is minor compared to the main reason - you could be liable for other people's taxes! The law requires 31% backup withholding if the vendor or contractor you pay does not verify exemption from backup withholding. If you withhold 31%, nobody will do business with you. However, if you do not document it correctly, and the other person gets caught in an audit cheating but can't pay quickly enough for the government, then you may be assessed for their taxes. How do you protect yourself? Have the vendor sign a completed Form W-9, and issue 1099s. In an audit, if you prove you flagged the payments for the IRS (via the 1099) and have a W-9 proving that your vendor claimed exemption from backup withholding, then you are safe.

There are various versions of the 1099 forms. The most common is 1099MISC (box 7, for contract labor). However, rent payments, interest, dividends, canceled loan balances, and a variety of other non-employee payments must be reported on the various 1099 series of forms.

The 1099 forms must be sent or given to the vendors by January 31, and sent to the IRS by February 28. Use a Form 1096 as the "cover sheet" (a summary of all the 1099s). You must include the 1096 even if you only have one 1099.

Liens and Levies
Liens and levies are, unfortunately, an all too frequent part of small business life. Often this is because the business owner failed to pay a payroll tax deposit. Sometimes it is due to the IRS (or the bank) losing track of payments you have made. It always pays to respond to each notice, preferably in writing.

A lien is a filing (usually with your county clerk) against you or against specific assets (like real estate, cars, etc.) A lien can cause a problem with your credit rating. Also, if you sell the asset, the IRS will be paid first before you get any money.

A levy is an involuntary seizure for payment from your bank account. The IRS will send levies at random intervals after giving you a 30 day and 90 day notice of taxes due. When you receive the form letter that says "FINAL NOTICE" you know that you are about to be levied. The bank will send the entire balance up to the amount due (including that day's deposits) to the IRS, and bounce all checks presented that day and every day thereafter until the balance can cover them. The IRS may submit levies to the bank as often as it wants until it gets all its money. The bank is prohibited from warning you in advance, so you will have no chance to withdraw funds.

Don't think that the IRS is limited to levies against just bank accounts. The IRS may levy amounts due to you from government agencies. It may also pursue your receivables. If you persist in not paying them, the IRS can even check with your customers to collect payment from them directly before you even see the money. As a general rule, you should speak with the agent assigned to your tax account about installment payments rather than letting the IRS randomly disrupt your business cash flow.