Howard's IRS and the Law Blog

The general rule is that a Federal tax lien attaches to all of your property.  But there are exceptions – known as “superpriorities” – situations in which you can sell your property even though the IRS has filed a tax lien against you.

The tax code will allow you to sell your car to a buyer who does not know of the tax lien.  And most buyers of cars would not have knowledge of a Federal tax lien against you because a tax lien is filed with your local county recorder or clerk of court – it is not noted on your car title, as would a bank loan.

Your buyer’s knowledge of the lien is important because Internal Revenue Code 6323(b)(2) prevents tax liens from interfering with the sale of your car unless the buyer had notice or knowledge of the tax lien at the time of purchase.

In other words, unless your buyer knows about the Federal tax lien when he buys the car, the tax lien does not have to be paid to permit transfer and sale.

Yes, you can sell the car, and keep the proceeds, even though the IRS has filed a tax lien against you.  (Of course, the IRS can levy the proceeds of the sale if you have cash on hand.)

The tax code provides similar protections to the sale of securities and personal property purchased at retail.  If the IRS has a Federal tax lien, and you sell stock to an arms-length buyer who is unaware of the lien, the stock passes to the buyer free and clear.   If you go to a store, which owes money to the IRS and has tax lien filed against it (including inventory for sale), your purchase of an item in that inventory is unaffected by the lien if you did not know about it.  In other words, the IRS does not follow the lien to you, the innocent purchaser.

Even though it attaches to most everything you owe, the IRS usually does not enforce it unless your property (1) has value and equity and (2) is not necessary to your health and welfare (household goods, or a vehicle to get you to work, and even equipment that you must use in your business is necessary to your health and welfare).  And in most situations, the lien is good only for the timeframe the IRS has to collect from you, which is 10 years.

An IRS wage levy does not have to result in the loss of all of your paycheck.

The Internal Revenue Code has exemptions that can protect your earnings from an IRS levy.

These “exemptions” are listed in Section 6334 of the tax code, appropriately titled “Property Exempt from Levy.”   Think of exemptions as protections in certain property that the IRS cannot take from you.  Exemptions to the IRS include your household goods and clothing; your house is also protected if you owe the IRS less than $5,000.  This property is yours, protected from the IRS.

There are also exemptions that protect your wages from IRS levy.  The amount protected is a factor of how many dependents you claim on your tax return, your filing status and how often you are paid. Every year, the IRS publishes a table that shows the protected amounts (Publication 1494).

For example, if you are married, file jointly, paid bi-weekly, and claim four exemptions (say, you, your wife, and two children), the IRS could not take $1,042.31 from your paycheck. If the IRS sent a levy to your employer, and you properly completed the paperwork claiming the exemptions, you would receive $1,042.31 before the IRS got anything.

Another example:  If you are divorced, and file as head of household for you and your two children, and get paid monthly, you have $1,675 of your paycheck protected from the IRS.

These numbers are net, meaning it is what you keep after your taxes, health insurance, and other necessary payroll deductions are taken out.  The protections are for what is left for you, giving you a certain amount of money to live off.

It is important to calculate the exemptions when formulating a solution to your IRS debt.  In some situations, for example, providing the IRS with a financial statement showing what you earn and spend can result in an installment agreement that has you paying more to the IRS than you would after claiming exemptions against a wage levy.  This is often the case in two-income earner households but only one spouse owes the IRS, or if you work two jobs.

If you have a wage levy, or are contemplating solutions to your IRS problem, it is important to know and understand the protections that you have against the IRS levying your property.

IRS audits can leave your stomach in a knot and your head in your hands, often because you feel innocent of the changes the IRS is proposing to your tax return.

Notice I said proposing.

An IRS audit is not simultaneously the beginning and end of your defense, with the auditor playing the role of judge and jury.  An auditor’s report is a proposal of what he (and probably his manager) thinks the changes should be.  Auditors are sometimes right and sometimes wrong in their analysis of the law and interpretation of facts.

If you disagree with the auditor, you do not have to stop everything and accept what the auditor is proposing (there is that word again).  You have rights.

Those rights include having an IRS appeals officer review the auditor’s findings, and, if that is unsuccessful, to have an independent Tax Court judge do the same.

In other words, the audit is the first step in what can be a three-step process  (audit, appeal, Tax Court).  The goal, of course, is to resolve it with the auditor and get it right the first time, but if an agreement cannot be reached, it is important to know where to turn next.

After the audit is over, the IRS will send what is called an Examination Report.   The report will detail the auditor’s findings, the changes proposed to your tax return, and the amount proposed to be owed.  If you disagree, you have the option, within 30 days, to file an appeal with the IRS, disputing the auditor’s findings.  The appeal should be filed in writing, with proof of mailing, and timely sent back to the IRS auditor handling your case. Your case will then be sent to an IRS appeals officer to listen and review why the audit report is incorrect. The appeals officer can erase incorrect findings.

If you do not respond to the Examination Report, you have another chance.  The IRS will send another notice, this time called a Notice of Deficiency, to you.  The Notice of Deficiency, in many ways, is like the Examination Report – containing the changes the IRS is proposing to your return.   However, at this point, rather than filing an appeal to meet with an IRS appeals officer, your appeal rights are now with the U.S. Tax Court.  Within 90 days after the Notice of Deficiency was sent, you have the right to file a complaint (known as a “petition” in the world of technical tax talk) to the Tax Court, explaining why you disagree.  The Tax Court will set your case for trial.  The Tax Court is not affiliated with the IRS.

The Notice of Deficiency is the last notice you will receive from the IRS about the audit.  If you do not go to Tax Court in 90 days, the audit will become final, and the IRS will put the changes on its books, make it final, and start collecting from you.  As the audit is not final while you are in appeals or Tax Court (still in a proposed status), there is no collection during that time.

Two more items to note in appealing IRS audits:  Whether you first file to appeals or Tax Court, you are not leaving either at the alter.

If you go to appeals first, you still have the right of Tax Court review if you do not reach agreement with the IRS appeals officer.  (The filing of the appeal simply delays the sending of the Notice of Deficiency.  That is the last act the IRS takes before an unagreed exam becomes final.)

If you go to Tax Court first and bypass appeals, the IRS will send your case to an IRS appeals officer to try and settle the case while it is pending and without trial.

Either way, you have a meeting with an appeals officer and the right to Tax Court.

Regardless of how you get there, the goal of the appeals officer is to settle the case based on how a Tax Court judge would interpret your evidence and apply it to the tax laws.  An IRS auditor usually has a narrow vision, and does not consider how the Tax Court would interpret your case, or your evidence.  This is the job of an appeals officer and the Tax Court.  Either way, if you disagree with an IRS audit, make sure you exercise your appeal rights and expand and broaden your options for successful resolution.

The ability to file a collection due process appeal is probably the most powerful right you have in defending against IRS enforcement by levy or seizure.

Due process, in the context of IRS collections, means the right to reach resolution of your case before the IRS can take your property, and the right to have an outside party – the U.S. Tax Court – review the collection decisions of the IRS before they can take place.

Due process in collection cases begins with the IRS sending you a Final Notice of Intent to Levy.  Within 30 days of this notice, the rights of due process allow an administrative appeal to be filed with the IRS, disputing the intent to levy.  While the appeal is pending and solutions are negotiated, the IRS cannot levy or seize your property by law.

Resolution is made with an IRS settlement officer, whose job is to, well, settle collection cases.   Collection due process can level the playing field, so to speak.

Sometimes it can be better to actually file the collection due process appeal late, more than 30 days after the Final Notice of Intent to Levy was mailed.

Late filed collection due process appeals are called “Equivalent Hearings.” Although equivalent hearings are not absolute and are provided on a case by case basis, the Internal Revenue Manual guides the IRS to process the late appeals and provide full appeal rights to the taxpayer’s benefit, including a hold on seizure and levy.  Late filed appeals are accepted up to one year after the Final Notice of Intent to Levy was sent.  Internal Revenue Manual and Treas. Reg 301.6330-1.

The primary difference between timely and late filed collection due process appeals is the right to go to Tax Court.  It is lost in late filed appeals.

However, collection due process appeals can offer situations where late-filing with the Internal Revenue Service can actually be advantageous.   Counterintuitive, but true.

There are real benefits to filing an collection due process appeal late and requesting an equivalent hearing with the IRS.  Here are two good reasons to file it late:

1.     No tolling of the statute of limitations on collection.

The IRS has 10 years to collect a tax liability.  During the hold on enforcement caused by timely filed collection due process appeals, the 10 year IRS statute of limitations on collection is tolled.  Time stops running when the tax code prevents the IRS from levying or seizing property.

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As a general rule, count on IRS interest and penalties doubling the amount you owe every five years.   Interest is only part of the cause; it is the penalties that really hurt.

Interest rates charged by the IRS are not unfair – the federal short-term  rate plus 3%.  This has left IRS interest hovering in the 5% range.  Think about it – you owe the IRS money, they are now your bank, and they are charging you a reasonable rate of interest for a loan that they really never agreed to.

The penalties is where the hurt comes in.  The IRS charges multiple penalties, mainly for penalizing you for not doing something when you should have.  The most common penalties are for not paying on time and not filing on time.  If you owe taxes to the IRS, chances are you also owe them at least one of these two penalties.

Here is how the penalties add up to make repaying the IRS difficult:

1.     Not paying what  you owe when you file your return.  The late-payment penalty is one-half of one percent of the tax owed for each month it is unpaid.   Every month you owe, the penalty amount increases by a half of a percent.  So the first month the IRS will charge you  a half percent of the tax due, the second month 1%, the third month 1.5%, etc. The late-payment penalty does max out at 25%.  So if you have owed the IRS for more than 24 months, your late-filing penalty has hit its limit – 25% of the tax.  (Note:  the half percent rate increases to one percent (1%) if the IRS issues a final notice of intent to levy and the tax remains unpaid for 10 days thereafter.)

2.    Not filing your return on time.   The late-filing penalty is sort of like the late-payment penalty – it escalates every month, only quicker.  The late-filing penalty starts out at five percent (5%) of the tax owed for each month your return is late.   The penalty increase by 5% every month for a maximum of five months, hitting its limit at 25% in the fifth month your return is late.

When both penalties run concurrently, the late-filing penalty is reduced from 5% to 4 1/2% monthly.   When both penalties apply, the late-filing penalty hits its max at 22.5%, with the late-payment still maxing out at 25%.

The combined penalty for not paying on time and not filing on time:  47.5%.

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Making it through an IRS audit is stressful and anxiety ridden, but for many, it is not the end of the road in dealing with the IRS.  Many IRS audits result in balances due.  Here are my responses to great questions from a reader about dealing with IRS collections after the audit.

I just finished an audit covering three years … 08-09-10…and owe the IRS over $100,000.   My questions are:  Will the IRS do a payment plan?  Would they take a lump sum and forgive the balance?  And will a lien be put on my property as part of the payment negotiations?

To begin with, after the IRS concludes the audit, expect a steam of IRS collection notices seeking payment.   These notices are each sent several weeks apart, and bear titles like “Balance Due,” “Urgent,”  and “Final Notice of Intent to Levy.”   The most important of these notices is the Final Notice of Intent to Levy as this notice allows the IRS to start collecting the liability by levy action.   The Final Notice of Intent to Levy also provides important rights to file a request to talk to an IRS settlement officer to solve the liability.  This request is important as it stops the IRS from taking levy action while you negotiate  a solution of the balance due.

Speaking of solutions, the IRS would be likely to take a payment plan from you, but on a balance due of over $100,000 the IRS will require that you provide a financial statement listing your income, living expenses and valuing your property.   This is to help them determine your cash flow for an installment agreement.  Unfortunately, it is usually not as easy as saying “I want to pay $500 month” when you owe $100,000.

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