By John Pontius
The Internal Revenue Service (IRS) has the authority to file tax liens against taxpayers who fail to settle their taxes. A tax lien is a legal claim on a taxpayer’s property, including real estate, personal belongings, and financial assets, both current and future. This article aims to provide attorneys with essential information about IRS tax liens and their implications. Understanding these details can be crucial when assisting clients who may encounter tax lien issues while selling a property or securing financing for a new home.
Overview of Tax Liens and Levies
A tax lien is distinct from a tax levy. While a tax lien attaches to a taxpayer’s property to secure a tax debt, a tax levy involves seizing personal property to collect the outstanding tax amount. The IRS can file a tax lien by following specific steps outlined in the Internal Revenue Code (IRC) Section 6321.
Filing a Tax Lien
The process of filing a tax lien begins with a tax assessment, which occurs either through a taxpayer’s filed tax return or an IRS audit. In cases where a taxpayer fails to file a return but has a filing obligation, the IRS may prepare a substitute for return, leading to a tax assessment. Once the tax bill is issued, the taxpayer has ten days to make full payment. Failure to comply within this period results in the creation of an “assessment” lien, commonly referred to as a “secret” lien because only the IRS is aware of its existence. However, if the tax due exceeds $10,000, the IRS is more likely to file a Notice of Federal Tax Lien (NFTL). The NFTL is filed in the county courthouse where the taxpayer resides and in any jurisdiction where the taxpayer owns real property. This filing serves as public notice to creditors that the government holds a legal claim on the taxpayer’s property and grants the IRS priority against other creditors and in bankruptcy proceedings.
Release and Duration of a Tax Lien
Once the taxpayer has fully paid the tax debt, the IRS is required to release the tax lien within 30 days. However, it’s important to note that even after the lien is released, it may remain on the taxpayer’s credit report for up to seven years. Generally, the IRS has a 10-year window to collect taxes following an assessment. This period can be extended if certain circumstances come into play, such as an Offer in Compromise, bankruptcy filings, or Collection Due Process hearings. However, once the 10-year mark is reached, the IRS can seek a judgment in federal district court to further prolong the collection period, subject to local laws. The IRS has the authority to modify the lien if it is in the best interest of both the IRS and the taxpayer. Property can be discharged from the tax lien through a specific process outlined in IRC Section 6325(b).
Subordination of a Tax Lien
Taxpayers may request the subordination of a tax lien, which allows other creditors to have a higher priority over the IRS’ security interest. Subordination can facilitate obtaining loans or mortgages. However, the IRS will maintain its security interest position with the remaining creditors. To initiate the subordination request, taxpayers must file Form 14134, Application for Certificate of Subordination of Federal Tax Lien. After acceptance, the IRS will provide Letter 4053, Conditional Commitment to Subordinate Federal Tax Lien, and Form 669, Certificate of Subordination of Property from Federal Tax Lien.
Withdrawal of a Tax Lien
IRC Section 6323(j) enables individuals, businesses with only income tax liabilities, and closed businesses with all types of taxes to apply for the withdrawal of a tax lien. This process essentially removes the public Notice of Federal Tax Lien if it was erroneously filed. The withdrawal option represents the most favorable outcome for taxpayers as it eliminates the burden of a tax lien, enabling them to sell assets or secure financing more easily. However, it may be more challenging to achieve lien withdrawal in cases where the tax debt is substantial. It is important to note that even after any lien modifications, taxpayers remain responsible for the outstanding taxes.
Requirements for Withdrawal
The IRS will withdraw the NFTL if the tax liability has been satisfied, the lien has been released, and the taxpayer has been in filing and payment compliance for the last three years. Additionally, if the taxpayer owes $25,000 or less, the IRS will withdraw the tax lien. In cases where the taxpayer owes more than $25,000, they can pay down the balance to $25,000 and then request the withdrawal of the NFTL. To qualify for withdrawal, the taxpayer must enter into a direct debit installment agreement, ensuring full payment of the taxes within 60 months or before the collection statute expires. The taxpayer should also have a clean track record of filing and payment compliance, without any defaults on previous or current direct debit installment agreements. After making three consecutive direct debit payments, taxpayers can submit Form 12277, Application for Withdrawal of Filed Form 668(Y), Notice of Federal Tax Lien, to the IRS. If the IRS approves the withdrawal, it will issue Form 10916 A, Withdrawal of Filed Notice of Federal Tax Lien After Release. To improve their credit report, it is advisable for taxpayers to send a copy of Form 10916 A to the credit reporting agencies.
Avoiding Tax Liens
The best course of action is to prevent the occurrence of a federal tax lien by timely filing and full payment of taxes. However, if taxpayers are unable to pay their taxes in full, the IRS offers various payment options to settle the tax debt over time.
Originally published in Tax Talk by the Tax Section of the Maryland State Bar Association.