Was Mr. Hubcap liable for $661.10 of negligence penalty when its bookkeeper stopped paying CRS taxes while embezzling, but the owners never reviewed bank statements or supervised her accounting work?

Plain-English summary

Mr. Hubcap remained liable for $661.10 of negligence penalty because its lack of internal financial controls allowed a bookkeeper to stop paying CRS taxes while embezzling company funds. The bookkeeper's crimes were not attributed to the company under respondeat superior, but the owners' own failure to supervise and review the accounting system constituted negligence.

The family-owned business had an exemplary tax history from 1977 through 1998. After a bookkeeping transition, a family friend named Bonnie took responsibility for deposits, bills, CRS returns, check preparation, bank reconciliation, information for the CPA, and incoming mail.

For August and September 2000 and April through December 2001, Bonnie stopped sending CRS tax payments. During the same period she diverted funds by obtaining signed blank or cash checks and by forging an owner's signature on checks payable to herself.

The criminal conduct was not attributed to the employer

An employer is generally responsible for an employee's wrongful acts committed within the course and scope of employment. The decision found that theft and embezzlement served Bonnie's independent personal motive rather than Mr. Hubcap's interests.

Her failure to make tax payments coincided with and appeared part of the diversion scheme. Those criminal acts therefore were not imputed to the company under respondeat superior.

The company lacked basic safeguards

The direct cause of nonpayment was the bookkeeper's conduct, but the company gave her complete, unsupervised control over accounting operations. Mark Sivert and his brother did not review bank statements, verify monthly CRS payments, or ask the outside accountant to conduct those checks.

The only nominal safeguard—keeping check-signing authority with the owners—was undermined when one owner signed blank checks and checks payable to cash.

The owners trusted Bonnie and did not notice unpaid taxes, creditor notices, forged checks, or diverted funds until assessments arrived.

Small-business size did not eliminate oversight duties

The hearing officer recognized that a small business may have only one person handling routine bookkeeping. In that situation, the principals must regularly review bank statements and accounting records or arrange for an outside accountant to do so.

Procedures capable of detecting forged checks and missing payments likely would have exposed or deterred the scheme. Giving one employee unchecked control was a failure of ordinary business care and prudence.

The negligence presumption applied to penalty

Sections 7-1-3 and 7-1-17(C) treated civil penalty as part of tax and presumed the assessment correct. Section 7-1-69 imposed penalty for negligence or disregard of rules, and Regulation 3.1.11.10 included inaction, carelessness, and failure to exercise ordinary business care.

Mr. Hubcap did not overcome that presumption.

Result: protest DENIED. The $661.10 negligence penalty remained due.

What this means for you

Small businesses with one bookkeeper

Separate or independently review deposits, check preparation, bank reconciliation, tax filing, and mail whenever possible.

Owners delegating tax payments

Verify filings and payments directly through account records. Signing a return or check is not enough if no one confirms it was mailed or processed.

Companies using blank checks

Do not sign blank checks or checks to cash without supporting documentation and later reconciliation.

Employers who discover employee theft

Criminal conduct may not be imputed to the business, but penalty can still arise from the company's own weak controls and lack of supervision.

Common questions

Q: How much penalty did Mr. Hubcap protest?
A: $661.10.

Q: Was the bookkeeper's embezzlement attributed to the company?
A: No. It served her personal interests and was outside the scope of employment.

Q: Why did penalty still apply?
A: The owners failed to supervise the accounting system, review statements, or verify tax payments.

Q: What control did the company retain?
A: Owners had check-signing authority, but one undermined it by signing blank checks and checks to cash.

Q: What review did the decision expect?
A: Regular owner review of bank and accounting records or equivalent review by an outside accountant.

Citations and references

Statutes and regulation:

• NMSA 1978, §§ 7-1-3 and 7-1-17(C) — civil penalty included in tax and assessment presumed correct
• NMSA 1978, § 7-1-69(A) — penalty for negligence or disregard of rules and regulations
• Regulation 3.1.11.10 NMAC — taxpayer negligence definition

Cases and authority cited:

• El Centro Villa Nursing Center v. Taxation and Revenue Department, 108 N.M. 795, 779 P.2d 982 (Ct. App. 1989)
• UJI 13-407 — respondeat superior
• Los Ranchitos v. Tierre Grande, Inc., 116 N.M. 222, 861 P.2d 263 (Ct. App. 1993)

Source

• Listing: New Mexico Decisions & Orders
• Decision post: Mr. Hubcap, Inc.
• Decision PDF: D&O 03-10

Original ruling text

BEFORE THE HEARING OFFICER
OF THE TAXATION AND REVENUE DEPARTMENT
OF THE STATE OF NEW MEXICO

IN THE MATTER OF THE PROTEST OF
MR. HUBCAP, INC. No. 03-10
ID NO. 01-176426-00-0
ASSESSMENT NOS. 3913634 through 3913636,
3917025 through 3917028, and 3917099 through 3917102

DECISION AND ORDER

A formal hearing on the above-referenced protest was held June 5, 2003, before Margaret B.

Alcock, Hearing Officer. The Taxation and Revenue Department ("Department") was represented by

Peter Breen, Special Assistant Attorney General. Mr. Hubcap, Inc. (“Taxpayer”) was represented by

Mark Sivert, its president. Based on the evidence and arguments presented, IT IS DECIDED AND

ORDERED AS FOLLOWS:

FINDINGS OF FACT

1. The Taxpayer is a family-owned business that is registered with the Department for

payment of gross receipts, compensating, and withholding taxes, which are required to be paid

monthly under the Department’s combined reporting system (“CRS”).

2. Mark Sivert is the president of the company, and he and his brother manage the day-

to-day operation of the business. From 1977 through 1998, their sister did the bookkeeping for the

business. During this period, the Taxpayer had an exemplary tax reporting history with the

Department.

3. In 1998, Mr. Sivert’s sister retired and his wife took over as bookkeeper.

4. In 2000, Mr. Sivert’s wife suffered a stroke. At that time, a family friend named

Bonnie was hired to perform the bookkeeping duties for the business.

5. Bonnie was responsible for all of the Taxpayer’s accounting procedures. This

included depositing the money collected by the business each day, balancing the checkbook each

month, making out the checks to pay taxes and other bills, preparing the Taxpayer’s monthly CRS

returns, and providing information to the Taxpayer’s CPA, who prepared the Taxpayer’s state and

federal income tax returns.

6. Bonnie was not authorized to sign tax returns or checks on behalf of the Taxpayer.

Once the returns and checks were prepared, she brought them to Mr. Sivert or his brother for review.

After the returns and checks were signed, Bonnie was responsible for making sure they were mailed

in a timely manner.

7. For the months of August and September 2000, April through December 2001, and

continuing into 2002, Bonnie failed to pay the Taxpayer’s CRS taxes.

8. During this same period, Bonnie began embezzling funds from the business. The

embezzlement was accomplished in two ways: (1) Bonnie had Mr. Sivert’s brother sign blank

checks or checks made out to cash and told him they were for office supplies or other items for the

business. Bonnie subsequently cashed the checks and diverted the funds to her own use. (2) Bonnie

made checks out to herself and forged the signature of Mr. Sivert’s brother on those checks.

9. Mr. Sivert and his brother trusted Bonnie completely and never reviewed or

questioned how she was handling the Taxpayer’s financial operations.

10. Mr. Sivert never checked to see whether Bonnie was making the Taxpayer’s monthly

CRS tax payments in a timely manner.

11. Mr. Sivert and his brother never looked at the monthly bank statements for the

business, nor did they ask their outside accountant to do so.

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12. Because the Taxpayer did not have internal controls in place, Mr. Sivert and his

brother did not realize that Bonnie had stopped paying taxes and was diverting money from the

business to her personal use.

14. On August 13, 2002, the Department assessed the Taxpayer for CRS taxes, plus

interest and penalty, due for reporting periods August and September 2000, and April through

December 2001.

15. Upon receiving the assessments and notices from other creditors, Mr. Sivert and his

brother began an investigation to determine why taxes and other bills were not being paid.

16. Upon review of the Taxpayer’s bank statements, Mr. Sivert’s brother realized that his

signature had been forged on several checks and that the blank checks he signed at Bonnie’s request

had been made out to Bonnie or to cash, instead of to the various vendors from whom Bonnie

claimed to have purchased supplies.

17. On August 19, 2002, the Siverts notified the Albuquerque Police Department and

filed an incident report concerning Bonnie’s forgery and embezzlement.

18. On September 10, 2002, the Taxpayer filed a written protest to the $661.10 of

penalty assessed by the Department.

DISCUSSION

The issue to be determined is whether the Taxpayer is liable for penalty on the late payment

of CRS taxes due for reporting periods August and September 2000 and April through December

2001. Section 7-1-17(C) NMSA 1978 provides that any assessment of taxes made by the

Department is presumed to be correct. Section 7-1-3 NMSA 1978 defines tax to include not only the

amount of tax principal imposed but also, unless the context otherwise requires, “the amount of any

interest or civil penalty relating thereto." See also, El Centro Villa Nursing Center v. Taxation and

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Revenue Department, 108 N.M. 795, 779 P.2d 982 (Ct. App. 1989). Accordingly, the presumption of

correctness applies to the assessment of penalty at issue in this case, and it is the Taxpayer’s burden

to present evidence and legal arguments to support an abatement.

Section 7-1-69 NMSA 1978 governs the imposition of penalty. Subsection A imposes a

penalty of two percent per month, up to a maximum of ten percent when a taxpayer fails “due to

negligence or disregard of rules and regulations” to pay taxes or file required tax reports in a timely

manner. Taxpayer negligence for purposes of assessing penalty is defined in Regulation 3.1.11.10

NMAC as:

1. failure to exercise that degree of ordinary business care and
   prudence which reasonable taxpayers would exercise under
   like circumstances;

2. inaction by taxpayers where action is required;

3. inadvertence, indifference, thoughtlessness, carelessness,
   erroneous belief or inattention.

Here, the Taxpayer’s failure to pay CRS taxes is attributable to the illegal activities of its bookkeeper

and to its own lack of internal financial controls.

Illegal Activities of the Bookkeeper. During the periods at issue, the Taxpayer’s bookkeeper

stopped sending required CRS payments to the Department. Under the doctrine of respondeat

superior, an employer is generally liable for the acts of its employee if the wrongful acts are

committed in the course and scope of employment. An employee who steals or embezzles is not

acting in the interests of his or her employer, but is acting from some independent, personal motive.

See, UJI 13-407; Los Ranchitos v. Tierre Grande, Inc., 116 N.M. 222, 227, 861 P.2d 263, 268 (Ct.

App. 1993). In this case, the bookkeeper’s failure to make required tax payments coincided with her

illegal activities and appears to have been part of her overall scheme to divert the Taxpayer’s funds

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to her own use. Accordingly, these acts cannot be attributed to the Taxpayer under the doctrine of

respondeat superior.

Lack of Safeguards in Accounting System. While the most direct cause of the Taxpayer’s

failure to make timely tax payments was the illegal acts of its bookkeeper, the failure was also

attributable to the lack of accounting safeguards maintained by the Taxpayer. The evidence establishes

that Mr. Sivert and his brother delegated total responsibility for the Taxpayer’s accounting operations

to their bookkeeper. As a result, the bookkeeper had complete and unsupervised control over the

deposit of funds to the Taxpayer’s account, the payment of taxes and other bills, the reconciliation of

the Taxpayer’s monthly bank statements, and the opening of all mail coming to the Taxpayer. The

one safeguard that was in place—reserving signature authority over the bank account to the

principals of the business—was undermined by the willingness of Mr. Sivert’s brother to sign blank

checks and checks made out to cash. This allowed the bookkeeper to divert money from the

Taxpayer’s account to her own use.

It is understandable that a small business may not have the resources to assign more than one

employee to perform the company’s routine bookkeeping and office duties. In that situation,

however, it is incumbent upon the company’s principals to regularly review the monthly bank

statements and accounting records or to arrange for an outside accountant to do so on their behalf. In

this case, the Taxpayer was the victim of an unscrupulous employee and had no intention of cheating

the State of New Mexico of taxes due. The fact remains, however, that the employee could not have

carried out her scheme (and probably would not have tried) if procedures had been in place to detect

her forgery and diversion of funds. The Taxpayer was negligent in giving such complete and

unsupervised control over its accounting system to a single employee, and penalty was properly

imposed under Section 7-1-69 NMSA 1978.

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CONCLUSIONS OF LAW

1. The Taxpayer filed a timely, written protest to Assessment Nos. 3913634 through

3913636, 3917025 through 3917028, and 3917099 through 3917102, and jurisdiction lies over the

parties and the subject matter of this protest.

2. The Taxpayer was negligent in failing to have a system of internal financial controls or

to properly supervise its bookkeeper’s activities, and penalty is due under Section 7-1-69 NMSA 1978.

For the foregoing reasons, the Taxpayer's protest IS DENIED.

DATED June 12, 2003.

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