Dan O. Davis, Plaintiff-Counter-Claim-Defendant-Appellant v. United States of America, Defendant-Counter-Claimant-Appellee

Dan Davis, the president and major shareholder of ITAC Corporation, appeals a jury verdict finding him liable for willfully failing to pay withholding and social security taxes for ITAC’s employees for the last quarter of 1981 and the first two quarters of 1982. Davis had argued that he was not a responsible officer and that his subsequent preference of other creditors over the Internal Revenue Service (“IRS”) did not evince “willfulness.” The district court refused to instruct the jury on Davis’s definition of willfulness. The jury subsequently found Davis liable for the employee taxes owed the government. The district court also denied Davis’s motion to reduce the assessment for the last quarter of 1981. Davis appeals. We affirm.

BACKGROUND

A. Statutory Framework

The Internal Revenue Code requires employers such as ITAC Corporation (“ITAC”) to withhold federal social security and individual income taxes from the wages of their employees. 26 U.S.C. §§ 3102(a), 3402(a). 1 Although an employer collects this money each salary period, payment to the federal government takes place on a quarterly basis. In the interim, the employer holds the collected taxes in trust for the government. 26 U.S.C. § 7501(a). These taxes accordingly are known as “trust fund taxes.” Slodov v. United States, 436 U.S. 238, 243, 98 S.Ct. 1778, 1783, 56 L.Ed.2d 251 (1978). Other taxes, such as those directly owed by the business, are referred to as “non-trust fund taxes.”

Once net wages are paid to an employee, the government credits that employee with the tax payments, regardless of whether the taxes are ultimately paid over by the employer. Id. In order to protect against revenue losses, the tax code offers the IRS a variety of means of recovering from employers who fail to pay over collected employee taxes. In addition to tax liens, 26 U.S.C. § 6321, and criminal penalties, 26 U.S.C. §§ 7202, 7215, the IRS may assess a civil penalty against responsible corporate officials equal to the amount of delinquent trust fund taxes (“100% penalty”), 26 U.S.C. § 6672. Section 6672 provides, in relevant part:

Any person required to collect, truthfully account for, and pay over any tax imposed by this title who willfully fails to collect such tax, or truthfully account for and pay over such tax, or willfully attempts in any manner to evade or defeat any such tax or the payment thereof, shall, in addition to other penalties provided by law, be liable to a penalty equal to the total amount of the tax evaded, or not collected, or not accounted for and paid over.

A “person,” for purposes of section 6672, includes “an officer or employee of a corporation, or a member or employee of a partnership, who as such officer, employee, or member is under a duty to perform the act in respect of which the violation occurs.” 26 U.S.C. § 6671(b). The recovery of a penalty under section 6672 entails showing *870 that the individual both was a “responsible person” and acted willfully in failing to collect or pay over the withheld taxes. Maggy v. United States, 560 F.2d 1372, 1374 (9th Cir.1977), cert. denied, 439 U.S. 821, 99 S.Ct. 86, 58 L.Ed.2d 112 (1978).

B. Factual History

Dan Davis helped to organize ITAC in the mid-1970s. During the time in question, Davis was ITAC’s president, a member of its board of directors, and its major shareholder.

ITAC failed to pay its employees’ withheld social security and income taxes during the last quarter of 1981 and the first two quarters of 1982. Davis claims that he did not learn of this default until after July 31,1982, at which time the payments for all three quarters were past due.

In October 1987, ITAC began paying the delinquent taxes on an installment basis. In the course of making these payments, ITAC never designated to which quarter or liability they should apply, leaving the allocation to the IRS’s discretion.

Prior to calculating the 100% penalty against Davis, the IRS learned that no corporate assets were available to satisfy ITAC’s non-trust fund tax liability. This prompted the IRS to reallocate funds originally used to reduce the trust fund tax debt to cover the non-trust fund taxes owed. The IRS contends that this reallocation was necessary to ensure full collection of both trust fund taxes (which can be recovered from either ITAC or a responsible officer) and non-trust fund taxes (generally chargeable only to ITAC).

Upon receiving his section 6672 penalty assessment, Davis paid $100 of the $69,791 penalty and filed a refund suit in federal district court. 2 The government counterclaimed for the remainder of the penalty plus interest and fees.

At trial, Davis contested both his status as a responsible person and the issue of willfulness. With respect to willfulness, Davis argued that he was unaware of ITAC’s failure to make the tax payments until the money was overdue and the collected funds held in trust had been completely dissipated. Davis conceded that, after learning of the delict, he made payments to commercial creditors rather than to the IRS. These payments exceeded the amount of taxes due. Davis insists that these facts do not demonstrate willfulness because, under Slodov v. United States, 436 U.S. 238, 98 S.Ct. 1778, 56 L.Ed.2d 251 (1978), he had no obligation to use corporate funds acquired after the quarterly payments became due (“after-acquired funds”) exclusively to satisfy the IRS obligation.

The district court disagreed with Davis’s interpretation of Slodov, concluding that the use of after-acquired funds to pay creditors other than the IRS demonstrated willfulness. Accordingly, the district court declined to offer Davis’s proposed jury instructions on willfulness, advising the jury instead:

The term “Willfully” means only that the act of failing to collect, account for, or pay over the taxes was done voluntarily, consciously, and intentionally. If Dan 0. Davis voluntarily, consciously, and intentionally used the trust funds which were withheld, or caused or allowed them to be used for any other purpose other than payment of taxes, he is deemed to have acted willfully.... The only thing that need be shown is that [Davis] made a deliberate choice to pay other creditors instead of paying the Government.

On February 22, 1990, the jury returned a verdict finding that Davis was a “responsible person” throughout all three quarters in question and that Davis’s failure to pay over the taxes each quarter was willful.

In March 1990, Davis filed a post-trial motion seeking a reduction of the penalty assessed for the fourth quartér'of 1981. Davis argued that the effect of the IRS’s *871 reallocation of payments originally credited to that quarter was to increase his 100% penalty from $2,888.98 to $18,848.19. Davis contended that, once payments are credited to a specific tax debt, the IRS cannot later reallocate those payments to a different debt. Davis also argued that the IRS impermissibly allocated ITAC payments to liabilities that had not yet been assessed and failed to notify ITAC of how its funds had been allocated. The district court denied the motion for reduction of penalty.

On July 16, 1991, the district court formally entered judgment for the IRS. Davis filed a timely notice of appeal to this court!

DISCUSSION

I. The “Willfulness” Instruction

On appeal, Davis does not challenge the jury’s conclusion that he was a “responsible person” during the three quarters in which trust fund taxes were not paid over to the IRS. Davis argues only that, as a matter of law, he did not act willfully. Davis insists that, because he lacked knowledge of ITAC’s failure to pay the taxes until after they were due, his subsequent use of corporate revenues to compensate other creditors rather than to pay the delinquent taxes does not evince willfulness. Davis contends that he deferred payments to the IRS in an attempt to resuscitate ITAC and thereby maximize the chances that the taxes would be repaid in full over time. To hold otherwise, Davis continues, would encourage management to walk away from the corporation or discontinue business upon learning of a back tax liability, rather than expose themselves to personal liability for the tax debt by continuing to pay the corporation’s bills.

We review de novo the question whether the district court’s jury instructions properly stated the law. Collins v. City of San Diego, 841 F.2d 337, 340 (9th Cir.1988).

We reject Davis’s argument as inconsistent with the definition of willfulness promulgated by the Supreme Court and all other courts of appeals presented with the like claim. Davis’s, theory, moreover, .would reward responsible corporate officers for their ignorance and force the federal government to subsidize management efforts to revive private corporations.

A. Definition of Willfulness

Willfulness, within the meaning of section 6672, has been defined as a “ ‘voluntary, conscious and intentional act to prefer other creditors over the United States.’ ” Klotz v. United States, 602 F.2d 920, 923 (9th Cir.1979) (quoting Sorenson v. United States, 521 F.2d 325, 328 (9th Cir.1975)); see also Maggy, 560 F.2d at 1375; Teel v. United States, 529 F.2d 903, 905 (9th Cir.1976). An intent to defraud the government or other bad motive need not be proven. Klotz, 602 F.2d at 923. In fact, conduct motivated by a reasonable cause may nonetheless be willful. Barnett v. United States, 594 F.2d 219, 221 (9th Cir.1979).

Davis’s deliberate decision to use corporate revenues received after July 1982 (when Davis first became aware of the delinquency) to pay commercial creditors rather than to diminish ITAC’s tax debt falls within the literal terms of this Circuit’s definition of willfulness. The payments were a “voluntary, conscious and intentional act to prefer other creditors over the United States.” Klotz, 602 F.2d at 923 (quotation omitted). Indeed, Davis admits that ITAC received sufficient income to satisfy in full its tax delinquency had those funds not been diverted to satisfy other corporate debts.

B. The Slodov Decision

Davis argues that his actions fall within the exception to section 6672 liability carved out by the Supreme Court in Slodov. The Supreme Court held in Slodov that, if new management of a corporation assumes control when a delinquency for trust fund taxes already exists and the withheld taxes have already been dissipated by prior management, the new management’s use of after-acquired revenues to satisfy creditors other than the United *872 States does not make it personally liable for a section 6672 penalty. 436 U.S. at 259-60, 98 S.Ct. at 1791-92.

Mr. Slodov purchased the stock and assumed management of three corporations on January 31, 1969. At that time, the corporations owed $250,000 in unpaid withholding taxes. All of the money withheld from the employees’ salaries had been spent by prior management before Slodov assumed control. Indeed, when Mr. Slodov came to the helm, the corporations had absolutely no funds, trust or otherwise, with which to pay the tax debt. Under Mr. Slodov’s guidance, the companies acquired sufficient revenue to pay the tax liability, but Mr. Slodov used the money to meet other obligations such as wages, rent, and supplies.

The Supreme Court concluded that Mr. Slodov’s actions did not incur personal liability under section 6672.

[ Section] 7501 does not impress a trust on after-acquired funds, and ... the responsible person consequently does not violate § 6672 by willfully using employer funds for purposes other than satisfaction of the trust-fund tax claims of the United States when at the time [the responsible person] assumed control there were no funds with which to satisfy the tax obligation and the funds thereafter generated are not directly traceable to collected taxes referred to by that statute.

Id. at 259-60, 98 S.Ct. at 1791 (footnote omitted).

Informing the Supreme Court’s decision were three considerations. First, the Supreme Court felt that imposing liability under the circumstances would frustrate the statute’s purpose. Section 6672 promotes the full collection of taxes. Confronting potential rescuers of a failing institution with the Hobson’s Choice of either assuming personal liability for the back taxes or finding the money to satisfy the tax debt in full before conducting any business actually increases the risk of non-collection. Id. at 252-53, 98 S.Ct. at 1787-88. Buyers capable of resuscitating the company would be scared off, consigning the business to collapse and the IRS to bankruptcy court to collect its money. Relieving new management from personal liability, on the other hand, would provide the financial breathing room necessary for new officers to get a business back on its feet. Once recovered, the company not only could pay its tax debt, but also could contribute additional tax revenue in the future.

Second, the Supreme Court found the tax code’s language and legislative history inconsistent with a penalty theory that imposed “liability without personal fault.” Id. at 254, 98 S.Ct. at 1789. After-acquired funds, the Court continued, were not automatically impressed with a trust for the benefit of the government. Id. Rather, some “nexus between the funds collected and the trust created” must be established. Id. at 256, 98 S.Ct. at 1789-80. For new management, no such nexus exists.

Finally, the Court held that a rule automatically requisitioning all after-acquired cash for the federal Treasury would conflict with the priority rules creating a preferred status for some creditors over federal tax liabilities. See 26 U.S.C. § 6323. Responsible persons who paid these preferred creditors before paying back taxes might be deemed liable under section 6672 for diverting funds from the company’s trust fund tax repayment obligation. “Surely,” the Supreme Court explained, “Congress did not intend § 6672 to hammer the responsible person with the threat of heavy civil and criminal penalties to pay over proceeds in which the [Internal Revenue] Code does not assert a priority interest.” 436 U.S. at 259, 98 S.Ct. at 1791.

Davis would have this court extend Slo-dov to hold that the use of after-acquired funds to pay commercial debts by the same persons who were responsible for the failure to collect and pay the withholding taxes in the first instance (as opposed to new management) does not give rise to liability under section 6672. We decline Davis’s invitation for three reasons.

1. Slodov’s language

First, the Slodov opinion specifically excludes from its ambit Davis’s situation, lim *873 iting its holding to eases involving the accession of new management:

When the same individual or individuals who caused the delinquency in any tax quarter are also the “responsible persons” at the time the Government’s efforts to collect from the [corporate] employer have failed, and it seeks recourse against the “responsible employees, ” there is no question that § 6672 is applicable to them. It is the situation that arises when there has been a change of control of the employer enterprise, here corporations, prior to the expiration of a tax quarter, or at a time when a tax delinquency for past quarters already exists that creates the question for our decision.

Id. at 245-46, 98 S.Ct. at 1784 (emphasis added; footnote and citation omitted).

While Davis says that he was unaware of ITAC’s dereliction until the trust fund taxes were overdue, the district court properly instructed the jury that responsibility is a matter of status, duty, and authority, not knowledge. Thibodeau v. United States, 828 F.2d 1499, 1503 (11th Cir.1987) (per curiam); Wood v. United States, 808 F.2d 411, 415 (5th Cir.1987); see also United States v. Vespe, 868 F.2d 1328, 1334 (3d Cir.1989). The jury found that Davis was a responsible person and, as such, his actions or inactions caused ITAC not to pay over the withheld taxes as required by law. Because Davis was responsible both at the time the taxes went unpaid and at the time the government sought to collect under section 6672, “there is no question that § 6672 is applicable to [him].” Slodov, 436 U.S. at 246, 98 S.Ct. at 1784.

Davis counters that simply being responsible is not enough. He points out that Mr. Slodov was a corporate officer as of January 31, 1969 — the day that payments for the last quarter of 1968 were due. Status as a responsible person, however, does not attach automatically to every officer engaged in fiscal management on the day the tax check must be written. Rather, liability as a responsible person attaches each time salaries are paid during the course of a quarter. “As the employer withholds taxes from the employees, a contingent liability is created. The liability merely becomes fixed on the date when the payments are due.” Teel, 529 F.2d at 906; see Maggy, 560 F.2d at 1375 (holding that Maggy was a responsible person for that portion of the quarter during which he actually exercised control over corporate disbursements; that Maggy was not technically still a responsible officer on the day payment was due did not expunge his liability for the earlier portion of the quarter); United States v. De Beradinis, 395 F.Supp. 944, 951 (D.Conn.1975) (“The obligation of a responsible officer arises at the time the taxes are withheld from wages, not at some subsequent time when payment is due or the return is to be filed.”), aff'd mem., 538 F.2d 315 (2d Cir.1976). Mr. Slodov, unlike Davis, had no role in the corporation at the time the taxes were withheld and salaries disbursed. Nor did the corporation have any funds available with which to pay the tax when Slodov arrived on January 31st.

Davis, by contrast, did not simply appear on the eve of tax payment day. To the contrary, his status and role in the corporation made him a responsible person from the day the first salary was paid in the last quarter of 1981. Moreover, Davis has made no showing that corporate funds did not exist with which to satisfy the tax liability on the payment due date. He contends only that the funds actually withheld had been disbursed by this time. This is insufficient to invoke the protection of Slo-dov.

2. Slodov’s rationale

Second, the three considerations on which the Slodov opinion was predicated do not obtain in this case. Davis claims that, once he learned that ITAC was not paying employees’ withholding taxes, he assumed a more active role in supervising corporate disbursements. He contends that the factors animating the Slodov decision with respect to new management apply with equal force to the shuffle of duties that took place at ITAC. In other words, Davis would have this court equate transfers of responsibility internal to the corporation *874 with the accession of new management that occurred in Slodov. The Supreme Court’s analysis, however, will not support such a conclusion.

In Slodov, the Supreme Court expressly counselled against interpreting section 6672 in such a manner that “the penalties easily could be evaded by changes in officials’ responsibilities prior to the expiration of any quarter.” 436 U.S. at 247, 98 S.Ct. at 1785. Davis’s theory would encourage corporate roulette. Responsible officers, upon learning that taxes had gone unpaid during their watch, could simply rotate their respective responsibilities and duties. Once the officers assumed their new duties, they would be relieved from section 6672 personal liability for the use of forthcoming revenues to pay debts other than the back taxes. The corporation could thus delay compensating the federal treasury for the use of its money indefinitely, thereby freeing up corporate income for more self-interested expenses.

Slodov’s concern for encouraging new management to salvage failing businesses, thus maximizing the chances for tax recovery, also loses much of its luster in this context. Persons “contemplating assuming control of a financially beleaguered corporation owing back employment taxes,” Id. at 252-53, 98 S.Ct. at 1787-88, might be deterred by the risk of personal liability. While Davis suggests that he and other responsible officers, just like potential purchasers, have the option of just walking away when they learn of an accrued withholding tax liability, in reality the choice for existing management is not that simple. Existing management has a vested interest, financial and otherwise, in guiding a business through troubled waters. Legal obligations and duties limit an officer’s ability to walk away upon learning of an overdue tax liability. Indeed, for “responsible persons,” leaving is no guarantee that liability will still not attach. A jury or judge could disbelieve protestations of ignorance or find that the officer acted recklessly or was willfully ignorant of the failure to pay taxes. See Teel, 529 F.2d at 905. Existing management like Davis, in other words, has sufficient incentive to remain and to keep the company afloat and capable of repaying taxes without specifically excepting them from section 6672 liability.

Slodov’s insistence on personal fault is also satisfied in this case. Unlike Mr. Slo-dov, Davis presided over the corporation every day during which taxes were taken from employees’ checks and dissipated to satisfy corporate needs, at the expense of the public fisc. The jury found that, throughout these three quarters, Davis had the authority and responsibility to prevent this breach of trust, but failed to do so. 3 While the briefs do not trace the expenditure of the trust funds, Davis at least indirectly benefited from the illicit diversion of the federal government’s money. Bills and salaries (including Davis’s) were paid and the company kept afloat for three quarters. That might not have been possible without the use of the tax revenues. A much stronger foundation for personal fault thus exists for Davis than for new management like Mr. Slodov.

Concerns about priority rules also have no practical application in this case. Davis has made no showing that any of the creditors he preferred to the IRS held debts given a priority by the tax code. See 26 U.S.C. § 6323. We thus leave for another day the question whether section 6672 liability attaches when existing management uses after-acquired funds to pay only debts having priority over a tax lien. With respect to otherwise unencumbered corporate income, the obligation to repay the taxes remains intact.

Finally, it should be noted that Slodov was concerned with the situation where, when new management assumes control, the business has no funds at all available to alleviate its tax debt. While Davis points out that the trust funds were dissipated prior to the time he learned of the delict, he *875 makes no showing that “there were no funds with which to satisfy the tax obligation.” 436 U.S. at 259-60, 98 S.Ct. at 1791-92. It is unclear from the Supreme Court’s opinion how critical a factor the impoverishment of the business is, other than that the total unavailability of cash and liquid assets makes the revival of the business through commercial expenditures much more urgent and the threat that the IRS will be unable to collect due to a bankruptcy much more immediate. To the extent ITAC was in a more solvent financial condition, it had less of an excuse to prefer commercial creditors over the IRS.

3. Circuit court decisions

The third reason we refuse to extend Slodov to Davis’s situation is that Davis’s proposed interpretation of Slodov has been implicitly foreclosed by two of our previous decisions and expressly rejected by four other federal courts of appeals. In two decisions pre-dating Slodov, we held that the use of after-acquired funds to compensate debtors other than the United States amounts to willfulness. In Teel, the responsible corporate officers first learned of the business’s failure to pay on October 17, 1966. After October 17th, the same officers knowingly used incoming cash to purchase new merchandise. The Ninth Circuit observed:

The [purchase] agreement seems sensible and honest. But the trouble is that as the cash went into the cash drawer, it became subject to trust or lien in favor of the federal government for the unpaid withholding taxes. By dissipating the cash for new purchases, of which the taxpayers knew, they unwittingly supplied the necessary willfulness. Because the failure to pay the arrearages and current tax after October 17, 1966, was willful, any factual issue as to ignorance of nonpayment prior to October 17, 1966, is not material.

529 F.2d at 905-06.

Likewise in Maggy, we held that a responsible officer’s failure to use funds received by the business to repay its tax liability constituted willfulness because “the funds which came into the corporation became immediately subject to a trust or lien in favor of the United States for the unpaid withholding taxes.” 560 F.2d at 1375-76.

Davis attempts to distinguish these cases on two grounds. He argues firstly that Teel’s and Maggy’s reliance on a trust fund theory is outmoded in light of Slodov’s admonition that “[njothing whatever in § 6672 ... suggests that the effect of the requirement to ‘pay over’ was to impress a trust on the corporation’s after-acquired cash.” 436 U.S. at 254, 98 S.Ct. at 1789.

While Slodov might quarrel with some of Teel’s and Maggy’s phraseology, we nevertheless consider our previous opinions’ analyses sound and their bottom-line conclusions consistent with Slodov. Applying the appellation “trust” to Teel’s and Mag-gy’s after-acquired funds was simply a shorthand acknowledgment of the obligations section 6672 imposes on persons who (unlike Slodov) are responsible when the taxes are collected, when the funds are dissipated, and when subsequent corporate income is diverted to creditors other than the United States. Slodov recognizes this distinction when, at the outset of its opinion, the Supreme Court contrasts Slodov’s circumstances with the situation where the same corporate officers who prefer other creditors to the federal treasury were responsible before, during, and after dissipation of the withheld taxes. 436 U.S. at 245-46, 98 S.Ct. at 1784-85. In the latter case, the Supreme Court said “there is no question that § 6672 is applicable to them.” Id. at 246, 98 S.Ct. at 1784; see also Mazo v. United States, 591 F.2d 1151, 1154 (5th Cir.) (Slodov “implicitly affirms [Teel’s and Maggy’s] conclusions because the [Supreme] Court assumes at the outset that a penalty may be exacted from a person who was responsible both during the period withholding tax liability accrued and thereafter”), cer t. denied, 444 U.S. 842, 100 S.Ct. 82, 62 L.Ed.2d 54 (1979).

Moreover, the Supreme Court’s concern with imposing a trust on all after-acquired funds under all circumstances was that such a theory gave insufficient heed to the *876 necessary nexus between the payment obligation and the after-acquired funds. See Slodov, 436 U.S. at 256, 98 S.Ct. at 1789-90. In Davis’s case, his continuing responsibility before, during, and after the tax delinquency creates the requisite linkage between subsequently received cash and a duty to satisfy the trust fund tax delinquency.

Davis also tries to sidestep Teel and Maggy by pointing out that the responsible officers there learned of the tax delinquency before the actual payment due date and thus were under an absolute obligation to use any and all corporate funds to pay the taxes on time. Davis insists that he remained in the dark until after the money was due. Assuming the jury believed Davis’s claim of ignorance, Davis still fails to explain why this timing factor should be critical. What is key in Teel and Maggy is that (1) the officers were in responsible positions at the time the taxes were or should have been collected and at the time trust moneys were dissipated, and (2) they ignored their obligations as responsible officers, knowingly and willfully diverting after-acquired cash to commercial creditors instead of paying the United States. Like Teel and Maggy, Davis’s status and authority throughout the quarters, not his state of mind, made him a responsible person. As in Maggy and Teel, Davis’s actions after he learned of the tax debt are what constituted willfulness. The arrival of a payment date, after all, does not by itself impose liability. It simply marks the fruition of liability — that is, responsibility — accumulated throughout the quarter as salaries were paid and/or trust funds dissipated. See Maggy, 560 F.2d at 1375; Teel, 529 F.2d at 906; De Beradinis, 395 F.Supp. at 951. Similarly, a person may still be deemed responsible for a quarter’s tax payment even if she no longer holds a responsible position when the payment date arrives. See Slodov, 436 U.S. at 247, 98 S.Ct. at 1785; Brown v. United States, 591 F.2d 1136, 1140 (5th Cir.1979).

Numerous federal courts of appeals have followed Teel’s and Maggy’s holdings in the post-Slodov era, specifically rejecting in the process the argument Davis now proffers. In Mazo, the Fifth Circuit refused to extend Slodov to cases “[wjhere there has been no change in [corporate] control.” 591 F.2d at 1154. The Fifth Circuit emphasized that the Supreme Court specifically limited