WALKING AWAY FROM YOUR CALIFORNIA CORPORATION

Many clients never formally dissolve their corporations because the business has become a money pit.  They don’t want to spend the money to file bankruptcy or formally dissolved.   They simply walk away.

These shareholders will subsequently receive a bill from the Franchise Tax Board (FTB) for the minimum tax, plus penalties and interest.    If certain conditions are met, the FTB may NOT hold you personally liable for any taxes due.

This is based on a court case called the “Ralite” DECISION.   If you meet the criteria set forth in this decision, the shareholder (NOT THE CORPORATION) is off the hook.  Here is how the chain of events will occur:

1. The shareholder gives up the business, doesn’t formally dissolve, and stops filing tax returns. However, you did not formally dissolve with the Sec. of State within 12 months of filing a final return.
2. Because you did not dissolve, the FTB will send the corporation a notice DEMAND TO FILE.  You will do nothing. 
3. You still do nothing, and the FTB begins billing the corporation.   Assuming the corporation has not assets, there will be nothing for the FTB to collect.
4. Eventually, the FTB may come to the shareholder and demand payment.  At this time, we will invoke the RALITE decision, explaining that you did not take compensation without adequate consideration:   We will enclose the following in our response:
   1. A copy of your final balance sheet which probably shows zero assets or a loan to you
   2. A list of assets which the fair market value
   3. A list of loans you made to the corporation
   4. If you transferred cash before you “dissolved” we need to look at this carefully.
5. Keep in mind that once your corporation is defunct the state will put it in a SUSPENDED status.  The corporation cannot legally operate.  It is required to close its doors, and to stop all business related activity. A suspended California corporation cannot sue, or defend, any action in court. Worst of all, you may not be able to collect payment for such services and goods.  If you have a professional license associated with a suspended corporation there may be other problems. 

YOU COULD HAVE TROUBLE IF ……..

If you decide to ditch the corporation and continue the business in a different manner, such as a self-employed person, you will have trouble using this court decision to protect you.  According to California Tax Audit Manual Sect 3010.12 – sole proprietors may be held liable.  This court case works ONLY IF YOU HAVE DISCONTINUED THIS BUSINESS – and not if you restarted it in a different format.

CAN YOU WALK AWAY FROM AN LLC?

Based on research from various tax journals, the answer is:  possibly, probably, and maybe.  There are NO court cases on point.  But is seems that because the LLC has limited liability like a corporation, the “Ralite” decision MAY apply.  Please be advised that while you have a legal right to apply Ralite,it should be your last resort.  It may be easier to file the returns, put the unpaid tax on a payment plan, rather than fighting the FTB.  Fees incurred with a CPA or lawyer can easily exceed the potential tax savings.