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Exposure to Personal Liability of Business Owners and Employees Increases Thanks to Wayfair Court Decision

By: Scott Handwerger

The Supreme Court’s decision in South Dakota vs. Wayfair continues to have a ripple effect for businesses with interstate sales.

With the Wayfair decision adding potentially significant sales tax exposure to some businesses, there is also the potential for increased exposure to the personal liability of unsuspecting business owners, corporate officers and even employees like tax and finance managers.

It’s more important than ever for “responsible persons,” which we’ll define in a moment, to understand their responsibility and potential liability in the sales tax process.

What Happens When a Business Fails to Collect or Remit a State Sales Tax Liability?

In some situations, a state could hold you — the small business owner, officer, manager or employee — personally liable for the unpaid debt of the business. That’s right, you.

In general, states will first seek to collect unpaid sales tax from the business directly. There are instances, however, when the business might not have the funds or assets to pay off the outstanding liability. Depending on the laws of the state, the government could hold owners, officers, directors, employees, partners or members of the business personally liable for the unpaid sales tax liability. Those who can be held personally liable for unpaid sales tax are referred to as “responsible persons.”

Fiduciary Responsibility to Collect and Remit Sales Tax

When a small business owner chooses an entity type for his or her business, protection of the owner’s personal assets is often a chief consideration. While entity structures such as corporations and limited liability companies provide some financial protection to owners, members and partners, there are still areas where those individuals can be held personally liable. This includes state sales taxes.

States view the collection of sales taxes from a customer by a business as a fiduciary transaction. The business collects the sales tax, holds onto it, and then later remits it to the appropriate state agency. Essentially, the business acts as a middle man to transfer the tax from the customer to the state. There is a level of trust put into the business by both the payer of the tax (the customer) and end collector of the tax (the state) to perform that duty. As a result, most states have rules designed to better ensure that business collect and remit sales tax as appropriate.

“Responsible Persons” Defined

To better ensure that collected sales tax is both collected and remitted to the government, states have enacted “responsible person” laws to hold certain individuals personally liable for not complying with sales tax laws.

The definition of responsible persons differs by state. New York, for example, defines responsible persons as owners, officers, directors, employers, members, partners, managers or employees who are under duty to act for the business in matters of sales and use tax compliance. Maryland law stipulates that a president, vice president or treasurer of a corporation, LLC members who manage the business under an operating agreement, or LLC members who do not directly manage the business but direct the management of the business can be held personally responsible for unpaid sales tax.

Likewise, the Virginia tax code states that any officer of a corporation, partnership or LLC who willfully fails to pay or collect sales tax can be held personally responsible for the unpaid or uncollected liability. In this context under Virginia law, an “officer” is an officer or employee of a corporation, or a member, manager or employee of a partnership or LLC, who is under duty to perform on behalf of the corporation, partnership or LLC the act of collecting or remitting sales tax. The officer must also have knowledge of the failure to collect or remit sales tax and must have had authority to prevent the failure in order to be held liable.

Responsible persons can extend to non-owners and officers as well. In New York, employees who have check signing authority, prepare tax returns or are involved in personnel activity can be held personally responsible for unpaid sales taxes. In Wisconsin, any person who is required to collect, account for or pay sales tax and fails to do so can be held personally liable. In that situation, an employee who draws up a sales contract or invoice, but fails to include and collect the appropriate sales tax could be held liable by the state, particularly if it is determined the employee acted willfully negligent.

As is the case in Wisconsin, many state responsible person laws cover the failure to collect sales tax, not just the failure to remit previously collected taxes. This is also true of laws in Maryland and Virginia, which specifically state that responsible persons can be held liable for failure to collect sales taxes or failure to remit previously collected sales taxes.

Increased Exposure Post-Wayfair Decision

The Supreme Court’s decision in South Dakota vs. Wayfair paved the way for states to collect sales tax from businesses that make remote sales even without a physical presence in the state.

This approach to sales tax nexus is referred to as an economic approach. Many states have adopted that economic approach to sales tax nexus since the Wayfair ruling in June 2018. As a result, many businesses, such as those with an online retail component, now have additional sales tax exposure that they did not previously have. Coupled with the responsible persons rule, certain individuals could be held personally liable for sales tax liabilities that result from post-Wayfair changes to state sales tax laws.

The state economic nexus laws are not enacted retroactively, meaning that neither the business nor a responsible person can be held liable for uncollected taxes prior to the passing of the law. However, the responsible person can be held responsible for any uncollected or unremitted sales tax from the date the new laws were enacted.

What Business Owners Should Do Now

Business owners should be proactive in assessing their sales tax exposure under the new economic nexus rules and take the proper steps to get into compliance from the date the relevant statutes were enacted.

Proper compliance with state sales tax laws is the only way for owners, managers and even certain employees to avoid the potential sticky situation of being held personally liable for unpaid business sales taxes.

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Published January 6, 2020

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