Help! The IRS has a Lien on my House!

When I meet with a client who has owes money to the IRS, we determine whether the IRS has filed a lien against real property or if the IRS is trying to collect a debt owed by the client, or both. 

Despite contrary language in the Florida Constitution, federal tax liens can be enforced against homestead property (26 USC Sec. 6334) To levy against the taxpayer’s homestead, the IRS must be owed more than $5,000, and the IRS must obtain a Court Order from a judge or magistrate of the United States District Court.  In practice, I’ve never seen the IRS try to foreclose a taxpayer’s primary residence, probably because money (tax refunds, bank accounts, etc.) is an easier target.  Also, in foreclosure cases I’ve handled, both for the lender and the homeowner, the IRS lien is second in priority to a purchase money mortgage. In other words, if the homeowner uses the funds from the lender to buy the house, then the IRS is second in line to that first mortgage.  The IRS is superior to a second mortgage, and a mortgage used to refinance the property to get cash out of the house, which is why the IRS will need to be paid before or as part of a closing for a second mortgage, HELOC (Home Equity Line of Credit) or cash-out refinance. 

Additionally, the United States Supreme Court ruled that the IRS can enforce a federal tax lien against property owned by a husband and wife, even when the lien is against one spouse alone, eliminating the tenancy by the entireties protection provided by Florida law (United States v. Craft, 535 U.S. 274 (2002)). 

What happens when you’re trying to sell a house with a recorded federal tax lien? Use IRS Form 14135, Application for Certificate of Discharge of Property from a Federal Tax Lien. It’s a straightforward form about 4 or 5 pages long that requires the taxpayer to provide information and attached supporting information like the settlement statement or closing disclosure, the contract, property values, appraisals, copies of the other liens that are involved, title searches, etc. 

The packages that I’ve submitted have been 40-50 pages each with all the supporting documents. The purpose of the application is to ask the IRS to do one of two things: (1) release the lien against the house because there is no equity available for the IRS after payment of the first mortgage and closing costs, or (2) allow the closing and whatever is left is paid to the IRS to release its lien.  Note that in both of these cases, the taxpayer is not asking the IRS to eliminate the debt owed, just to relieve the house of the burden of the tax lien. I’ve done both types of applications and negotiated with the IRS.  The negotiations were difficult, but they worked in each case. We received a release that the title company recorded, we closed, and the IRS was paid (or not) consistent with the IRS’s instructions. In a few cases, the IRS demanded more than what we had in proceeds after deducting the first mortgage and closing costs; in each of those cases, the taxpayer paid the balance to proceed with the closing. 

What happens when the IRS is trying to collect a debt from the taxpayer? We negotiate with the IRS of course!  Whether we’re dealing with the IRS, a credit card company or collection agency, we can still negotiate with the IRS, this is called an offer in compromise. 

As defined by the IRS, “An offer in compromise (OIC) is an agreement between a taxpayer and the Internal Revenue Service that settles a taxpayer’s tax liabilities for less than the full amount owed.” 

To qualify for an OIC, the taxpayer must have: (1) filed all tax returns, (2) made all required estimated tax payments for the current year, (3) made all required federal tax deposits for the current quarter if the taxpayer’s business has employees.   

The IRS might accept an OIC on one of three grounds: (1) if there is doubt or dispute as to the existence of the debt or the amount owed, (2) if there is doubt as to the collectability of the taxpayer (see Chapter 1), or (3) requiring payment in full would create an economic hardship on the taxpayer or would be unfair because of exceptional circumstances. 

To determine if you qualify for an OIC, and to submit the application to the IRS, I suggest you seek out a local tax attorney or CPA.  As with the means test in bankruptcy, there is an art to completing an application for an OIC. 

If you are unable to negotiate or qualify for an OIC, you may consider bankruptcy to eliminate your tax obligations.  However, in most cases, IRS debt is non-dischargeable, meaning unaffected by the bankruptcy case, other than the automatic stay which delays collection of the debt temporarily. (11 USC 523(a)(1)).  A Chapter 13 (reorganization) may help in that it allows the debtor/taxpayer to repay the IRS over the life of the bankruptcy plan, 60 months in most cases. 

If the taxpayer / debtor qualifies, the Chapter 7 (liquidation) might discharge the tax debt if:

·         The taxes owed are income taxes;

·         The taxpayer did not commit fraud or willful tax evasion;

·         The income tax debt is more than three (3) years’ old;

·         The tax return for the year owed was filed at least two (2) years before filing the bankruptcy case; and

·         The income tax debt was assessed by the IRS at least 240 days before the bankruptcy was filed. 

Note that this analysis fails (and the debt will be non-dischargeable) if, for example, the income tax debt is for the 2015 tax year, but as of 2018, returns have not been filed – failing the last point that the debt must be assessed more than 240 days before the bankruptcy is filed, and the fourth point that the return was filed more than two years’ prior to the bankruptcy filing. 

Like the OIC, please consult a local attorney or CPA to determine whether the tax debt is dischargeable prior to filing your bankruptcy case.  It would be awful to file bankruptcy just to discharge income tax obligations, only to learn you don’t qualify to discharge the tax!