Overview

A Trust Fund Recovery Investigation (TFRI) begins when the IRS suspects that an employer collected federal income tax and employee FICA (Social Security and Medicare) withholdings but didn’t pay them to the Treasury. Those withheld amounts are treated as trust funds held for the government. If the IRS finds a shortfall, it can assess the Trust Fund Recovery Penalty (TFRP) against any “responsible person” who willfully failed to remit those amounts (IRC §6672) (IRS.gov).

Why this matters for employers

TFRPs are assessed personally. That means owners, officers, payroll officers, or others with authority over disbursements can be responsible for unpaid trust fund taxes even if the business is a corporation or LLC. Personal liability can include liens, levies, and collection on personal assets. The IRS also has collection tools available and appeals rights for petitioning an assessment.

How a TFRI works—step-by-step

  1. IRS detection: The IRS identifies unremitted trust fund taxes from delinquent payroll tax returns, deposit history, or information from audits.
  2. Investigation: IRS Revenue Officers or Criminal Investigation agents review payroll records, bank statements, signing authority, corporate minutes, and payment history to identify responsible persons.
  3. Proposed assessment: The IRS typically issues a written notice proposing the TFRP and names the individuals it believes are responsible. That notice explains appeal rights and deadlines (IRS.gov).
  4. Response and appeal: Named individuals can respond, provide documentation, and request an Appeals conference. The Appeals Office can consider defenses and reasonable-cause arguments.
  5. Final assessment and collection: If assessed, the IRS will attempt to collect personally—through liens, levies, or offsets—unless collection alternatives are approved.

Common defenses and practical considerations

  • Lack of responsibility: Show you lacked authority to direct disbursements or hiring/firing power. Documented chain of command helps.
  • No willfulness: Demonstrate attempts to comply—timely filing, efforts to pay, reliance on officers or payroll providers, or lack of knowledge of the shortfall. “Willfulness” is a legal standard the IRS must prove.
  • Reasonable cause: Rare but possible if an employer can show unforeseeable circumstances that prevented payment and that reasonable steps were taken to comply.

What to gather immediately (document checklist)

  • Payroll tax returns (Forms 941, W-2s) and any corrected returns (941-X)
  • Deposit records and bank statements covering the period under review
  • Payroll ledgers, invoices, and cash-flow forecasts
  • Check-signing and disbursement authorizations, corporate resolutions, and board minutes
  • Correspondence with payroll providers, banks, and advisers
  • Federal tax notices and any prior payment plans or offers in effect

Practical response steps

  1. Do not ignore IRS notices—respond by the deadline the notice gives.
  2. Preserve and organize records; avoid purging accounting files.
  3. Stop discretionary transfers that could deplete assets needed to satisfy trust fund obligations.
  4. Correct reporting errors where appropriate (for example, file Form 941-X for amended returns) and deposit current taxes when possible.
  5. Engage a tax professional (CPA, tax attorney, or enrolled agent) experienced in TFRP cases.
  6. If named, request an Appeals conference if you have factual or legal defenses.

Collection alternatives and negotiation

The named individual and the business can pursue collection alternatives once an assessment exists: installment agreements, hardship collection alternatives, or (rarely accepted) Offers in Compromise. Note that the IRS often treats trust fund liabilities as a high priority for collection, so negotiation can be more difficult than for other types of tax debt.

Common mistakes employers make

  • Ignoring initial notices or missing appeal deadlines
  • Failing to keep thorough payroll and bank records
  • Assuming corporate structure shields personal liability
  • Relying solely on a payroll vendor without internal review or oversight

Real-world examples (lessons learned)

  • Small business with cash flow shortfall: Owner withheld taxes to pay vendors; IRS named the owner as a responsible person. Early engagement with a tax professional and rapid organization of records led to a negotiated payment plan and avoided criminal exposure.
  • Growing contractor firm: Rapid expansion caused missed deposits. Documenting delegation of authority and showing lack of willfulness narrowed the scope of named individuals and reduced assessed amounts.

Frequently asked questions

  • Can I appeal a proposed TFRP? Yes. The IRS provides a written notice with appeal rights; you may request an Appeals conference and present evidence. (IRS.gov)
  • Will bankruptcy discharge a TFRP? Trust fund penalties are generally non-dischargeable in bankruptcy; consult a bankruptcy attorney for specifics.
  • Can a payroll service protect me? A payroll provider’s error is not an automatic shield. Responsible persons must still show they did not have authority or willful behavior.

Internal resources

Authoritative sources

Professional disclaimer

This article is for educational purposes and does not constitute legal or tax advice. Cases turn on specific facts and law; consult a qualified tax attorney, CPA, or enrolled agent to evaluate your situation.

If you’re facing a TFRI, act quickly: organize records, preserve evidence of authority and payments, and get experienced representation to protect yourself and your business.