Liability of Third Parties Paying or Providing for Wages: Suit Period and Its Extension and Maximum Amount Recoverable

DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 31

[TD 8604]

RIN 1545-AS22

Liability of Third Parties Paying or Providing for Wages: Suit

Period and Its Extension and Maximum Amount Recoverable

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations.

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SUMMARY: This document contains final regulations regarding the

liability of lenders, sureties, or other third persons for withholding

taxes when those persons have supplied funds, either directly to

employees or to or for the account of an employer, for the specific

purpose of paying wages of the employees of that employer. The final

regulations affect third parties paying or providing for wages.

EFFECTIVE DATE: August 1, 1995.

FOR FURTHER INFORMATION CONTACT: Robert A. Walker, (202) 622-3640 (not

a toll-free number).

SUPPLEMENTARY INFORMATION:

Background

These final regulations contain changes to Sec. 31.3505-1. Section

3505 of the Internal Revenue Code (Code) was added by section 105(a) of

the Federal Tax Lien Act of 1966, Public Law 89-719 (1966). Treasury

regulations were issued with an effective date of August

[[Page 39110]]

19, 1976 (TD 7430). Neither the Code section nor the regulations has

been amended since enactment or issuance, respectively. The IRS

published a notice of proposed rulemaking in the Federal Register on

November 22, 1994, (59 FR 60099) providing proposed rules under section

3505 of the Code. No public comments were received and accordingly, the

final regulations are identical to the proposed regulations.

Explanation of Provisions

Under section 3505(b), if a lender, surety, or other person (the

lender) supplies funds to or for the account of an employer for the

specific purpose of paying wages of the employees of that employer, and

the lender has actual notice or knowledge (within the meaning of

section 6323(i)(1)) that the employer does not intend or will not be

able to make timely payment or deposit of the required withholding

taxes, the lender shall be liable to the United States in a sum equal

to the taxes (together with interest) that are not paid over to the

United States by the employer with respect to those wages. The lender's

liability for withholding taxes, in lieu of the employer, is limited to

an amount equal to 25 percent of the amount of wages so supplied to or

for the account of the employer. See section 3505(b) (final sentence).

Existing regulations provide that the 25-percent limitation applies

only to the tax, and not the interest on that tax, with the result that

the lender could be held liable for more than 25 percent of the amount

of funds it supplied. The courts that have addressed this issue,

however, have held that the 25-percent limitation on the amount of

wages supplied by a third party is an absolute cap with respect to the

recovery of withholding taxes and prejudgment interest. United States

v. Metro Constr. Co., Inc., 602 F.2d 879 (9th Cir. 1979); United States

v. Intercontinental Ind., Inc., 635 F.2d 1215 (6th Cir. 1980); United

States v. Hannan Co., 639 F.2d 284 (5th Cir. 1981); Taubman v. United

States, 449 F. Supp. 520 (E.D. Mich. 1978). See also O'Hare v. United

States, 878 F.2d 953 (6th Cir. 1989); United States v. Security Pacific

Business Credit, Inc., 956 F.2d 703 (7th Cir. 1992); United States v.

Vaccarella, 735 F. Supp. 1421 (S.D. Ind. 1990).

These final regulations conform to judicial interpretation and

clarify that interest will continue to be computed in addition to any

withholding tax liability, but only to an overall maximum of 25 percent

of the amount of the funds supplied by the lender.

The final regulations also change the period of limitations for

collection of the withholding taxes and interest from six years to ten

years. This revision will conform the period of limitations for the

purposes of section 3505 with the general rule on limitations on

collection. See section 6502, amended by the Omnibus Budget

Reconciliation Act of 1990, Public Law 101-508, section 11317(a)(1)

(1990).

Finally, Sec. 31.3505-1(d)(3) has been added to provide for

extensions of the period of limitation for collection because, on

occasion, the IRS or the lender requires additional time for compliance

with the regulation.

Special Analyses

It has been determined that this Treasury decision is not a

significant regulatory action as defined in EO 12866. Therefore, a

regulatory assessment is not required. It has also been determined that

section 553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5)

and the Regulatory Flexibility Act (5 U.S.C. chapter 6) do not apply to

these regulations, and, therefore, a Regulatory Flexibility Analysis is

not required. Pursuant to section 7805(f) of the Internal Revenue Code,

the notice of proposed rulemaking was submitted to the Chief Counsel

for Advocacy of the Small Business Administration for comment on its

impact on small business.

Drafting Information

The principal author of these final regulations is Robert Walker,

Office of Assistant Chief Counsel (General Litigation). However, other

personnel from the IRS and Treasury Department participated in their

development.

List of Subjects in 26 CFR Part 31

Employment taxes, Income taxes, Penalties, Pensions, Railroad

retirement, Reporting and recordkeeping requirements, Social Security,

Unemployment compensation.

Adoption of Amendments to the Regulations

Accordingly, 26 CFR part 31 is amended as follows:

PART 31--EMPLOYMENT TAXES

Paragraph 1. The authority citation for part 31 continues to read

in part as follows:

Authority: 26 U.S.C. 7805 * * *

Sec. 31.3505-1 [Amended]

Par. 2. Section 31.3505-1 is amended by:

1. Removing the phrase ``for such taxes'' from the second sentence

of paragraph (b)(1).

2. Removing the phrase ``, plus interest thereon'' from the final

sentence of paragraph (b)(2), Example (1).

3. Removing the phrase ``for withholding taxes'' from the fifth

sentence of paragraph (b)(2), Example (2).

4. Removing the phrase ``plus interest thereon'' from the final

sentence of paragraph (b)(2), Example (2).

5. Revising the final sentence of paragraph (d)(1).

6. Revising the final sentence of paragraph (d)(2)(iii).

7. Adding paragraphs (d)(3) and (g).

The additions and revisions read as follows:

Sec. 31.3505-1 Liability of third parties paying or providing for

wages.

* * * * *

(d) * * *

(1) * * * In the event that the lender, surety, or other person

does not satisfy the liability imposed by section 3505, the United

States may collect the liability by appropriate civil proceedings

commenced within 10 years after assessment of the tax against the

employer.

* * * * *

(2) * * *

(iii) * * * Thus, after the second payment by the employer, the

lender's liability under section 3505(b) is $75 ($250 less $175), plus

interest due on the underpayment for the period of underpayment, to a

maximum of $250, 25 percent of the funds supplied.

(3) Extensions of the period for collection. Prior to the

expiration of the 10-year period for collection after assessment

against the employer, the lender, surety, or other third party may

agree in writing with the district director, service center director,

or compliance center director to extend the 10-year period for

collection. The period so agreed upon may be extended by subsequent

agreements in writing made before the expiration of the period

previously agreed upon. If any timely proceeding in court for the

collection of the tax and any applicable interest is commenced, the

period during which such tax and interest may be collected shall be

extended and shall not expire until the liability for the tax (or a

judgment against the lender, surety, or other third party arising from

such liability) is satisfied or becomes unenforceable.

* * * * *

[[Page 39111]]

(g) Effective date. These regulations are effective on August 1,

1995.

Margaret Milner Richardson,

Commissioner of Internal Revenue.

Approved: June 21, 1995.

Leslie Samuels,

Assistant Secretary of the Treasury.

[FR Doc. 95-18625 Filed 7-31-95; 8:45 am]

BILLING CODE 4830-01-U