You might be an entrepreneur if…you’ve “borrowed” money from the IRS by not paying your payroll taxes so that you have enough money to pay your employees.
I guess you could say I like knowing where the limits are. How long can I go without making my loan payment before they refer me to the credit division of the bank? How long can I resist going to the bathroom before I cause permanent damage? And how long can I go without paying payroll taxes before the IRS comes after me?
Again, it comes down to choices. When you’ve got more to pay out than what you have in the bank what do you pay first? As I’ve mentioned before, I almost always have erred on the side of paying my employees because I see them as necessary to keep around for the survival of the company. I mean, I like them too…I don’t want them to think I don’t like having them around, but…you know, survival, yeah, that’s important too.
And so around the end of 2004 I started neglecting to make my payroll deposits. Just in case we’re not completely clear on what I mean, payroll taxes are the taxes an employer witholds from an employee’s paycheck. You know how you get paid $13/hr, but if you work ten hours you only get a check for $100 instead of $130? Or you get paid $50K per year but if you add up your checks you only got $35K last year? The federal government has decided it wants the employer to be responsible for collecting taxes rather than individuals themselves. Why? Because the government is more likely to get their money that way.
So for the sake of explaining, let’s say the going tax rate is 25%. If an employee gets paid $100, the employer witholds $25 of that. In addition, the employer has to match certain taxes, and so the employer pays another 7.5% or so that the employee generally doesn’t see. For businesses that deposit less than $50K in payroll taxes per year they only have to submit those taxes once per month. Business over $50K have to deposit payroll taxes after each payroll.
But what does an employer do when he has enough money to pay his employees, but not the taxes? In my case, I chose to pay my employees first. Then I figured I would catch up on the taxes later. The trouble is that by the time “later” came around it was time for another payroll, and I once again I only had enough money for payroll. Before I knew it I owed the government something like $30K in payroll taxes that I had meant to deposit, but by putting my employees first I hadn’t been able to.
The IRS moves slow, and so it was months before they contacted me to find out where “their” money was. I told them I had spent it all on iTunes. But seriously, I didn’t feel like I had a choice at the time other than to pay my employees and keep the company going. But the IRS presented me with evidence that has led me to change my opinions.
Here’s what you need to understand about the IRS:
1. When you fail to make your deposits the IRS wants to ensure you’ll never be late again so they charge you exhorbitant fines as well as a ton of interest. If you’re going to borrow money from somewhere just about anywhere is better than the IRS, including credit cards.
2. While the individual agents might be nice (ours was very professional, courteous, helpful, and nice), there is no mercy in the policies and the agents must enforce the policies. In other words, the IRS will get their money–no exceptions.
3. Although you can request that the fines and interest be waived, the chances of this happening are not good. I’ve been through the process and as you work through it your optimism will quickly fade. If you get anything substantial you’ll be very lucky. Of the $10-15K or so I paid in fines and interest I got $240 refunded.
What the IRS is willing to do is put you on a payment plan. That stops the fines. It doesn’t stop the interest. That keeps on going until you pay everything off. In my case it took me over a year to pay everything off at $2K per month with a balloon payment of $15K near the end.
Normally when you pay for something you at least got something. That is, if you rack up your credit cards buying big-screen TVs, DVDs, music, etc. at least when you’re paying off those cards you can say “Well, at least I have all my beautiful stuff.” In my case all these taxes were for employees who no longer worked for me, and when they had worked for me I wasn’t paying myself, and so what did I have to show for it? I hadn’t made any money personally, I didn’t have a bunch of nice furniture. What I had was a brand, the MWI brand. You can’t discount that, but it’s also rather ethereal and feels insubstantial when you’re trying to pay the IRS $40K and trying to justify the expense in your mind.
What did I learn? Pay the IRS. You’ve got to see the IRS as one with your employees. If you can’t pay the IRS, you can’t pay your employees. My practice now is to never pay my employees without having paid the taxes for the previous pay period. Sometimes it’s a hard choice to make, but I’ve made the other choice before and it’s harder in the long run.