When Payroll Taxes become Operating Capital

  By Steve Capper  |    Tuesday June 13, 2012

Category: Funding


Banks, funding companies, factors, and semi-rich relatives can only go so far in providing cash for staffing agencies.  Common challenges that can cause cash-flow programs include:

  • Light industrial, Clerical, General, or Admin staffing environment that is too competitive, especially in major markets where nationals compete;
  • A bad debt, a workers comp problem, change of billing cycle, or large slow-pay customer;
  • A bank or funding company ineligibility or exclusion;
  • A nursing slowdown.;
  • A VMS squeezing margins;
  • A distressed city or state market, etc.

Many staffing operators feel that there’s rarely enough cash for contingencies, and in today’s environment, emergencies are turning up quarterly, monthly, or even weekly.

You’d be surprised at the number of agencies that get their back to the wall, don’t pay their payroll taxes, and instead use these funds as operating capital.  What are they thinking?  In their survival mode, it’s most likely, “a temporary fix—we will simply clean up the mess when better times come along in just a few months”.  But it’s rarely that easy.  Staffing operators need to know that there are significant dangers and costs beyond interest and penalties when using payroll tax monies for other purposes.

When agencies delay tax payments, IRS notices start arriving in the mail, though many basically ignore them figuring they have a loan from the U.S. government until the day they show up on the doorstep.  Some agencies will stop paying taxes for a while, then start paying again in small amounts when feasible.  It’s a big mistake to start paying again after a skipped payment and think, “the IRS won’t file a tax lien as long as I keep throwing them bones.”  And it’s a big mistake to think you can deal with the IRS yourself.  When money is sent without clearly specifying what quarter it is to be applied to, somebody at the IRS will apply it to whatever quarter they want, which usually makes the situation worse.  If you or a naive bookkeeper sends a check to the IRS indicating that it is for a specified past quarter(s), you may also be making the situation worse.  Beyond the costs of interest and penalties, you need costly expert help to guide you in applications.  Don’t let the IRS apply payments to whatever they want to, and money should not be haphazardly applied to past quarters at the expense of keeping current.  If you are not current, the IRS won’t work out an installment deal with you.

It is not wise to deal with the IRS yourself.  You have to get to the right office at the IRS, and the right person, in the right time windows, regardless of what may be indicated in mailed IRS notices.  Over the years we’ve seen a number of staffing agencies receive liens out of left field, such as liens initiated from offices, divisions, managers, or supervisors that haven’t contacted the staffing agency before.  IRS agents that were already in communication with the staffing agency were quite surprised themselves.  At the IRS the right hand doesn’t always know what the left hand is doing. 

Early IRS notices may be sent out to a staffing agency by an automated system, but at some point a case will go to a Revenue Officer who will move to do a lien.  An experienced expert who knows the exact timing (not you or just any CPA taking a stab at it) has to stop the lien before it gets to a revenue officer.  The expert must get to right IRS person, not just any IRS person, to get a pending workout.  A pending workout will hold off the IRS from filing a lien.  But in many cases the IRS has to be convinced by an expert that a workout will keep staffing agency funding in place, keeping the chances higher that the IRS will get paid back.  Beyond the interest and penalties that you thought would be the end of it all, these experts will typically cost from $4,000 to $8,000 in fees.  And it will cost a ton of your time cooperating and filling out paperwork.  It will cost even more if these experts have to work to remove a lien.  Once there’s a lien placed, it is a very hard, time consuming and lengthy process to get it removed.

Regarding your agency’s financing, failing to make timely payroll tax deposits is a primary threat to any bank, funding company or factor.  Tax liens will always put a staffing agency in default of their bank or payroll funding contract.  With a lien there is a high chance that you will lose your funding availability to the amount of your liability/lien, or even your agency’s funding altogether.  Most banks that provide money to funding companies to lend to staffing agencies will not lend to the funding company on debtors that have a lien.  Beyond contract default, missed tax payments also destroy the relationship and trust between the lender and the staffing agency.

Any problem a staffing agency has with the IRS may end up as a fight between the funding company and the IRS, therefore funding companies will monitor tax liabilities and payments.  All funding companies require agencies making their own tax deposits to sign a form called IRS 8821 which gives them the right to receive copies of correspondence from the IRS to the agency, or to even call the IRS for periodic updates.  Additionally, some organizations track the staffing agency owner’s personal tax challenges, not just those of the business; if you had a personal IRS workout and didn’t make payments, the IRS could possibly go into your business looking for money.

In many cases, a tax problem can require a staffing agency to move to another funding organization, one that is willing to spend a great deal of time tracking closely and more frequently, with higher levels of authority and access to IRS information.  Non-notification invisible-to-the-customer funding or bank revolving credit line programs do not work well in IRS challenged situations.  A purchase of invoices or factoring of invoices is needed.  This will require stricter controls on your cash and customer payments.  And it will be more expensive funding.

If there is an actual lien, the new factoring company will not be able to fund secured in first position on the collateral of invoices, ahead of the IRS, unless an installment agreement and a formal subordination are put into place. With subordination, the IRS is secured in second position on the accounts of the staffing agency.  There are only a small number of factoring companies that can fund in this manner.

Only an expert knows how and when to prevent or delay the filing of a lien as long as possible.  While it’s possible to negotiate an  installment agreement, the majority of these agreements default shortly after they are established because the monthly payments were too high and the taxpayer was set up to fail.  An expert can aid in filling out the forms strategically to assist in optimizing the terms of repayment.  Expertise is also needed in the area of penalty abatement to attempt to lessen some or all penalties associated with the liabilities.  A required subordination can take months, unless you really know what you are doing.  And only an expert would understand cases where there’s actually a level of personal liability for the business tax lien.  Too many turn over these critical negotiating duties to their accountants, CPA’s or controllers who are really just taking a stab at it and don’t have inside knowledge and solid experience in this area.  Don’t let your bookkeeper do it.  And don’t do it yourself.

But by far the best option is to avoid this painful, expensive and time-consuming situation in the first place.  The old saying about “death and taxes” is an old saying for a reason!

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