Determination of Willfulness

Ability to pay tax liability not relevant to determination of willfulness under Code Sec. 7202

U.S. v. Easterday (2008, CA9) 102 AFTR 2d ¶ 2008-5218

By a vote of two to one, a Ninth Circuit panel decision has upheld a district court’s ruling that a defendant’s ability to pay wasn’t relevant to the determination of whether he willfully failed to collect or pay over tax under Code Sec. 7202. In so doing, the Ninth Circuit effectively repudiated a decision it handed down over 30 years ago on the issue of willfulness.

Background. Under Code Sec. 7202, a person who willfully fails to collect, truthfully account for, and pay over any tax is subject to criminal prosecution for a felony. The term “person” includes corporate officers and employees and partnership members and employees who, as such, are under a duty to collect and pay over withholding taxes.

Facts. Jack Easterday operated a chain of nursing homes in Northern California through a parent corporation (Employee Equity Administration, or EEA) and its subsidiaries. Between ’98 and 2005, the total payroll tax liability for EEA and its subsidiaries was $44,864,162, of which $26,018,869 was paid. Although the companies’ tax filings accurately stated their tax liabilities, Easterday, through the corporation, repeatedly failed to pay over to IRS the full amount of payroll taxes due. Although Easterday was cooperative with IRS and took full responsibility for the tax delinquency, his pattern of nonpayment continued. IRS sent Easterday’s companies numerous notices requesting payment of the delinquent taxes. When those notices did not result in payment, IRS sent notices informing the companies of an intent to levy against their assets. IRS assessed liens against corporate accounts, but when payment was still not forthcoming, it eventually filed criminal charges. In 2005, Easterday was charged with 109 counts of failure to pay over taxes in violation of Code Sec. 7202, with each count representing a different quarter in which the taxes of EEA and its subsidiaries were deficient.

Before a district court, Easterday did not dispute that he failed to pay the taxes when due. His defense was simply that he lacked the financial ability to comply with his tax obligations. Witnesses testified that the nursing homes were struggling financially and he had trouble paying the bills, and that Easterday did not pay the payroll taxes because he used the money to pay other company bills in order to keep the nursing homes operational.

Easterday asked the district court to instruct the jury that to prove a willful failure to pay taxes, IRS had to prove that at the time the taxes were due, the taxpayer had the funds, and hence the ability to pay the obligation. Easterday’s argument rested on U.S. v. Poll (1975, CA9) 36 AFTR 2d ¶ 75-5470, in which the Ninth Circuit held that a taxpayer’s financial circumstances are relevant to the proof of willfulness under Code Sec. 7202. To establish willfulness, the Ninth Circuit held that IRS must show beyond a reasonable doubt that, at the time payment was due, the taxpayer had sufficient funds to enable him to meet his obligation or that the lack of sufficient funds on such date was created by, or was the result of, a voluntary and intentional act without justification in view of all the financial circumstances of the taxpayer. The court’s holding was based on its belief that willfulness requires an evil motive or improper purpose.

The district court declined to give this instruction, on the ground that Poll had been repudiated by the Supreme Court’s decision in U.S. v. Pomponio, 429 US 10 (1976) 38 AFTR 2d ¶ 76-5905. There, the Supreme Court ruled that willfulness in the context of the tax laws “simply means a voluntary, intentional violation of a known legal duty;” there is no requirement the government prove evil motive or improper purpose and want of justification. The court instructed the jury that the tax laws “do not permit an employer to choose to use the monies held in trust for the United States for other purposes, such as to pay business expenses.” Following a six-day jury trial, Easterday was found guilty on 107 of 109 counts and sentenced to prison. He appealed to the Ninth Circuit, on the ground that the district court erred in declining to give the jury the Poll “ability to pay” instruction he requested.

Poll repudiated. Agreeing with the district Court, the Ninth Circuit held that the portion of its decision in Poll “which created an additional requirement of proving ability to pay has been undermined by the Supreme Court’s subsequent decision in Pomponio. ” The Ninth Circuit held that “insofar as Poll may be interpreted as requiring the government, in a failure to pay case under Code Sec. 7202, to prove that defendant had the money to pay the taxes when due, and allowing the defendant to defend on the ground that he had spent the money for other expenses, Poll is inconsistent with Pomponio. It is also inconsistent with common sense,” because it would allow individuals to escape prosecution for willfully paying tax by dissipating their assets and asserting they had no assets to satisfy the debt.

The Ninth Circuit said that although it hasn’t explicitly overruled Poll since it was issued, in the tax field “it now exists only as a nearly completely buried obstacle to traffic that generally has run over it or passed it by for more than thirty years.” Poll wasn’t consistent with the intervening authority of the United States Supreme Court that must control in Easterday’s case.

The Ninth Circuit also concluded that it wasn’t necessary to convene an en banc court to hold that its earlier Poll panel opinion was no longer binding authority for the proposition that a defendant’s ability to pay his tax liability is relevant to the determination of willfulness under Code Sec. 7202.

A dissenting judge disagreed with the majority on procedural as well as substantive grounds.

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