Holdings: California corporations, which corporate powers, rights, and privileges were suspended, lacked ability to petition T.C. for a redetermination of taxes, penalties, and interest.
Lesson Learned: Corporations which do not follow state law corporate formalities may find themselves in deep tax water.
Discussion: Two recent Tax Court cases involving two otherwise valid California corporations show us the importance of following those pesky corporate formalities.[1] The two corporations had their corporate powers, rights and privileges suspended prior to, or during a 90 day notice of deficiency period. A 90 day letter is a letter sent by the IRS to the taxpayer indicating that the taxpayer has 90 days to reply in an effort to remedy the tax situation or an automatic lien will be placed on the taxpayer’s property (usually bank accounts). If no response is received the taxpayer is out of luck!
A 90 day letter was issued in both cases. Subsequent to the expiration of the 90 day period, each corporation filed a Petition in the Tax Court challenging the IRS’s determination of tax, penalties and interests. Normally this would have stopped the IRS from filing the lien. But in both these cases, the corporation’s charter had been suspended for failure to pay state taxes. The IRS filed a motion to dismiss for lack of jurisdiction arguing that each of the corporations lacked the capacity to sue because the corporate powers, rights and privileges had been suspended. Each corporation objected on the ground that reinstatement of a corporation was retroactive to the date of filing for reinstatement.
In its discussion, the Tax Court noted that “legal capacity” is crucial in bringing an action and that the Court would apply state law in determining corporate capacity. As it happens, the Supreme Court of California construed certain sections of state law to mean that a corporation may not prosecute or defend any action during a period in which its corporate charter has been suspended. The Tax Court further indicated that because the Taxpayer’s corporate status was not reinstated at the time the corporation’s petition was filed and prior to the end of the 90 day period, the petitioner did not have standing to sue.
As such, the failure of the corporation to revive its charter prior to the expiration of the 90 day statutory period for notice of deficiency resulted in both corporations losing their ability to have a judicial determination of their respective tax liabilities. The outcome, in Medical Weight Control Specialists’ 1.53 Million Dollar judgment for the IRS and in Matthews, a 2.297 Million Dollar judgment for the IRS.
[1] Matthews v. CIR, T.C. Mem. 20156-78 4/23/15; Medical Weight Control Specialists v. CIR., T.C. Mem. 2015-52 (2/18/15).
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