Can Virginia personally assess a majority shareholder and CEO for unpaid corporate income tax when he knew of the liability but continued paying operating expenses while the company wound down?

Plain-English summary

Virginia upheld personal liability against a corporation's majority shareholder, chairman, and CEO for unpaid 2014 corporate income tax. The corporation filed the return without payment, entered a payment plan, made monthly payments for part of 2015, and stopped operating with a balance still due.

The taxpayer conceded that he was a corporate officer under Va. Code § 58.1-1813. The dispute was willfulness. The Department found it because he knew of the liability before the 2014 return was filed, yet the corporation continued paying salaries and other operating expenses while the tax remained unpaid.

Why the willfulness defense failed

The taxpayer said the business had been winding down since 2013, he expected another net operating loss, and he relied on professional advice. He argued that he would have reserved money had he known earlier that delayed receivables would produce 2014 taxable income.

But the corporation continued operating after he learned of the tax. Virginia's cited standard required only a voluntary, conscious, and intentional choice to pay operating expenses or other debts while aware of the outstanding liability. It did not require proof of a fraudulent purpose.

Separate filing issue

During the appeal, the Department found that the corporation had not filed a 2015 corporate return. The ruling states that a corporation organized under Virginia law had to file under Va. Code § 58.1-441 even if it had no Virginia-source income.

What this means for controlling officers

• A payment plan does not eliminate the remaining tax if the company stops paying.
• Once a controlling officer knows of the tax, choosing other expenses over the tax can establish willfulness.
• An earlier business forecast or reliance on experts does not excuse decisions made after actual notice of the liability.
• An offer in compromise based on doubtful collectability or a payment agreement may address hardship, but neither changes whether the assessment was legally proper.

Common questions

Was the taxpayer liable merely because he was CEO?

No. He conceded officer status, duty, knowledge, and authority; the contested issue was whether his failure was willful.

Why did continuing payroll and expenses matter?

They showed that, after learning of the tax, the corporation intentionally used available funds for other obligations while leaving tax unpaid.

What was the result?

The converted assessment remained due, with accrued interest. The ruling pointed to hardship collection options but did not abate the liability.

Citations and references

• Va. Code § 58.1-1813 A and B — responsible-officer liability
• Va. Code § 58.1-441 — corporate return requirement
• Hewitt v. United States, 377 F.2d 921, 924 — willfulness standard

Subject

Assessment was properly converted to the Taxpayer under Va. Code § 58.1-1813.

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 17-101

Original ruling text

June 20, 2017

Re: § 58.1-1821 Application: Converted Assessment

Dear *:

This will reply to your letter in which you seek correction of the converted assessment issued to * (the “Taxpayer”) for unpaid corporate income tax assessed to *** (the “Corporation”).

FACTS

The Taxpayer was the majority shareholder, chairman and chief executive officer of the Corporation. The Corporation filed a Virginia corporate income tax return for the 2014 taxable year but failed to pay the tax due. After the Department issued an assessment, the Corporation established a payment plan with the Department. The Corporation made monthly payments from June 2015 until the Corporation ceased doing business in December 2015. When the Corporation failed to pay the balance due on the assessment, the Department converted the assessment to the Taxpayer as permitted under Va. Code § 58.1-1813. The Taxpayer filed an appeal, contending he was not willful in failing to ensure the corporate income tax assessment was paid.

DETERMINATION

Virginia Code § 58.1-1813 A states, “Any corporate . . . officer who willfully fails to pay, collect, or truthfully account for and pay over any tax administered by the Department of Taxation, or willfully attempts in any manner to evade or defeat any such tax or the payment thereof, shall, in addition to other penalties provided by law, be liable to a penalty of the amount of the tax evaded, or not paid, collected or accounted for and paid over, to be assessed and collected in the same manner as such taxes are assessed and collected.”

Under Va. Code § 58.1-1813 B, the term “corporate officer” is defined as “an officer or employee of a corporation . . . who as such officer [or] employee . . . is under a duty to perform on behalf of the corporation . . . the act in respect of which the violation occurs and who (1) had knowledge of the failure or attempt as set forth herein and (2) had the authority to prevent such failure or attempt.” [Insert added.]

Virginia Code § 58.1-1813 requires that the failure to pay over the taxes be willful, and that the corporate officer had: (i) knowledge of the failure, and (ii) authority to prevent it. Under the standard of willfulness applied by the courts, all that needs to be shown is that the act was “voluntary, conscious, and intentional.” Hewitt v. U.S. , 377 F.2d 921, 924 (C.A. Tex.). In other words, it need only be shown that the corporate officer was aware of the outstanding liability and knowingly and intentionally paid operating expenses or other debts of the corporation.

The Taxpayer concedes that he satisfied the definition of “corporate officer” for purposes of Va. Code § 58.1-1813. The Taxpayer, however, contends that he did not willfully fail to pay, collect or truthfully account for and pay over the tax. The Taxpayer explains that in 2013, the Corporation began a process of winding down its operations after it lost several of its major contracts. The Corporation ended the 2013 taxable year with a net operating loss (NOL) that it carried back to the 2011 taxable year. As a result, the Department issued a refund.

The Corporation, however, did not completely wind down its operations. According to the Taxpayer, it continued to lease office space and maintain a small staff as it tried to regrow its business. When the Corporation was preparing its 2014 corporate income tax returns in March of 2015, the Taxpayer states that he was informed by the Corporation's accountant that it would have an income tax liability for the 2014 taxable year because payments on certain accounts receivable had been delayed into 2014.

It appears that the Taxpayer was expecting to have another NOL for the 2014 taxable year. He states that the Corporation had no excess cash as of the end of 2013, and any cash it had was already used to cover employees' pay and other expenses. He claims that had he known of the upcoming tax liability, he would have taken measures during the winding down process to ensure it was paid. He asserts that the tax was not on income received directly by the Corporation; rather, the payments at issue went to a lender with which the Corporation had an existing line of credit.

The Corporation filed its 2014 Virginia income tax return to report the liability but did not pay the tax due. As a result, the Department issued an assessment. The Corporation established a payment plan with the Department in June 2015 and made payments until December 2015, when it ceased operations with a balance remaining on the assessment. Throughout 2015, it appears that the Corporation continued to receive some income because it was able to pay salaries to several staff members and other expenses as it tried to regrow. While researching the extent of the Corporation's income and expenses for the 2015 taxable year, the Department discovered that the Corporation failed to file a corporate income tax return for that year. Even if the Corporation had no income from Virginia sources, as a corporation organized under the laws of the Commonwealth, it was required to file a return pursuant to Va. Code § 58.1-441.

Essentially, the Taxpayer's argument is that he did not act willfully because he relied on experts and would have made different decisions during the winding down process in 2013 to ensure that the upcoming tax liability would be paid, had he known about it. The Taxpayer's argument is undermined, however, by the fact that the Corporation remained in operation, even after the Taxpayer learned of the liability. As stated above, the standard of willfulness applied by the Department only requires that the corporate officer be aware of the outstanding liability and knowingly and intentionally pay operating expenses or other debts of the Corporation. Before the 2014 return was filed, the Taxpayer was aware of the liability and continued to pay other operating expenses, leaving a balance remaining on the assessment when the Corporation's operations ceased.

Accordingly, the Department finds that the assessment was properly converted to the Taxpayer under Va. Code § 58.1-1813. The Taxpayer will receive an updated bill that will include accrued interest to date. The Taxpayer should remit the balance due within 30 days of the bill date to avoid the accrual of additional interest and possible collection actions.

If the assessment creates a financial hardship, the Taxpayer may pursue an offer in compromise based on doubtful collectability. To begin that process, the Taxpayer should complete the enclosed Offer in Compromise Form and Financial Information Statement. The completed form and statement will allow the Department to review and analyze the Taxpayers' financial situation. Upon completion of that review, a response will be issued to the Taxpayer. The Taxpayer also has the option to request a payment agreement with the Department's Collections Unit. The Collections Unit may be contacted at (804) 367-8045.

The Code of Virginia sections cited are available on-line at www.tax.virginia.gov in the Laws, Rules & Decisions section of the Department's web site. If you have any questions regarding this determination, you may contact * in the Office of Tax Policy, Appeals and Rulings, at ***.

Sincerely,

Craig M. Burns

Tax Commissioner

AR/1193.M