Summer 2004 • Issue 14, page 7

Intimate Affairs with the IRS: How to Handle Those Delicate Relationship Issues

By Rosen, Charles*

Probably more often than you are aware (or would prefer) your path will cross that of the IRS. This article is intended to help you to identify common situations where IRS concerns should come to mind, and how to address those issues.

Episode One — Should You Make the First Move?
You have been appointed receiver. Are you required to report the appointment to the IRS?

Except in the case of an ‘equity’ receivership — i.e. one in which the receiver has only taken possession of a property, is collecting the rents and paying the operating costs — a receiver should file an IRS Form 56, Notice Concerning Fiduciary Relationship, upon appointment. This notifies the IRS of the appointment, but does not necessarily mean the receiver has an obligation to file tax returns or pay receivership estate taxes.

Episode Two – Must The Relationship Be…Taxing?
You have been appointed receiver of a going business concern, owned by an individual, a partnership, a corporation, an LLC, or some other type of business entity. The business may have employees and, consequently, payroll tax liabilities. It may have pension payment obligations that are required to be reported to the IRS. The business may be incurring other tax liabilities, like collecting an air transportation facility tax if the taxpayer is a commercial air carrier, a Heavy Highway Vehicle Use Tax if the business operates larger trucks, or the Gas Guzzler Tax if it is an auto dealership. There are a number of other such excise taxes that are unknown to most of us (see IRS Pub 510 for a list of these numerous other excise taxes). Are you, as receiver, required to file tax returns for the business entity you are controlling? Does this obligation extend to both personal and corporation income tax returns? How about other types of tax and information returns?

The answers to these questions depend upon the nature and extent of the receivership. If a receiver has control of all or substantially all of a taxpayer’s assets, and depending upon the length of the receivership, the receiver may have an obligation to file the appropriate income tax and information returns for the taxpayer, or the receiver may only have an obligation to provide the taxpayer with access to return information so the taxpayer can timely file the tax returns. If the receivership extends beyond the end of a normal tax return reporting period – and especially if it continues for more than a year beyond such date, the receiver likely has the obligation to file all of the appropriate returns. A taxpayer for these purposes is defined to include not only an individual, a husband and wife, a corporation or a multi-party limited liability company, but also includes those entities that are commonly called “passthrough” entities. These are legal entities that do not pay tax directly, but whose income is reported on tax returns of others. For example, a partnership files ‘information’ tax returns, but the income or losses are reported on the income tax returns of the partners. The same is usually true for 1120S corporations and LLCs.

It is especially important that the receiver know his/her tax obligations if employees are being paid, or if one or more of the so-called collected excise taxes are involved. A failure to report or/and pay these taxes (or to pay state payroll taxes) may well result in personal liability for the receiver. There are tax statutes that make a ‘responsible person’ (this means receivers) liable for taxes to be withheld or collected while the responsible person was in sole or shared control of the business. It cannot be stressed strongly enough that a receiver in such a situation must be doubly sure that the appropriate taxes have been withheld or collected, reported to the IRS or state taxing agency, and paid. In the case of a corporation, partnership, LLC or the like, the taxpayer’s Federal Employer Identification Number may be used on the tax returns. In the case of an individual or husband and wife-run business, a new Federal EIN should be obtained.

Episode Three – How Best to “Form” Your Relationship?
If the taxpaying entity is a partnership, corporation, LLC or the like, the receiver should file the routine returns required of that type taxpayer and for the same tax periods. If the taxpayer is an individual (or a husband and wife) and there is income to be reported, it should be reported on an IRS Form 1041, Fiduciary Income Tax Return. The fiscal year for the return will be the end of the twelfth month following the month in which the receivership is created.

If the receiver is required to file a Fiduciary Income Tax Return (Form 1041), what forms should he/she use to reflect the income and expenses of the business, capital gains and losses, etc.? The receiver should prepare a normal Form 1040 and schedules for the individual or husband and wife. These should be attached to the Form 1041 as attachments or exhibits and be very clearly labeled that they are just that – attachments! IRS service center personnel have a nasty habit of thinking when they receive a form 1040 attached to a 1041 that the Form 1040 is intended as a separate return that was only accidentally stapled to the Form 1041. Don’t let this happen to you.

Episode Four – Dealing with a Recorded IRS Notice of Federal Tax Lien
In this situation the receiver must first determine if the tax lien notice was properly filed in the proper public office. It must be filed as prescribed in the Internal Revenue Code. To attach to real property it must be recorded in the county where the property is located. If intended to lien personal property (i.e. tangible and intangible business assets, negotiable paper, etc.) it is to be filed with the California Secretary of State if for corporations, partnerships, LLCs, etc. If for individuals, it is to be filed in the county where the individual taxpayers reside or were last known to reside at the time of recordation. Be sure to protect yourself (and your bonding company) by giving the IRS its rights and priority under a properly filed and recorded lien.

Episode Five – How To Keep That Special Tax Man Happy
Over the years I have worked with a number of CPAs with substantial experience in identifying which returns the taxpayers and receivers were required to file. These high quality, well qualified individuals and firms may also be of substantial benefit to a receiver in reviewing a receivership entity’s books and records, in reviewing tax returns and related tax attributes of property, and in conducting forensic analyses of the entity’s books and records to identify items of substantial financial interest to a receiver. I urge all receivers to seek out and employ such accountants in appropriate situations. These professionals can be invaluable in making a receiver’s work easier and in helping to achieve a greater recovery of assets for the receivership estate.

[Editor’s note: This is one in a series of topical pieces authored by Mr. Rosen for readers of the Receivership News, each dealing with a tax law aspect of receivership administration. This area poses great risk for receivers. The Receivership News has received comments from several readers who have found immediate application for one or more of Mr. Rosen’s past columns, to their immediate benefit.]

*CHARLES F. ROSEN, Esq. of the Law Offices of A. Lavar Taylor has substantial tax expertise involving receiverships and bankruptcy. Mr. Rosen served as a bankruptcy advisor for the Special Procedures Branch of the Internal Revenue Service for more than twenty years.