When a factoring company in considering financing invoices from a company who is about to become a client, one of the items on the short list will be – are your payroll taxes all paid up to date?
This question could be considered a show stopper item that would halt the possible progress of the due diligence process. If there are outstanding payroll taxes due to the IRS, then something needs to be done about it.
Either the delinquent amount gets paid to the IRS at closing using the first invoices as the method to pay them off, or a workout plan between you and the IRS has to be negotiated, approved and accepted. Once a monthly plan for paying off the delinquent payments is formally in place then the factoring company would apply for subordination from the IRS. This means the IRS formally acknowledges that the plan is in place and the factoring company has permission to finance your invoices without the threat of the IRS collecting the proceeds from your customers.
Generally if you remain cooperative with the IRS, they tend to understand the situation and getting the subordination is not very difficult. But it can be time consuming so asking to get funding by Friday probably won’t happen. While negotiating with the IRS on the workout plan, telegraph right away that you intend to secure outside financing and the subordination will be requested.
The reason behind all of this is, hypothetically a factor will finance an invoice and while waiting to have the customer pay the bill, the IRS can step in and collect it. They butt in line and are the first one to collect any income. Again, this is in extreme situations where they are not getting any cooperation.
Even with an subordination in place the IRS has been known to slip up and still collect out an unpaid invoice. Then it becomes a fight to try to get them to release the funds which is always time consuming and painful. This is especially true for Federal Government Contractors as the IRS will contact the Agency with the contract and file to have unpaid balances automatically deducted.