A potential client (we will call him the “Taxpayer”) recently handed me a letter from the California Franchise Tax Board (FTB). It struck me that the letter was still unopened. I took the unopened letter back to my office. Naturally, he was interested in my assisting him is resolving whatever issue(s) were discussed in the letter. Being a curious sort, and it being my job, I opened the letter. It was a Notice of State Income Tax Due from the FTB. It involved Tax Year 2011. The Balance Due was a mere $450. Furthermore, the underlying tax was only $170, the balance being the penalty, interest and “Collection Costs” (really?). My first thought of course was why didn’t the Taxpayer just pay the underlying tax? It was only $170. Well, the truth is, this was not my first trip to the rodeo.
Something about the fact that the Taxpayer had never opened the letter suggested to me the possibility that something more was going on. So I scheduled a meeting with the Taxpayer for the following week to discuss the letter. Turns out, the Taxpayer’s last tax returns (state or federal) were for tax year 2010 (he thinks). He did not have copies. The Taxpayer is in the cosmetology industry. He informed me that he had “closed” two prior locations. In about 2000 (he was not sure) he had formed a corporation (he was not sure what state it was incorporated in) that ostensibly was to be the vehicle through which he was to operate his cosmetology business. He informed me that the aforementioned corporation had never filed any tax returns.
He stated that his business had never had employees. This made me feel better because this would eliminate the prospect of personal liability (under the Trust Fund Recovery Penalty aka the “100%” Penalty) for any unpaid payroll taxes. At least this was good news (assuming it was true).
The Taxpayer is married. He informed me that since getting married he and his wife had filed their returns as “married filing separately.” Again, some more good news. Since they had never filed a joint tax return, the Taxpayer’s tax problems would not spread to his wife. Containment. This is good. I informed the Taxpayer of this good news. However, I also informed the Taxpayer that in my experience, the taxing authorities would inquire into his wife’s income and assets as part of negotiating any compromise or monthly installment payment … but NOT to establish that his wife is liable for his tax problems.
The Taxpayer told me that he wanted to get into compliance (i. e., get current on his returns). Particularly because the Taxpayer’s business had never had any employees, and because his wife and he filed their tax returns as “married filing separately,” I told the Taxpayer that his problem is very “fixable.” I also told the Taxpayer that there are two kinds of problems: the failure to FILE, and the failure to PAY. When you do not file, my experience is that the taxing authorities are hostile, demanding and unwilling to negotiate because by not filing a taxpayer fails in his or her most fundamental responsibility: to FILE a tax return. In contrast, the failure to PAY, where INCOME taxes are involved (not PAYROLL taxes), can quickly become a mere collection matter. Too many taxpayers do not FILE because they do not have the money to pay. In my experience, this is a BIG mistake.
You are far better off filing all your returns even if you cannot pay (or full pay) your tax liability. The taxing authorities will inquire into your income, assets and financial resources, but if you are truly on hard times, a deal you can live with is often struck.
Bottom line, my advice to the Taxpayer was, if you really want to get back into compliance, BEFORE we start contacting the FTB or IRS, let’s get all your delinquent returns filed. This will dramatically reduce the tension in dealing with the taxing authorities. In contrast, if you call the taxing authorities before you get back into compliance, they will quickly figure out that you are not in compliance, you will become a “bad person” in their eyes, and the sledding will be much tougher and more unpleasant.