                           In the
 United States Court of Appeals
              For the Seventh Circuit
                        ____________

No. 04-2199
DIAMOND PLATING COMPANY,
                                          Plaintiff-Appellant,
                              v.

UNITED STATES OF AMERICA,
                                          Defendant-Appellee.


                        ____________
           Appeal from the United States District Court
                for the Southern District of Illinois.
         No. 03 C 348—G. Patrick Murphy, Chief Judge.
                        ____________
 ARGUED NOVEMBER 12, 2004—DECIDED DECEMBER 6, 2004
                   ____________




  Before BAUER, MANION, and EVANS, Circuit Judges.
  BAUER, Circuit Judge. Plaintiff-Appellant Diamond
Plating Company, a manufacturing company that applies
chrome and nickel plating to metal products, failed to
timely file its employment tax returns for 1998 and 1999
and failed to timely deposit and pay its corresponding tax
liability. Diamond Plating tardily filed the returns in 2000,
and paid the taxes and interest over the next two years. The
IRS assessed penalties against Diamond Plating for failure
to timely file returns, failure to timely deposit taxes, and
2                                                    No. 04-2199

late payment of taxes. Diamond Plating paid a portion of
the penalties, and then requested a refund and abatement,
asserting that financial difficulties caused by the loss of a
major customer justified its noncompliance. After the IRS
Commissioner denied the request, Diamond Plating filed
suit for a refund of the already paid penalties and for
abatement of the remaining penalties. The district court
granted summary judgment in favor of the government. We
affirm.


                       I. Background
  Diamond Plating is a family-run metal finishing business
with about thirty employees in Madison, Illinois. Joseph
and Loretta Clark owned all of the company’s stock until
Joseph’s death in 1997, at which time Loretta Clark became
the sole shareholder. Loretta Clark was also the company
president during the relevant time period, though she took
a limited role in the operation of the business. Clark’s
children, Robert Cox and Gina Scaturro, played a more
active role in the business, Cox as the vice-president of
operations and Scaturro as the secretary-treasurer. Cox was
responsible for hiring and firing employees, bidding on jobs,
and dealing with customers and vendors, while Scaturro was
in charge of all accounting-related activities, including
paying creditors, filing Federal Insurance Contributions Act
(“FICA”) and Federal Unemployment Tax Act (“FUTA”) tax
returns, and depositing and paying the associated taxes.1


1
  Under FICA, 12.4% of wages up to an annual limit must be paid
into Social Security, and an additional 2.9%, not subject to an
annual limit, goes to Medicare. 26 U.S.C. §§ 3101-3111. Employers
and employees split the cost, with the employee’s portion automat-
ically deducted from his or her paycheck. Id. The FUTA tax
requires employers to pay 6.2% on the first $7,000 in wages paid
                                                     (continued...)
No. 04-2199                                                  3

  From 1990 to 1993, Diamond Plating’s revenue exceeded
$2 million every year, with Virco Manufacturing Company
accounting for about 80% of its revenue. At the end of 1995,
Virco decided to move its metal finishing in-house and
substantially reduced its business with Diamond Plating.
Diamond Plating’s revenue dropped from over $2 million in
1995 to about $920,000 in 1996. Virco began to do business
with Diamond Plating again in 1998, returning to approxi-
mately 40% of its previous level of business by the end of
1998. By the end of 1999, Virco’s business with Diamond
Plating had increased to between 50% and 60% of its former
level. Diamond Plating had revenue of approximately $1.2
million in 1997, $1.1 million in 1998, $1.6 million in 1999,
$1.8 million in 2000, and $2.5 million in 2001.
   Beginning with the first quarter of 1998 and continuing
through the last quarter of 1999, Diamond Plating stopped
filing its quarterly Form 941 FICA tax returns and stopped
timely depositing and paying its FICA tax liabilities.
Diamond Plating also failed to file its yearly Form 940
FUTA tax returns and failed to timely pay its FUTA lia-
bilities for the years 1998 and 1999. According to Cox,
Diamond Plating would have gone out of business or been
forced into bankruptcy if it had paid the taxes on time.
  Despite the company’s failure to file returns and pay its
1998 and 1999 FICA and FUTA taxes, Diamond Plating
paid all of its creditors during that period, though some bills
were paid late. Diamond Plating also made payments dur-
ing the period at issue to Clark for a loan she had made to
the company. In addition, Diamond Plating increased corpor-
ate officer salaries by a total of $40,000 in 1998, $26,000 in
1999, and $50,000 in 2000.



1
  (...continued)
to each employee. 26 U.S.C. § 3301-3311. FICA and FUTA taxes
often are referred to as employment taxes or payroll taxes.
4                                                No. 04-2199

  During 1998 and 1999, Scaturro discussed the company’s
financial problems with Clark on a weekly basis, but never
informed Clark that the employment taxes had not been
paid. Charles French, Diamond Plating’s outside accoun-
tant, contemporaneously prepared Diamond Plating’s 1998
and 1999 employment tax returns and advised Scaturro to
pay them. French knew that Scaturro did not pay the taxes,
and he listed them as liabilities on the corporation’s quar-
terly financial statements.
  In March 2000, Scaturro informed Clark that the 1998
and 1999 employment taxes had not been paid and that the
tax returns had not been filed. On April 9, 2000, Diamond
Plating filed the delinquent quarterly and annual tax re-
turns for 1998 and 1999. In July 2000, Clark obtained two
bank loans to help pay the delinquent taxes and interest.
Between June 2000 and March 2002, Diamond Plating paid
the delinquent taxes and interest, which totaled over $300,000.
  The IRS assessed penalties against Diamond Plating for
failure to timely file its FICA and FUTA returns under 26
U.S.C. § 6651(a)(2), for late payment under 26 U.S.C.
§ 6651(a)(2), and for failure to deposit taxes under 26 U.S.C.
§ 6656(a). The penalties totaled over $130,000. Diamond
Plating paid a portion of the penalties, but then filed a re-
quest for refund and abatement of penalties on September
25, 2000. After the IRS denied Diamond Plating’s request
by letter dated April 17, 2003, Diamond Plating filed this
lawsuit. The government filed a motion for summary judg-
ment, and the court held a hearing on the motion. Ruling
from the bench, the district judge rejected Diamond Plating’s
arguments that financial difficulties and deception by
Scaturro precluded it from paying the employment taxes,
and concluded that Diamond Plating had no reasonable ex-
cuse under the law for its noncompliance. The district judge
granted the government’s motion, a decision we review de
novo.
No. 04-2199                                                 5

                      II. Discussion
  The Internal Revenue Code requires employers to with-
hold FICA taxes from the wages of their employees, remit
the withheld taxes to the IRS on a quarterly basis, and
report the amount of the withheld taxes on a quarterly
payroll tax return. 26 U.S.C. §§ 3101-3111. While they are
still in the possession of the employer, the withheld funds
are referred to as “trust fund” taxes, with the employer ac-
ting as a trustee for the government. In re Avildsen Tools &
Machine, Inc., 794 F.2d 1248, 1249 (7th Cir. 1986). “Non-
trust fund” taxes, on the other hand, are taxes that are not
collected from employees’ wages, such as an employer’s
share of Social Security taxes. Id. The Code also requires
employers to file an annual FUTA tax return and pay the
corresponding unemployment tax liability. 26 U.S.C. § 3301-
3311. Where an employer fails to file FICA or FUTA tax
returns, or fails to deposit or pay the FICA or FUTA tax
liability shown on the tax returns, the Code provides for a
mandatory penalty, unless the taxpayer shows that the
failure was due to reasonable cause and not due to willful
neglect. 26 U.S.C. § 6651(a)(1); 26 U.S.C. § 6651(a)(2); 26
U.S.C. § 6656(a).
  In the instant case, Diamond Plating failed to timely file
its employment tax returns for 1998 and 1999, and failed to
timely deposit and pay its corresponding tax liability. The
sole issue before us is whether Diamond Plating has
established reasonable cause to excuse its noncompliance.
Although the Code does not define reasonable cause, the
relevant Treasury regulation requires Diamond Plating to
demonstrate that despite exercising “ordinary business care
and prudence,” it “was nevertheless either unable to pay the
tax or would suffer an undue hardship if [it] paid on the due
date.” 26 C.F.R. § 301.6651-1(c)(1). When assessing Dia-
mond Plating’s ability to pay the taxes, “consideration will
be given to all the facts and circumstances of [its] financial
situation. . . .” Id. The regulations also provide that the
6                                               No. 04-2199

employer will be held to a heightened standard when trust
fund taxes are at issue. 26 C.F.R. § 301.6651-1(c)(2). The
Supreme Court has described the taxpayer’s burden in
establishing reasonable cause as a heavy one. United States
v. Boyle, 469 U.S. 241, 245, 105 S.Ct. 687, 83 L. Ed. 2d 622
(1985).
  Diamond Plating contends that it had reasonable cause
for nonpayment of its employment taxes due to financial
distress caused by the loss of its main customer in late
1995. Diamond Plating points out that Virco accounted for
80% of its business until the end of 1995, when Virco moved
its metal finishing in-house. With the loss of Virco’s bus-
iness, Diamond Plating’s revenue decreased by more than
50% between 1995 and 1996. Diamond Plating urges us to
join a number of other circuits by recognizing that financial
hardship can, under some circumstances, justify failure to
pay and deposit employment taxes, and to find that a rea-
sonable jury could find those circumstances present in this
case. See Van Camp & Bennion v. United States, 251 F.3d
862, 868 (9th Cir. 2001); East Wind Corp., Inc. v. United
States, 196 F.3d 499, 507-08 (3d Cir. 1999); Fran Corp. v.
United States, 164 F.3d 814, 819 (2d Cir. 1999). But see
Brewery, Inc. v. Commissioner, 33 F.3d 589, 592 (6th Cir.
1994). According to Diamond Plating, it would have been
forced out of business or into bankruptcy if it had paid the
1998 and 1999 employment taxes.
   We agree with the majority of circuit courts that have
considered this issue, and recognize that financial hardship
may constitute reasonable cause for abatement of penalties
for nonpayment of taxes in some circumstances. Neverthe-
less, we have little trouble concluding that those circum-
stances are not present in this case. First, Diamond Plating
paid taxes in 1996 when its revenue was at its low point,
but then failed to pay employment taxes in 1998 and 1999,
by which time it had resumed doing business with Virco
and substantially restored its revenue level. Second, in the
No. 04-2199                                                   7

middle of the asserted financial distress, Diamond Plating’s
three corporate officers saw fit to increase their own salaries.
In fact, between 1997 and 2000, the corporate officers’
salaries increased by 70%, which had the dual effect of
dissipating funds that could have been used to pay the taxes
and increasing the company’s unpaid employment tax
liability. Third, all other creditors were paid during 1998 and
1999, and a number of payments were made to Clark, the
company president, on a loan made to Diamond Plating.
Finally, when Scaturro informed Clark in 2000 about the
failure to pay the employment taxes, Clark took immediate
action to pay off the delinquent taxes and interest, which
suggests that the company had an available source of credit
in times of financial difficulty. In light of these facts, no
reasonable jury could find that Diamond Plating’s financial
situation excused its failure to pay employment taxes in
1998 and 1999.
  We also note that some of the delinquent taxes were trust
fund taxes. Rather than remitting these taxes to the
government on a quarterly basis after withholding them
from employee wages, Diamond Plating used the funds for
operating expenses. Because this practice makes the gov-
ernment “an unwilling partner in a floundering business,”
Collins v. United States, 848 F.2d 740, 741-42 (6th Cir. 1988),
companies withholding trust fund taxes must provide strong
justification to avoid penalties. Diamond Plating has failed
to provide such a justification. Indeed, the undisputed evi-
dence shows that the company’s officers favored all other
creditors and themselves over the government, which se-
verely undermines Diamond Plating’s arguments about
financial distress.
  Diamond Plating also argues that Scaturro, the company’s
secretary-treasurer, incapacitated the company by conceal-
ing the nonpayment of taxes. We find this argument to be
unpersuasive. French, Diamond Plating’s outside accoun-
8                                               No. 04-2199

tant, contemporaneously prepared the employment tax
returns for 1998 and 1999, and instructed Scaturro to pay
the liability and file the returns. Scaturro did not pay the
taxes or file the returns, but did not conceal this fact from
anyone; the corporate officers did not ask Scaturro about it,
and she did not mention it. French was aware of the
nonpayment of taxes, and listed the tax liabilities on the
corporation’s quarterly financial statements. We cannot
understand why French did not alert Clark or Cox about
Scaturro’s inaction; nevertheless, Scaturro’s nonperformance
of her job responsibilities is not the government’s problem,
and did not excuse Diamond Plating from filing, depositing,
and paying its taxes. A modest amount of oversight of
Scaturro or the quarterly financial statements would have
revealed the problem, and the failure to provide such over-
sight indicates a lack of ordinary business care and pru-
dence. We accordingly reject Diamond Plating’s invitation to
excuse its noncompliance on the basis of Scaturro’s inaction,
and conclude that Diamond Plating has failed to carry its
heavy burden of showing reasonable cause for nonpayment
of taxes.


                     III. Conclusion
  For the reasons stated herein, we AFFIRM the decision of
the district court.
No. 04-2199                                          9

A true Copy:
      Teste:

                    ________________________________
                    Clerk of the United States Court of
                      Appeals for the Seventh Circuit




               USCA-02-C-0072—12-6-04
