Custom Stairs & Trim Ltd. v. Commissioner, T.C. Memo. 2011-155 (2011)

The decision in Custom Stairs & Trim Ltd. v. Commissioner addresses the imposition of penalties for failure to timely deposit and pay employment (trust fund) taxes, specifically under Internal Revenue Code sections 6656 (failure to deposit) and 6651(a)(2) (failure to pay) [1].

Key Facts

• Custom Stairs & Trim, Ltd. is a staircase manufacturer that, due to financial hardship following Hurricane Ivan and the 2008 economic downturn, fell behind on its employment tax deposits.
• The IRS imposed penalties for failure to deposit and pay employment taxes for multiple quarters, but the case at issue focused on the second quarter of 2008.
• Custom Stairs had a history of making tax payments, but often these were applied by the IRS to prior quarters in arrears, leaving current quarters underpaid and subject to penalties.

Legal Issues

• The main issue was whether Custom Stairs’ failure to make timely deposits and payments was due to “reasonable cause” and not “willful neglect,” which would allow for abatement of the penalties under sections 6656 and 6651(a)(2).
• The IRS argued that inability to pay, especially when other creditors are paid first, is not reasonable cause for abatement.

Court’s Analysis

• The Tax Court recognized that, while the government relies on employers to collect and remit trust fund taxes, and penalties serve as a deterrent, there are circumstances where financial hardship can constitute reasonable cause.
• The Court cited a majority of appellate decisions holding that financial hardship may, in rare circumstances, justify failure to pay and deposit employment taxes.
• The Court looked to the regulations under section 6651(a)(2), which state that reasonable cause exists if the taxpayer exercised “ordinary business care and prudence” in providing for payment of tax liability but was nevertheless unable to pay or would suffer undue hardship [1].

Application to the Facts

• Custom Stairs made significant efforts to pay its tax liabilities, including cutting expenses, laying off employees, and attempting to sell property.
• The company paid over to the IRS amounts greater than the employment taxes owed for the period in question, but because of prior arrearages, the IRS applied payments to earlier quarters.
• The Court found that Custom Stairs exercised ordinary business care and prudence, and its failure to make timely deposits was due to reasonable cause, not willful neglect.

Holding

• The Tax Court abated the section 6656 penalty and the section 6651(a)(2) addition to tax for the quarter at issue, finding that Custom Stairs’ failure to deposit and pay was due to reasonable cause.
• The Court reversed the IRS’s determination to proceed with collection actions (lien and levy) based on those penalties.

Legal Significance

• The decision confirms that, although rare, financial hardship can constitute reasonable cause for abatement of trust fund deposit and payment penalties if the taxpayer demonstrates ordinary business care and prudence under the circumstances.
• The case also highlights the importance of payment allocation and communication with the IRS regarding the application of payments to specific tax periods.

In summary: The Custom Stairs decision stands for the principle that, in exceptional cases of financial hardship where a taxpayer has exercised ordinary business care and prudence, penalties for failure to deposit and pay trust fund taxes may be abated for reasonable cause, even if the taxpayer has a history of delinquency.