Most business owners assume their LLC or corporation protects them. That’s the whole point of forming one. If the business owes money and can’t pay, the business is on the hook, not you.
Payroll taxes are the exception, and it catches people off guard every year.
If your business withheld taxes from employee paychecks and didn’t send that money to the IRS, the IRS can come after you. Not your company. You. Your bank account, your house, your wages from a future job. The corporate shield does not apply here, and bankruptcy won’t wipe it out.
Here’s how it works and what to do if you’re already behind.
Not all payroll tax is the same
When you run payroll, the money splits into two buckets.
The first is your employer share: your half of Social Security and Medicare, plus federal unemployment tax. That’s a business expense, and it’s a business debt.
The second is trust fund money: federal income tax you withheld from your employees’ checks, plus their half of Social Security and Medicare. That money was never yours. It came out of your employees’ pay, and you’re holding it in trust for the government until you deposit it.
That distinction is everything. The IRS treats unpaid trust fund taxes less like a debt and more like taking something that belongs to someone else. That’s why the collection response is so much more aggressive than it is for unpaid income tax, and why the liability follows a person instead of stopping at the business.
The Trust Fund Recovery Penalty
Under Section 6672 of the tax code, the IRS can assess the Trust Fund Recovery Penalty, usually just called the TFRP, against any “responsible person” who “willfully” failed to pay over trust fund taxes.
The penalty is 100% of the unpaid trust fund portion. Not a percentage on top. The entire amount, assessed against you individually.
Both of those terms are broader than they sound.
Responsible person doesn’t mean owner. It means anyone with the authority to decide which bills get paid. That can include officers, partners, a controller, a bookkeeper with check-signing authority, or a family member who runs the checkbook. It’s a facts-and-circumstances test built around control, not job title. The IRS can name more than one person, and each one is liable for the full amount. If there are three responsible people, the IRS doesn’t split it into thirds. It pursues whoever is easiest to collect from.
Willful doesn’t mean you were trying to cheat anyone. It means you knew the taxes were unpaid and used the money for something else anyway. Paying rent so you don’t get evicted is willful. Making payroll so your staff doesn’t quit is willful. Paying a supplier because they’d cut you off is willful. Every one of those decisions may have been reasonable, even necessary to keep the doors open, and every one of them satisfies the legal standard. Reckless disregard counts too, so “I left it to my bookkeeper and never checked” is not a defense.
There’s no good-intentions exception. Even though owners used their personal savings to save the company, they have still been assessed.
Why bankruptcy doesn’t fix it
Trust fund liability is not dischargeable in bankruptcy. It survives.
Dissolving the entity doesn’t help either. The assessment attaches to you as an individual, and the IRS has ten years from the date of assessment to collect. People close a business, move on, start something new, and get a levy notice years later on income from a completely unrelated job.
How it usually unfolds
Missed deposits generate failure-to-deposit penalties fast. They start at 2% and climb to 15% depending on how late you are, and they compound with interest while you’re figuring out what to do.
If the balance keeps growing, the case leaves the automated system and gets assigned to a revenue officer, who is a person, often one who shows up at your business unannounced. They’ll want to know who signs checks and who decides which bills get paid. That conversation is usually structured around Form 4180, and the answers become the basis for naming responsible persons.
If they decide to pursue you personally, you’ll get Letter 1153 with Form 2751 proposing the assessment. You have 60 days to appeal to the IRS Independent Office of Appeals. That window matters. Once it closes, your options narrow considerably, and reopening the question later is much harder than raising it on time.
What to do if you’re behind right now
Stop the bleeding first. Get current on this quarter’s deposits before you address the old balance. The IRS is far more willing to work with a business that’s current going forward. A growing balance moves you to the front of the enforcement line.
File the returns even if you can’t pay. Not filing your 941s doesn’t buy time. It adds failure-to-file penalties on top of everything else and signals that the situation is out of control. Filing and not paying is a much better position than not filing.
Designate your payments. When you make a voluntary payment, you have the right to tell the IRS in writing which period and which portion to apply it to. Direct it to the trust fund portion. If you don’t specify, the IRS applies it wherever it wants, which is usually the non-trust-fund part, and your personal exposure stays exactly where it was. This one step has saved owners tens of thousands in personal liability and costs nothing but a letter with the payment.
Verify your deposits are actually being made. If you use a payroll service, log into EFTPS yourself and confirm the money reached the Treasury. Third-party payroll providers have absconded with client tax deposits, and when that happens the employer is still liable. The IRS’s position is that you can’t outsource the responsibility. Checking takes five minutes a quarter.
Get representation before the interview, not after. If a revenue officer has contacted you or you’ve received Letter 1153, talk to a tax attorney, CPA, or enrolled agent first. What you say during that interview shapes whether you get named personally.
The part nobody wants to hear
Payroll tax problems seldom start with fraud. They start with a slow month.
Revenue dips, cash gets tight, and the payroll tax deposit is the one payment with no one calling to chase it. Your landlord calls. Your suppliers call. The IRS just goes quiet for a while. So you borrow from it, once, and plan to catch up next month.
Next month is worse. Then you’re two quarters behind and the number is bigger than anything you can write a check for.
The single best protection is knowing your numbers before the slow month arrives, and keeping withheld taxes somewhere you won’t reach for them. A separate account for payroll tax liabilities, funded the same day payroll runs, removes the temptation entirely. It’s a small operational change that prevents the one business debt that can follow you home.
If you’re not sure whether your payroll taxes are current, or you know they aren’t and you don’t know how far behind you are, that’s a fixable problem, and it gets more fixable the sooner you look at it. We can help you get a clear picture of where things actually stand.
This article is general information, not legal or tax advice. If the IRS has already contacted you about unpaid employment taxes, talk to a qualified tax professional about your specific situation.
