Shutting Down a Business With Tax Debt

What to Expect and What You Need to Do:

Making the decision to shutter your company can be stressful, but it also means having to manage existing tax debt. It’s a misconception that closing your doors gets you off the hook. If you owe federal or New York State taxes, the business is financially responsible for paying them, and in some cases, you may be personally liable for unpaid business taxes.

Small business owners shouldn’t put off meeting tax obligations. Doing so could trigger bigger liabilities and penalties later. Here’s a step-by-step look at what to do if you close your business. Or to get help now, contact us at the Timothy S. Hart Law Group today.

Key takeaways

• Most entity-level taxes (for example, corporate income tax) are owed by the business.
• If the business is insolvent, it may not have to pay these taxes.
• You may face personal liability for trust fund taxes such as federal withholding, state withholding, and sales tax.
• You must file final returns with the state and the IRS to note that you’re shutting down.
• Both the IRS and the NY DTF offer payment plans and relief options to help struggling taxpayers.

Step One: Notify the IRS of Closure

To cancel your Employer Identification Number (EIN) and close your business tax accounts, let the IRS know your plans for closing your business. To do that, send a letter that includes the following:

• Your legal business name
• Business EIN
• Business address

Detail why you want to close your IRS accounts. Be clear, direct, and honest. If you still have the original notification sent to you when you were assigned an EIN, include that with your letter and mail it to:

Internal Revenue Service

Cincinnati, OH 45999

Sending this letter is just one step in this process. It does not mean the IRS will close your accounts or cancel business debt. The IRS will not close your account completely until you file your final tax returns.

Step 2: File Your Final Returns

Don’t skip filing your final tax returns. Even if you cannot pay the tax debt, you must meet the state and IRS guidelines for filing your tax returns for the year. File the tax returns for the final year of your business as you would any other year. Here’s an overview.

Sole Proprietorship

If your business is a sole proprietorship, meaning you own your business and have not incorporated it, you will need to file:

• Schedule C (Form 1040 or Form 1040-SR), Profit or Loss From Business, with your individual tax return for the year.

• Form 4797, Sales of Business Property, for any sale or exchange of property used for your business. If the closing of your business means an asset you are using will drop to under 50% or less of business-specific use (under Section 179 ), you need to file this form. That may apply if you’re selling your assets or converting them to personal use.
• Form 8594, Asset Acquisition Statement, if you sell the company.
• Schedule SE (Form 1040), Self-Employment Tax, in situations where you have net earnings of $400 or more from your business.

Partnership

If your business is an unincorporated partnership, that means there are two or more people who own the company. Your obligations at tax time for a partnership may include:

• Form 1065, U.S. Return of Partnership Income, for the year you close your business.
• Schedule D (Form 1065) to report all gains and losses for the year. There is a “final return” box on this form that should also be checked.
• Schedule K-1 PDF, check the “final K-1” box on this form.
• Form 4797, Sales of Business Property, for any sale or exchange of property used for your business. Again, if the closing of your business means an asset you are using will drop to under 50% or less of business-specific use (under Section 179 ), you need to file this form.
• Form 8594, Asset Acquisition Statement, if you sell the company.

Corporation

A business that is incorporated is a separate tax-paying entity recognized by the IRS. That means there is at least one recognized shareholder. Both corporations and S corporations need to submit a final return. No matter the structure, you must file:

• Form 4797, Sales of Business Property, for any sale or exchange of property used for your business. If the closing of your business means an asset you are using will drop to under 50% or less of business-specific use due to selling the asset, transferring it to another party, or converting it to personal use (under Section 179 ), you need to file this form.
• Form 8594, Asset Acquisition Statement, if you sell the company.

Then, if you are a C corporation, complete:

• Form 1120, U.S. Corporate Income Tax Return, for the year you close the business. Report your capital gains and losses on Form 1120.

If you are an S corporation, complete:

• Form 1120-S, U.S. Income Tax Return for an S Corporation for the year you close the business. List capital gains or losses on this form.
• Schedule K-1, check the “final K-1” box.

Final New York State Tax Returns

As a business operating in the state of New York, you must complete all necessary New York State tax returns applicable to your business. This includes:

• NYS-45 to report all withholdings, including wage reporting and unemployment insurance contributions.
• ST-100 to report sales taxes collected during the final operational year.

Mark each of these tax returns as “final.” That doesn’t change what you owe, and you should remit payment for any obligations owed as agreed when you can do so.

Step 3: Submit Articles of Dissolution to the New York Department of State

If your business is a corporation or an LLC, you created Articles to establish the business. Now, you need to inform the state that you’re dissolving it. To do this, complete the Articles of Dissolution within 90 days of the decision to dissolve.

You can access the Articles of Dissolution with the Department of State. Then, submit that form along with a fee of $60 to the following address:

New York Department of State

Division of Corporations

One Commerce Plaza

99 Washington Avenue, Albany, NY 12231

By taking these steps, you’re informing all of the appropriate agencies of your decision to close the company. It shows good faith, and that goes a long way. It may help limit penalties you’ll face for not filing returns on time as well.

What Happens to Your Unpaid Business Tax Debt?

Now that your business is no longer operational, the IRS and NY State still expect you to pay all of the business tax debt you owe. Most taxes are owed directly by the business, but there are some business taxes that may be personally assessed against the owner ^[a] or other responsible parties within the business.

Here’s a brief overview of what to expect with different types of business taxes when you’re shutting down your business:

Federal corporate and individual income tax

If the business is insolvent, it may not have to pay corporate income tax, but you’ll generally need to work with the IRS to establish this fact. In contrast, the income tax associated with an S-corp, partnership, or sole prop is always reported on an individual tax return, and thus, you have automatic individual liability for those taxes.

If you can’t afford to pay, you can request an installment agreement to make monthly payments, an offer in compromise (settle for less than owed, based on your assets and disposable income), or currently non-collectible status (where the IRS pauses collections because you’re insolvent).

Federal payroll taxes

Typically, if your business is no longer operational, the IRS may let you make payments on payroll taxes for up to six years if you owe less than $50,000. However, you may need to meet additional requirements, and the rules vary for corporations.

If you don’t make arrangements to pay the tax, the IRS may assess a variety of payroll tax penalties as well as the Trust Fund Recovery Penalty (TFRP) on your account. The TFRP is charged to an employer or other responsible individual if a business fails to collect, document, or pay over trust fund taxes. This includes all federal income tax, Social Security, and Medicare taxes withheld from your employees’ checks.

The fee is 100% of the unpaid balance of the trust fund tax. Interest may apply. For example, if your company collected $17,000 in withheld taxes from employees and you do not pay it, the IRS may assess a 100% penalty against responsible individuals. That means the penalty is $17,000. The penalty does not apply to the employers’ matching portion of Social Security and Medicare.

New York State business taxes

Corporate income taxes are generally the responsibility of the business, and if it’s insolvent or bankrupt at closing, it may not be able to pay these taxes.

However, the state sees withholding and sales tax as trust fund taxes, meaning you’re collecting them from other parties on behalf of the state. If you fail to make that payment, the state could take several steps against you, including:

• Assess the tax against you or other responsible parties, individually.
• Issue a tax warrant against you as an individual.
• Seize the funds in your bank account.
• Levy personal assets to pay back what is owed.

What Is a Responsible Person Assessment?

A responsible person assessment is when the state or the IRS assesses business taxes against an individual. The tax agency pierces the corporate veil to hold an individual responsible.

How is that possible? Well, these tax-collecting authorities are trusting you to collect taxes from employees and customers and remit them to the relevant authorities. That’s not money that adds to your business’s cash flow. If you fail to pay these taxes, a responsible person assessment may apply.

To identify potential responsible parties, the IRS or the NY DTF will consider a range of factors, including:

• Who was the check-signer in the business?
• Who made financial decisions for the business?
• Who was responsible for taxes and payroll within the company?

To do this, the IRS uses Form 4180, which is used to conduct interviews with a business owner or other potential responsible parties, such as a shareholder within the business. The state uses Form DTF-5, also known as the Statement of Financial Condition and Other Information.

Even if you have shuttered your business, these taxes are owed, and they are not likely to go anywhere. If the business does not pay them, the IRS and NY DFS will seek action against your valuable assets. Keep in mind that the IRS has 10 years to collect most taxes, and NYS has 20 years – so these debts can follow you for a long time.

Can Bankruptcy Wipe Out Business Tax Debt?

There are some situations in which a bankruptcy discharge could provide some financial relief. Consider two scenarios:

The Business Files Bankruptcy

If your business files for bankruptcy, the entity tax debt owed may be discharged. These are the taxes your business would have paid on its income/profits. However, trust fund taxes are not dischargeable. That includes your state and federal withholding taxes from employee paychecks, as well as collected sales tax.

You Personally File Bankruptcy

Your business tax debt may be discharged if the debt meets certain criteria – usually, it needs to be income tax that is at least three years old, but you should consult with an attorney for guidance. However, trust fund taxes and the TFRP may not be eliminated.

It is highly unlikely that you will be able to avoid repaying trust fund debt unless you can qualify for a settlement or non-collectible status based on having limited assets.

The bottom line is you cannot assume that filing for bankruptcy is a fix-all solution. It may not solve your financial concerns.

Options to Resolve Debt During or After Business Closure

If your company owes tax debt, you have several routes to making good on that debt. This includes:

Set Up a Payment Plan

Both the IRS and NY DFT accept installment agreements in many cases. This means that if you are the responsible party, you can request a payment plan. This will reduce the risk of adverse reactions such as enforcement actions. It also prevents additional new penalties.

Request Penalty Relief or Offer in Compromise

In some situations, you can petition that either the IRS or the DTF reduce your tax liability due to business failure or hardship. Just closing your business isn’t enough. You’ll need to determine if you meet the Offer in Compromise requirements.

Work with a Tax Attorney of EA

A tax attorney in New York becomes an essential resource in this situation. Your lawyer will:

• Aid in disputing inaccurate assessments
• Challenge your liability with the goal of reducing what you owe
• Petition the organizations to resolve balances competitively without going to collections

Your lawyer can also provide you with the ability to negotiate. If you’ve already shuttered your company and are struggling under a significant amount of debt due to penalties and oversights, legal advice is critical. Don’t assume you can put it off. Instead, find out what your legal rights are and let your attorney offer solutions based on their experience.

Don’t Put Off Business Tax Debt Resolutions

It’s not easy shutting down a business, but there are critical legal obligations that must be addressed. If you are facing any type of struggle with paying off taxes, let the legal team at the Timothy S. Hart Law Group help you. We will help you find the ideal solution for your situation.

With a local tax professional who understands New York State and IRS requirements, you’ll have more of the insight you need to reduce costs and get out from under business tax debt. Don’t wait – get help today.

Resources:

https://www.tax.ny.gov/bus/doingbus/ending-business.htm