ASK THE CALIFORNIA EMPLOYMENT TAX AND PAYROLL TAX ATTORNEY – THE HARSH AUBURN OLD TOWN GALLERY CASE OR WHY BUSINESSES ARE LEAVING CALIFORNIA?
By Robert S. Schriebman
Businesses and individuals are leaving California for friendlier states. There has always been some kind of arrogant attitude on behalf of those in power. Perhaps it is due to the geography and weather in California. People go and people come and that seems to be the way it’s always been. Reading the Office of Tax Appeals (OTA) decision in the Auburn Old Town Gallery LLC case, coupled with recently enacted AB 5, I can understand why many businesses find California a hostile environment for trying to earn a living.
On October 15, 2019, the OTA issued its decision in the Matter of the Appeal of Auburn Old Town Gallery, LLC, OTA Case No. 18093759 (Auburn).
The Facts In Auburn
A corporation or an LLC is required to pay a minimum annual franchise tax of $800 per year; even if it does not do business or earn any income. As long as the entity is legally extant it must pay this minimum annual franchise tax. Auburn was late is filing its 2014 tax return and did not file it until April 7, 2017. Auburn reported a $900 LLC fee, and $800 annual LLC tax for total payments of $1,700. No taxes were due. On May 18, 2017, the FTB issued an LLC Notice of Balance Due imposing a $12,960 late filing penalty, plus interest. On August 1, 2017, the FTB issued an LLC Past Due Notice because Auburn had not paid the bill. The notice stated that if Auburn did not pay the FTB in full, the FTB would pursue collection efforts and impose an additional collection fee. On January 30, 2018, the FTB imposed a $287 collection cost recovery fee. On March 1, 2018, Auburn paid everything in full and timely filed a Claim for Refund.
In its Claim for Refund, Auburn argued that the 2014 filing delinquency was solely due to inadvertence on the part of its accountant.
Auburn also stated in its Claim for Refund, that the IRS waived all late filing and late payment penalties because Auburn had no past history of noncompliance. Auburn asked the FTB to waive the penalties and interest as did the IRS. The FTB commonly follows the lead of the IRS in issuing assessments and abating penalties. In other words, if the IRS let you off the hook, the chances were pretty good that the FTB would do the same. I have found this to be very consistent when the IRS grants Innocent Spouse Relief. The FTB goes along with the IRS’ position, and also grants Innocent Spouse Relief.
The OTA Hearing
The FTB having refused to grant the refunds for the taxes, interest and collection costs recovery fee, Auburn appealed to the OTA. After citing the appropriate law relating to the annual filing requirements for LLCs, the OTA turned to the issue of whether reasonable cause existed for the abatement of all charges. The appropriate section was R&TC, § 19172(a). Reasonable cause exists when the taxpayer acts as an ordinary intelligent and prudent business person would act under similar circumstances. In other words, a taxpayer must show that the failure to meet its tax filing obligations occurred despite the exercise of ordinary business care and prudence. The taxpayer is not required to be a superhero.
The OTA discussed the precedent case in this area, the US Supreme Court Decision in Boyle, United States v. Boyle (1985) 469 U.S. 241. The Boyle case held that the failure to make a timely filing of a tax return is not excused by the taxpayers’ reliance on an accountant. Such reliance does not constitute reasonable cause for the late filing. Why? The answer is that everybody knows when tax returns are due. This reliance requires no professional expertise. Auburn asserted that it timely paid its minimum annual fee but that it did not know that accountant failed to e-file the 2014 return. The only time it knew the return had not been filed when it received a letter from the FTB in April 2017.
Auburn also argued that all 60 of its limited partners timely filed their respective returns, thus relying upon relief granted under IRS Revenue Procedure 84-35 1984-1 C.B. 509. This IRS ruling grants relief to a limited partnership or LLC when all of its members have a good filing history. In response to this argument, the OTA arrogantly stated that federal procedures and rulings do not govern California and that the FTB does not have a similar ruling. I find this position to be grossly unfair! You can bet that if the FTB found a federal ruling or procedure in its favor, to use against a taxpayer, the FTB would not think twice in using it to its benefit. But, it seems when the shoe is on the other foot, i.e., the ruling is in the taxpayer’s favor, the FTB plays it down. Talk about the absence of a level playing field!
In Auburn, we are not talking about a small penalty. We are talking about a penalty of almost $13,000 on a $1,700 delinquent tax!! Outrageous!
The OTA faulted Auburn for not substantiating what efforts if any, it took to verify that its 2014 tax return had been timely filed. The argument of mere oversight by the accountant meant nothing to the OTA. To quote the OTA:
“In the absence of an acknowledgement that a return was transmitted, received, or accepted, an ordinarily prudent person would have its e-filing history and acknowledgement records for that return to confirm whether it had been transmitted, received and accepted.”
The Bottom Line: The OTA refused to grant any relief for the penalty and interest on the penalty.
OTA Refused To Abate The Collection Cost Recovery Fee
R&TC § 19254(a) requires the FTB to impose a collection fee when the taxpayer is notified of the delinquency and fails to pay the amount due in response to the notice. Two notices were sent to Auburn in August and December 2017. The OTA refused to abate this relatively small penalty because there are no provisions under this statute that permit any abatement whatsoever regardless whether or not reasonable cause exists.
Hard cases and harsh decisions make for bad law. This is an old legal maxim. I rarely see the OTA giving a taxpayer on appeal, any kind of favorable break. This case is no exception. In my opinion, it is a lousy decision, but just one more example of why businesses are electing to exit California. Decisions like this, coupled with the new harsh realities of AB 5, are going to make it harder for businesses, especially small and medium-sized businesses to remain competitive. Having said this, California seems to have a consistent anti-business attitude. It is as if California is saying, “Go ahead and leave, we have the Pacific Ocean and great weather – someone else will take your place.” Now, more than ever before, I predict this attitude is going to come back to haunt those in power.
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. Mr. Schriebman is in private practice. He is not affiliated in any way with the EDD and he is not employed by the EDD or any other agency of the State of California.
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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