This is a guest post by John D. Milikowsky, an experienced tax attorney in San Diego.
1. When are officers, directors, and employees liable for taxes owed by a business?
Short Answer: Individuals may be liable for certain taxes owed by a business, such as federal and state payroll taxes and state sales taxes. These can be assessed against non-owners when they are in a position of financial authority and they pay vendors and not the IRS or the State of California.
2. Is there a procedure to assess business taxes against an individual who is an officer or a lower level employee?
Short Answer: Yes. Both the IRS and State of California must provide notice to the individual and give them time to oppose the assessment. Specifically, the IRS normally starts by interviewing company employees and then sending letters proposing an assessment on individuals who had the requisite authority in the company. They will then have 60 days to respond to the IRS’ letter. In cases we’ve recently seen, the IRS has typically sent letters proposing this penalty on officers regardless of their job function. We aggressively challenge IRS’ proposed assessments where the facts simply do not support the IRS’ position. In cases where the individual was responsible (i.e. the personal was the only one managing the day-to-day business operations), there are various options to resolve the expected tax liability.
3. Can you tell us about other new related developments under California law?
Short answer: California is focused on what they call the “underground economy” where businesses are negligently or intentionally avoiding paying taxes. For instance, there is an epidemic of workers who are employees but the company they work for mis-classifies them as independent contractors. A mis-classified worker can have devastating consequences for business owners and officers and directors who are involved in the payroll process and in accounts receivable, etc., as we just discussed. On January 1, 2012, California passed a new law that imposes a $5,000 minimum penalty per violation for anyone who advised a company to incorrectly characterize a worker as an independent contractor. The penalty can apply to lower level employees and even outside consultants such as bookkeepers and CPAs.
Currently, California’s government agencies are forming a task force to share information across agencies such as between the Board of Equalization and DMV or BOE and FTB to identify under reporting of income taxes, i.e., where gross taxable sales reported on a sales tax return does not match the gross revenue reported on a company’s income tax return.
4. What options does a business or individual who owes a large amount to the IRS have to stay in business and protect his or her assets?
Short answer: The IRS cares about two things – your compliance in filing your returns and paying your taxes. The IRS is more concerned about a taxpayer’s who fail to file a return than those who owe a balance. A taxpayer who has not filed a return is in a sense off the grid. The failure to pay is also important, but, we can work with the IRS to set up an installment plan.
So the first thing we do is to make sure any missing returns are filed. We then thoroughly analyze the company’s financials and cash flow to create a plan to resolve the debt.
5. Does an individual who owes, or thinks they owe, the IRS money have to worry about a criminal investigation?
Short answer: Possibly. One scenario would be when a business owes a significant sum in taxes and closes the business while the IRS is attempting to collect taxes or the individual opens a new corporation and conducts a substantially similar business. The IRS will likely assert “transferee liability” as a legal theory to attempt to hold the new business liable for the prior company’s tax debts. The IRS also identified “Badges of fraud,” which are indications of fraud that allow the IRS to draw an inference that the taxpayer committed fraud. These include understating income, having inadequate and/or contradictory business records, failing to file a tax return, concealing assets, failing to cooperate with an IRS investigation, and engaging in illegal activities.
6. What facts make a person or company more likely to be audited?
Short answer: The IRS developed an algorithm called a Discriminate Function Score (or “DIF”) that it uses to score a tax return and determine which return to pull for an audit; however, the chances of being audited increases with various factors, which include the person’s income level, types of deductions taken on a return, and the type of business engaged in.
7. Does a person who owes the IRS money have to worry about being stopped when they travel in and out of the country?
Short answer: The IRS and Department of Homeland Security share a database. Taxpayers who owe taxes and where the IRS has filed a lien against the balance owed, may be flagged by TSA when travelling through the airport. Individuals who are not citizens should know that the United States Supreme Court held last year that a failure to report foreign bank accounts and income can be a deportable offense. Kawashima v. Holder, 56 US ____(2012), decided February 21, 2012.
8. What are some facts most people do not know about the IRS?
- The IRS can run a credit report for taxpayers who owe the government money;
- The IRS can summons bank records (including bank statements, checks you wrote, and checks you deposited) without a court order.
- The IRS requires taxpayers to report income from illegal activities.
- There is no time limit for the IRS to audit a fraudulent return or if no return has been filed.
- The IRS has a department called Taxpayer Advocate Service to assist taxpayers to resolve disputes with the IRS where the taxpayer is not being treated fairly. (This is not a substitute for legal representation but to resolve an internal issue with the IRS)
- Fraud penalties and payroll taxes are not dischargeable in a bankruptcy.
9. What options does a person or business have to resolve a tax balance with the IRS and State of California?
Short Answer: A business or individual may request an offer in compromise, which is a settlement offer to the IRS to accept a lower amount than what is owed to the IRS. This application is very extensive and should be prepared by an experienced person. Other options include an installment agreement. For the State of California, an offer in compromise is not available unless the business is closed and dissolved.
10. Can you tell us a little bit about yourself and your law firm?
Short answer: Sure. I am a tax attorney representing individuals and businesses in audits and collection matters before the IRS and California tax agencies. We resolve both civil and criminal tax cases mainly involving income tax and payroll tax matters.
We frequently work with CPAs to defend their clients and provide the legal support to get a case resolved or minimize the criminal exposure.
We are opening a new office in Israel to handle clients who have unreported foreign bank accounts and undeclared income.
In 2009, we presented a tax proposal to the US Treasury, IRS, and Congressional subcommittee staff members related to “Qualified Amended Returns.” We are preparing a new tax proposal and hope to present that proposal next year to the same agencies.
About the Author
John D. Milikowsky, J.D., L.L.M. is an experienced tax attorney in San Diego, California representing U.S. and foreign businesses in IRS investigations and California state tax audits involving all business tax matters. Mr. Milikowsky also represents companies being acquired in a corporate reorganization to resolve existing corporate tax debt and relentlessly defends clients in criminal tax matters.
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