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Tax Liens

Definition: Tax Lien

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When your tax debt gets sufficiently large, or your plan to resolve that debt will take more than a few years to pay it off, the fact is that the taxing authorities will likely file Notices of Federal Tax Lien. The liens are intended to secure the debt, and they give notice of the government’s interest in your assets. This can cause problems when you go to sell those assets, or when you try to borrow against equity. Do not lose hope. There are several ways to address the liens and accomplish your goals. A good tax professional can work with the taxing authorities to reduce or eliminate the impact of the liens on your financial situation.

It is important to understand that only rarely can tax liens be addressed without some concession to the taxing authorities. Whether that is a payment out of the sale or loan proceeds, or an agreement to a more aggressive monthly payment on your Installment Agreement, they will need to see some benefit to allowing you to transact around the liens.

1. Release of Lien

The quickest, simplest way to address a tax lien is to pay off the underlying liabilities. Of course, when you pay off the balance, the authorities will release the liens because there is nothing left for them to collect. No debt means no need for the authorities to secure an interest in your assets, so there is no longer any purpose for the liens.

However, it is not always a clear or simple process to negotiate the release of liens, even for full payment. For one thing, lenders often balk at tax liens, even if your intent in seeking a loan is to fully pay the balance that is secured by those liens.

A tax lien indicates two large risks to a lender. First, it is an indication that you may not be in a good position to pay the lender if you failed to pay taxes that you owed. Second, the lender will worry that there are additional problems with your financial situation that may make you a risky borrower. These problems are the hardest to overcome when seeking a loan to pay off a tax debt, and the taxing authorities are not going to advocate for you.

I have spoken with lenders engaged with my clients on several occasions, and I have explained the lien release process and the full extent of the potential risks. In most of those conversations, I have been able to convince the lender that my clients are not the credit risks that the lender was concerned about, and that the taxing authorities will release the liens for payment of the balance due.

Another potential problem, even if your goal is to fully pay the debt, is that the lien notices do not provide current payoff information. The dollar amounts on the taxing authorities’ lien notices are a snapshot of the debt at the time the lien was filed. They do not account for additional penalty and interest accruals that may have occurred after the lien was filed. A simple look at your online account with most states, and a call to the IRS Centralized Lien Processing Unit will provide you with a complete, up-to-date payoff balance. Providing that information to the lender can allay concerns about unknown balances due and assure the lender that the dollar amount you are seeking will be sufficient to resolve the balance due, and get the liens released.

If you are selling the asset instead of borrowing against its value, the lender’s concerns, obviously, don’t come into play. In that case, the most important information to obtain is the accurate payoff balance, which, again, is available via your online account with most states, and via the IRS Centralized Lien operation. In such a situation, it is important to obtain the lien payoff information, good through the closing date on the sale. If that is not available online, it may be necessary to call the State tax collector to get a projected payoff balance, as of a date in the future when the sale will close.

As long as you have an accurate payoff balance, and correct amount of funds are sent to the taxing authorities, then the taxing authorities will generally issue lien release documentation within a month of receiving the payment. Then, you are free of your tax debt, and any other assets you own will also be unencumbered by tax liens.

2. Lien Discharge

A lien discharge is available only when you are selling an asset that is subject to a tax lien. It does not apply to a situation where you will retain ownership of the asset and is designed to ensure that you are able to transfer clear title to the buyer, even if the sale proceeds are insufficient to fully pay the tax balance. In order for the authorities to agree to discharge an asset from a tax lien, they must be convinced that the sale proceeds to be paid toward the tax debt are enough to pay their “lien interest” in the asset. The lien interest is the amount that the authorities could collect by seizing and selling the asset themselves, after satisfying all senior lienholders.

Lien discharges are most common in the sale of real property (real estate), but they may also apply in a situation where any valuable asset is sold, where ownership of that asset is recorded as public record (e.g. vehicles). For purposes of this article, we will discuss a real estate sale.

Typically, in a real estate sale, there will be creditors whose liens are superior to the taxing authorities. The mortgage lender will always have priority over the taxing authorities if their loan was a “Purchase money” loan, used to acquire the property in the first place. Then, there may be property tax assessments, or other local assessments that automatically take priority, based on federal, state, or local statutes. Those senior lienholders must be paid before the taxes in order to release their liens, so the taxing authorities have to allow them to be paid first, or clear title cannot be transferred to the buyer. This would also be true if the authorities seized and sold the asset.

After the liens that are automatically given priority, any other encumbrances against the asset being sold will be paid in the order of when they were filed, with the first filed being paid first, and so on. In a situation where you owe taxes to both the State and the IRS, their liens may overlap, with liens for some tax periods for one of the authorities filed before liens for other periods from the other authority. In that case, the State and the IRS must communicate with each other about acceptable amounts of payment out of the sale proceeds for each taxing authority to agree to discharge its liens. Luckily, the taxing authorities have dealt with situations involving competing liens often enough that they are aware of the complications and have systems in place to facilitate the necessary communication.

The other way that the authorities will make determinations about competing liens is by filing an Application for Certificate of Discharge of Federal Tax Lien. Before approving such an application, the IRS will require the taxpayer who is applying for the discharge to provide all lien records as part of the application. In fact, applying for the discharge of an asset from a lien requires that the applicant provide all the documentation that goes into the sale of a valuable asset.

They will generally require a current appraisal to ensure that the sale price is commensurate with the value of the asset; a title report to obtain a listing of all encumbrances against the property; a copy of the sale contract to ensure that the terms of the sale are legitimate, and that the transaction is truly arms-length; and a closing statement to show how the sale proceeds will be distributed at closing. Using this information, the authorities will determine their true lien interest in the property, and whether they can agree to discharge the asset(s) in question from the liens for the proposed terms of the transaction.

If the authorities require more information to make their determination, they will reach out to you to request it, and give you a short deadline to provide it. If they can make a determination based on the information included in the original application, but they cannot approve the application, they will notify you, and you will generally have the opportunity to discuss the exact reasons for the denial.

If they can agree to the discharge, they will send a written document conditionally agreeing to discharge the asset(s) from their lien(s) at closing, and listing the additional actions needed for the asset(s) to be formally discharged. Usually, the additional actions consist of closing the sale, and sending the agreed-upon amount of money to the authorities. In exchange for receiving their lien interest, the authorities will issue a formal document, called a Certificate of Discharge, discharging the asset(s) from the lien(s). The liens will remain in place with the recorder’s office, so the authorities’ interest in any other assets remain recorded as public record.

It is important to note that receipt of the taxing authorities’ lien interest in the property is one of a few reasons why they will grant a discharge. Lien interest is the most common reason we encounter, but there may be other options for requesting a discharge, depending on the situation. It is also an important point out that the lien interest can be zero.

3. Subordination

If you are not selling the asset, but you have equity in the asset that you would like to borrow against to pay toward the taxes, lenders typically will not loan you that money if their interest will be inferior to the taxing authorities. In that situation, you need to convince the taxing authorities to subordinate their liens to the lender, or willingly allow the prospective lender’s lien to jump the tax liens in terms of lien priority. The taxing authorities will agree to subordinate their liens when doing so will “facilitate collection of the debt.”

Importantly, facilitating collection of the debt does not always require a lump sum payment to be made out of the loan proceeds, if that is not possible. It may be that, by refinancing a high interest loan, or consolidating a first and second mortgage, you can reduce your monthly expenses enough to allow a higher monthly Installment Agreement payment. Increasing your ability to pay the debt and the speed at which the debt is repaid can absolutely be considered facilitation of collections, even if there is no equity to be liquidated and paid to the taxing authorities in the transaction.

Like the discharge of the liens, subordination requires an application be submitted to the authorities. A very commonly overlooked, and one of the most important aspects of a subordination application, is a commitment from a lender. Unless you have written communication from the lender, stating that they are willing to loan the funds, if the taxing authorities will grant them lien priority, the authorities will not consider a subordination request.

Also similar to a discharge, the taxing authorities will require quite a bit of documentation to consider a subordination request. They must ensure that the transaction is legitimate, and that it will provide the maximum benefit to them. After all, they are agreeing to let the lender cut in line ahead of them with respect to their legal interest in the asset being used as collateral. This makes the requirement for facilitation of collections a relatively high bar, and it means that subordination requests are approved less frequently than discharge requests.

If the subordination request is successful, the taxing authorities will issue a commitment to subordinate when certain conditions are met, depending on the way the taxpayer explains that the subordination will facilitate collections. When those conditions are met, the authorities will record a formal subordination with the recorder, and issue documentation of the subordination agreement to the concerned parties.

4. Other considerations

As stated above, the taxing authorities will generally issue lien release notices within about a month of receiving full payment of the debt. Similarly, they will issue lien discharge and subordination documentation within about a month of the taxpayer meeting the conditions outlined in their conditional approval of the application.

The authorities recommend anticipating thirty to forty-five days’ response time after a discharge or subordination application is submitted. This is an important timeframe to account for when scheduling closing on a sale or loan, communicating with buyers and lenders, and preparing the documentation for the application. I typically expect at least an acknowledgment of receipt of an application I submit within two or three weeks. Then, there is often a request for additional information or clarification about the planned transaction and another few days, at least, before the issuance of the conditional commitment letter. That timeframe may be extended even further in a situation with competing State and IRS liens.

Tax liens can be a huge inconvenience, but there are multiple ways to navigate liens when you want to use equity to help resolve your debt or if you want to other financial transactions that are affected by a tax lien. The processes and requirements for lien negotiations are often complicated and time-intensive, but they can result in positive outcomes for the taxpayer and the taxing authorities.

While lien negotiations are supposed to be straightforward and understandable to the average taxpayer, there are aspects that only experienced professionals can anticipate and overcome. If you have questions about tax liens or tax debts, pick up the phone and give Fortress Tax Relief a call. We have caring and knowledgeable professionals on staff who would be happy to outline a solution specific to your objectives and unique circumstances. There is no cost for a phone consultation, so call Fortress Tax Relief today.

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