Ask The EDD Attorney – Can You Be Held Personally Liable For Your Corporation’s Taxes?

By Robert S. Schriebman

July 27, 2016

Introduction

Can the EDD, IRS, FTB and SBE hold you personally liable for corporate level taxes? When it comes to payroll taxes both the EDD and the IRS have laws that allow these agencies to hold “responsible persons” personally liable for corporation payroll taxes. The SBE has draconian provisions that allow them wide attitude in holding corporate owners and others personally liable for the failure to pay corporate level sales and use taxes. What about income taxes? This article will discuss a recent IRS case that held a corporate shareholder personally liable for corporate level unpaid income taxes.

The Case Of Richard H. Cullifer

Richard Cullifer (Richard) wholly owned a small Texas corporation. The corporation ran up a substantial income tax bill to the IRS. Before the corporate tax return was filed with the IRS Richard sold corporate assets to another corporation in a tax shelter scheme. The sale drained the corporation of assets and its ability to pay virtually any tax liability. Richard wound up with the sales proceeds. After the sale Richard filed a final corporate income tax return showing a substantial tax debt to the IRS, but did not pay the IRS. This caused the IRS to assess back taxes, delinquency penalties, and interest against the corporation, but not against Richard personally; that is until an IRS collector got a hold of the case.

When an IRS collector concluded that Richard intentionally disabled his corporation of its ability to pay taxes, the IRS went after Richard personally as a transferee pursuant to IRC § 6901 because the transfer was fraudulent under the Texas Uniform Fraudulent Transfer Act (UFTA). Cullifer v. Commissioner of IRS, (2016-1 U.S.T.C. May 31, 2016).

Why should we, living in California, be concerned about what happened in Texas? Because the UFTA is a body of law that has been adopted by almost all states, including California. Richard, however, argued before the US Tax Court, that what he did was not a fraudulent transfer because he transferred corporate assets before he filed the corporate income tax return. Therefore, at the time of sale, the corporation did not owe the IRS any money as no debt arose to the IRS before the tax return was filed showing a tax liability.

Both the US Tax Court and the Eleventh Circuit Court of Appeal did not buy into Richard’s argument. Both courts ruled that the IRS was a foreseeable future creditor at the time the transfers were made and not at the time the final corporate tax returned was filed. IRC § 6901 permits the IRS to proceed against a transferee of property to recover taxes, penalties and interest owed by the transferor. The corporation was rendered insolvent because the sale drained its assets. Under transferee liability rules, the transferee of the proceeds of the sale, Richard, is liable for the entire federal tax debt to the extent of the proceeds he received. For example, if the corporation owed the IRS $20,000 and Richard received $25,000 of assets, he would be liable for the entire corporate level tax liability. On the other hand, if Richard received only $15,000 of assets, he would be liable to the IRS only for $15,000. He would not be liable for the full $20,000 debt.

Basic Theories of Transferee Liability

In my practice, I have found that neither the IRS nor the FTB holds corporate officers and shareholders personally liable for corporate level income taxes unless these individuals actively disable the corporation of its ability to pay these taxes. There are provisions in the Revenue and Taxation Code (RTC) that allow the FTB to pursue responsible persons if the corporation or LLC fails to pay the annual minimum California franchise tax of $800 per year. I have been practicing taxation for decades. I have yet to see the FTB pursue individuals for delinquent annual franchise taxes. Perhaps the cost to the FTB is not worth the return.

Having said the above, when corporate officers and shareholders deliberately strip the corporation of its ability to pay taxes, both the IRS and the FTB have several weapons and means at their disposal to pursue collection action against those individuals. These methods involve statutory alter-ego liability, successor liability and transferee liability.

Alter-Ego Liability

Collection via the alter-ego approach is pursued by court action against the alter-ego of a corporation in those cases involving “closely held” corporations and statutory “close” corporations having no shareholders’ agreement or acting contrary to such agreement. In such cases, where the shareholders are merely the alter-ego of the corporation, the courts will treat the shareholders and the corporation as synonymous, rather than as separate entities, and hold the individual shareholders personally liable for the corporate obligations as a matter of equity.

Successor Liability

If the debtor corporation causes its assets to be sold or otherwise transferred to another entity at less than fair market value, a tax collector acting on his or her own initiative, can pursue the transferee entity for the debtor corporation’s tax liability to the extent of the assets received on the transfer. The successor entity can be liable for the same taxes, penalties and interest as the transferor corporation owed. No court order is necessary. The collector can levy and seize the transferred assets to the extent of the tax debt. This is why it is very important for the transferee entity to obtain from the IRS or FTB a Certificate of Discharge of Tax Liability, Certificate of Non-Attachment of Lien, or similar release of tax claim.

Transferee Liability

The Cullifer case is a clear example of how corporate shareholders and officers can be held personally liable when they strip the corporation of its ability to pay its taxes. Both the IRS and the FTB have comparable transferee liability statutes. The IRS uses IRC § 6901 and the FTB uses ITC § 19231-19236.

Conclusion

Perhaps someone gave Richard some bad advice and told him that shareholders and officers are never personally liable for corporate level IRS and FTB income taxes. In tax law we learn never to say never. Richard brought the IRS down on himself by being ill informed and perhaps a bit greedy.

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Robert Schriebman has a successful practice in the Rolling Hills Estates area of Los Angeles County serving clients throughout California and the United States. He has successfully dedicated more than 40 years to helping individual taxpayers, business owners, CPAs, Enrolled Agents, and tax attorneys navigate the complicated tax systems of the federal and state governments.

Robert Schriebman has written the only 2 books ever published dealing with how California Employment Development Department (EDD) operates. See “California Tax Collection Practice and Procedures” and “California Taxation Practice and Procedure,” both published by Commerce Clearing House.

Robert Schriebman has written over 20 books including the major manual used nationally by practitioners and the IRS, “IRS Tax Collection Procedures – A Manual for Practitioners” published by Commerce Clearing House.

Robert Schriebman has written over 20 books including the major manual used nationally by practitioners and the IRS, “IRS Tax Collection Procedures – A Manual for Practitioners” published by Commerce Clearing House in addition to the only 2 books ever published dealing with how California Employment Development Department (EDD) operates. See “California Tax Collection Practice and Procedures” and “California Taxation Practice and Procedure,” both published by Commerce Clearing House.

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