OPINION
SNEED, Circuit Judge:
This is a suit for refund of a 100% civil penalty assessed under § 6672
The record relates the sad tale of a man who began a small cabinetmaking business, incorporated as Regal Industries, Inc., with high hopes and who then watched that business devour his personal funds and ultimately drive him into bankruptcy. As Sorenson says of himself, "I just got on a tiger." As much as we sympathize with his plight we must add to his hardships by reversing the judgment of the district court.
Regal Industries, Inc. commenced operations in 1966. Regal filed accurate employee withholding returns for the first three quarters of 1966 but the returns for the second and third quarters were unaccompanied by payment. Regal failed and ceased operations by the end of the third quarter of 1966.
In 1971, the Internal Revenue Service assessed a 100% penalty of $4,646.40 against appellee as a responsible person under § 6672. Sorenson paid $331.20 of the assessment in 1972. His claim for refund was disallowed and this suit and counterclaim followed.
At the time of Regal's incorporation in February, 1966, Sorenson and Howard Collins were the sole stockholders of the corporation. Sorenson was the president of Regal and it was intended that he would have the responsibility for the financial and administrative affairs of the corporation. Collins, an experienced cabinetmaker, was to run production. Sorenson contributed $1,000 as initial capitalization and Collins contributed cabinetmaking tools.
Shortly after incorporation Regal entered into contracts to furnish cabinets for two large apartment houses. It quickly became obvious that the corporation was grossly undercapitalized and could not meet the production responsibilities it had assumed. By April Regal had become a financial disaster. At about this time Sorenson acquired Collins' shares and became the sole stockholder of the corporation.
The collapse of Regal was not accompanied by precise record keeping. Moreover, the passage of years between 1966 and the trial of this case in 1974 has also contributed to lost records and vague recollections. The statement of Regal's financial dealings which we give must therefore be sketchy and imprecise.
Among the initial efforts to keep the undercapitalized corporation afloat was a $9,000 bank loan secured by an assignment of accounts receivable. Pursuant to this assignment the income from the two apartment house contracts was paid to the bank, rather than to Regal. But the bank, having an interest in Regal's continuing performance of those contracts, entered into an arrangement to release some of the proceeds of the receivables to Regal. This arrangement
Other funds were available to meet certain of Regal's obligations. These consisted of contributions amounting to approximately $35,000 by Sorenson from his personal funds. It appears that the bulk of these funds were used to pay the salaries of employees and that the procedure employed was to deposit personal funds into the corporate account and then to draw corporate checks to the employees. Sorenson characterizes this financial arrangement as the making of a personal "loan" to the corporation and seems to take the position that there was no actual contribution to capital.
Sorenson's explanation for the failure to make withholding during the two quarters in question is that the corporation had no available funds for this purpose. Regal had no funds to meet its net payroll other than those provided by Sorenson to the corporation or those released from the "trust account." Even these sums were insufficient and the employees were paid "draws" on their salaries (e. g., 50%) rather than their full salaries. These circumstances led the district court to relieve Sorenson from liability under § 6672 as stated in the following Finding of Fact and a Conclusion of Law based thereon:
To accept the trial court's Finding of Fact and Conclusion of Law, it would be necessary for us to hold that Sorenson's personal funds "never became funds of the corporation" or that, even if they did so become, such funds were never "under his control" for the purpose of paying a tax liability of the corporation. In our opinion, neither holding would be justified.
Sorenson's personal funds became "funds of the corporation" when they were used to pay net salaries of the employees of the corporation. We so hold. The fact that such funds were deposited to the corporate account and withdrawn therefrom by checks signed by Sorenson strengthens our conclusion but is not necessary to it. The use to which the funds were put, viz. the payment of corporate obligations, transformed Sorenson's personal funds into "funds of the corporation."
Moreover, we perceive no basis for holding that these "funds of the corporation" were not under Sorenson's control. The record is clear that Sorenson was the person with both the duty and responsibility to assure that withholding occurred with respect to salaries paid. Contemporaneously with the transformation of his funds into the "funds of the corporation" there came into existence "control" of such funds by him. To assert that because Sorenson used his own money to keep Regal afloat there existed no duty with respect to Regal "to collect, truthfully account for, and pay over"
We reach this conclusion because under such circumstances there exists an intentional act to prefer creditors holding wage claims over tax claims held by the United States. It is clear that a "voluntary, conscious, and intentional act to prefer other creditors over the United States" constitutes a willful failure to pay over. Bloom v. United States, 272 F.2d 215, 223 (9th Cir. 1959). Employees to whom wages are owed are but a particular type of creditor. There is no basis in law for preferring the wage obligation to them over the withholding obligation to the Government. One who has voluntarily disabled himself from meeting this tax obligation by using all funds for wages has engaged in a "willful" act.
The proper course for those, such as Sorenson, who have scarce resources is to prorate such funds as are available between the Government and the employees. Thus, assuming a withholding obligation of 10% on gross wages, a net wage obligation of $100,
At oral argument counsel for Sorenson contended that the failures to collect and pay over were not willful because Sorenson mistakenly believed that withholding need not be made on salaries paid out of "personal" funds. There are some statements by Sorenson to this effect in the record but the record also shows that any misapprehensions or ignorance were largely self-imposed.
We find no merit in the estoppel argument raised below by appellee. The judgment of the district court is therefore reversed and the case remanded with instructions to enter judgment for the Government.
Reversed and remanded.
FootNotes
The deposition goes on to relate certain difficulties with IRS delinquency notices because Sorenson chose not to open corporate mail for several months, preferring to toss unopened mail into a box to gather dust.
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