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Archive for the ‘tax liens’ tag

Dealing with Recorded Tax Liens through Chapter 13

October 30th, 2017 at 7:00 am

A recorded tax lien gives the IRS/state a lot of leverage against you and your home. Chapter 13 can gain you back some of that leverage.  


Stopping Tax Liens by Filing Bankruptcy

In our last blog post we showed how Chapter 13 can buy you more time and flexibility than Chapter 7. We showed an example how that’s especially true if you owe more than one year of income taxes. Our example assumed that two tax years met the conditions to discharge (legally write off) that debt, while another tax year didn’t.

That example assumed that the IRS/state had not yet recorded a tax lien on your home for either tax year. A bankruptcy filing stops a tax lien’s recording. Then if the tax debt is discharged, the debt is gone so there’s no further basis for a tax lien. Or if the tax debt is paid in full (usually through a Chapter 13 payment plan) again there’s no further debt on which to impose a tax lien.

Dealing with Tax Liens under Chapter 13

But what if the IRS/state HAS already recorded a tax lien on your home?

That can cause all kinds of problems. Two weeks ago we wrote about how a tax lien can turn a completely dischargeable tax debt into one you have to pay in full. Beyond that, any tax lien is terrible on your credit report. It can make refinancing your home much harder. It may even add a problematic hurdle in the selling of your home. Even if you have little or no equity in your home, the tax lien can sit on your title until there’s enough equity to pay it in full.

So if you get a tax lien recorded against your home you need to consider your options. Assuming you want to keep your home, filing a Chapter 13 “adjustment of debts” is one option worth understanding.

Let’s take the same example we used in our last blog post, with a few more facts.

Our Example

Assume again that you owe income taxes of $24,000—$8,000 for the each of the 2012, 2013, and 2014 tax years. The 2012 and 2013 taxes meet all the conditions for discharge. The 2014 one doesn’t, mostly because it hasn’t yet been 3 years (as of when this is being written) since the date its tax return was due on April 15, 2015.

The IRS/state has just recorded tax liens on all three tax years against your home. Your home is worth $250,000, and has a $245,000 first mortgage owed on it. So, before the tax liens’ recordings you had $5,000 of equity in the home. Now you have NEGATIVE $19,000 of equity. And you are under the financial risks outlined above from the tax liens.

So on advice of your bankruptcy lawyer you file a Chapter 13 case. You do so because you:

  • can’t afford to pay nearly as much as the IRS/state are demanding each month in monthly installment payments
  • are afraid of the actions the IRS/state can take against you and your home on the tax liens
  • are afraid of the other collection actions they can take on the $24,000 in taxes
  • need a plan for taking care of these taxes in a way that you can reasonably manage

The Example’s Chapter 13 Plan

In this example the $16,000 of 2012 and 2013 tax debts would be treated as “general unsecured” debts. That is, they would but for the tax liens. Now those two tax debt are “secured” against your home because of their tax liens.

However, under Chapter 13 you have the power to establish that they are secured only to the extent of your home’s equity. So, the 2012 debt of $8,000 is secured by the $5,000 equity in the home. The remaining $3,000 is not secured. The 2013 debt of $8,000 has no remaining equity in the home for it to be secured by. So both that and the remaining $3,000 of the 2012 tax it is treated as a “general unsecured” debt.

This means that this $11,000 ($3,000 + $8,000) would be paid—if at all—to the same extent as your other ordinary debts with no collateral. In most Chapter 13 cases there’s only a set amount available to pay to the entire pool of “general unsecured” debts. This means that usually that $11,000 would just go into the pot with those other debts, and you’d pay no more than if there was no such $11,000 tax debt. That $11,000 tax debt just reduces how much other “general unsecured” debts get paid, without increasing how much you pay. In fact, in many bankruptcy courts you’re even allowed to pay nothing to the “general unsecured” debts. That happens if all your money during the life of the plan goes elsewhere.

The “Priority” Tax Debt

And how about the third tax year—2014—which doesn’t meet the conditions for discharge? What affect does its tax lien have on it?

It has no effect because all of the home’s equity has already been absorbed by the 2012 tax year.  This 2014 tax already has to be paid in full through the Chapter 13 payment plan. It’s a “priority” debt.  Had there been equity in the home to cover this lien then you’d also pay interest on this tax. Without any equity this 2014 tax is effectively unsecured. So it’s treated like any other “priority” debt. You have to pay it in full during your 3-to-5-year Chapter 13 payment plan.

So you have up to 5 years to pay the $5,000 secured portion of the 2012 tax and the $8,000 2014 tax. Throughout that payment period you’d be protected from the IRS/state by the “automatic stay.” This usually protects you throughout the years of the case (not for just 3-4 months like Chapter 7). That means no further IRS/state or other creditor actions against your or your house throughout your case.

Your payment plan may or may not include some money to pay towards your “general unsecured” debts. This includes the unsecured part of the 2012 tax and all of the 2013 tax. How much, if any, you’d pay on these would mostly depends on what you could afford to do so, after paying the other taxes. The secured part of the 2012 tax and the 2014 “priority” tax debts would usually get paid in full before the “general unsecured” debts would receive anything.

The End of the Chapter 13 Case

At the end of your successful Chapter 13 case the following would happen:  

  • Having by that point paid off the $5,000 secured part of the 2012 tax debt, the unpaid portion of the remaining $3,000 would be forever discharged.
  • The unpaid portion of the 2013 tax debt would also be discharged.
  • Having by that point paid off the $8,000 “priority” tax debt, any interest and penalties that would have accumulated on that tax would be forever waived.
  • With all your tax debts either paid or discharged, there’d be no further risk of a lien against your home from that tax.
  • You’d be tax-debt-free, and altogether debt-free (except for long-term debt like your home mortgage).

Chapter 7 Permanently Prevents Tax Liens against Your Home

October 16th, 2017 at 7:00 am

Filing a Chapter 7 case prevents tax liens from hitting your home, and so avoids a dischargeable tax from turning into one you must pay. 

 

Our last blog post was about how filing a Chapter 7 case buys you time with debts on your home. It’s worth expanding on one of those Chapter 7 benefits, one that can go way beyond buying time. It could save you a lot of money, potentially many thousands of dollars.

The Dischargeable Income Tax Scenario

Filing a Chapter 7 bankruptcy can discharge certain, usually older, income tax debts. (See our blog post of this last September 22 about the conditions for writing off income taxes in bankruptcy.) If you file a Chapter 7 case before a tax lien is recorded on a dischargeable tax debt, then that will prevent the IRS or state tax authority from recording that lien against your home. The tax will then be discharged (permanently written off) about 4 months of your bankruptcy filing. After that the IRS/state can never record a lien or take any other collection action on the tax. It’s gone forever, and the threat of a lien against your home is also gone forever.

The Very Bad Alternative

What happens instead if the IRS or state records a lien against your home before you file bankruptcy?

Assume you’d have some equity in your home but no more than the homestead exemption. (That’s the amount of equity that’s protected from most creditors in bankruptcy—the specific amount varies state to state.) If you’d owe a tax debt that would qualify for discharge and the IRS/state had recorded a lien on that debt against your home, that lien would continue on after you’d complete your bankruptcy case. Your homestead exemption would not help with a tax lien. That lien would continue to encumber the equity you have in your home. You’d have to pay the lien in full when you’d sell or refinance your home. The lien would effectively turn a debt that you could have discharged within a few months after filing bankruptcy into an anchor attached to your home.

Assume instead that you’d have no equity in your home. The IRS/state would probably still want to keep its lien against your home. The lien would at the time have no equity to encumber but the lien would still attach to your title. Later the IRS/state could likely renew the lien, leaving it on your home’s title for a very long time. Odds are you’d be forced to pay the tax at some point, maybe when your home’s value increased enough. Instead of you getting the benefit of that equity, it would go to pay a tax that you could have discharged long before, if you’d just filed a bankruptcy case before the tax lien hit your home.

An Example

Let’s say you owe $6,000 in income tax for the 2012 tax year and $3,000 for the 2013 tax year. And this is after you’d paid monthly instalment payments for years. Those amounts include a lot of interest and tax penalties. Assume that both of these tax debts qualify for bankruptcy discharge. (This would mostly be because enough time has passed since their tax returns were due and actually submitted.) Assume also that you own a home worth $250,000 with a $225,000 mortgage. That $25,000 of equity is fully covered by your state’s $30,000 homestead exemption.

The following would happen if you filed a Chapter 7 case with your bankruptcy lawyer before any tax lien was recorded:

  • The “automatic stay” from the bankruptcy filing would immediately prevent the IRS/state from recording a tax lien on your home (or on anything else you own). Your home and its equity would be immediately protected.
  • Both the $6,000 2012 tax debt and the $3,000 2013 one would be discharged about 4 months later.
  • The IRS/state could never file a tax lien on these taxes ever again. They could take no further collection action of any sort. The $9,000 debt would be gone. The IRS’s/state’s ability to attach that debt to your home would be gone as well.

Instead the following would happen if the IRS/state HAD recorded tax liens on both years before you filed a Chapter 7 case:

  • The tax lien recorded against your home would continue on after you filed bankruptcy.
  • The IRS/state would get paid on those liens whenever you sold or refinanced your home, potentially many years later.
  • You would very likely pay $9,000—plus likely lots more interest and penalties—to the IRS/state that otherwise you would not have needed to pay.

 

The Tax Exceptions to the Automatic Stay

October 24th, 2016 at 7:00 am

In spite of you filing bankruptcy, the taxing authorities can still take certain very specific actions as exceptions to the automatic stay. 

 

The last few blog posts have been about bankruptcy’s automatic stay protection from the collection actions of creditors. The last couple of them have been about exceptions to that protection—when certain creditors can take certain actions.

Today we focus on a set of very limited exceptions to the automatic stay which applies specifically to taxes.

What Taxing Authorities CAN’T Do

The automatic stay protections are designed to immediately stop virtually all debt collection activity against you and your assets. The point is to have all creditors stop going after you so that everybody can shift to applying the bankruptcy laws to your financial situation.

Those bankruptcy laws may result in the discharge of a particular tax debt if that tax meets certain conditions. (A “discharge” is a legal, permanent erasing of a debt in bankruptcy.) And if those conditions aren’t met, the tax is not discharged in bankruptcy.

But regardless whether or not a tax is going to be discharged, the automatic stay prevents the taxing authorities from taking the usual actions to collect that tax. The automatic stay tax exceptions do NOT allow them to take any action to get your money or assets. The IRS and state taxing authorities can’t start or continue garnishing (“levying on”) your paychecks. They can’t levy on (take away) anything else you own. They can’t call you to pay the tax. They can’t mail you notices that you must pay the tax (except as stated below).

The Tax Exceptions to the Automatic Stay

What the taxing authorities CAN DO is take certain administrative actions related to DETERMINING the amount of tax you owe, NOT to COLLECTING the tax. So, in spite of you filing bankruptcy, they can do the following:

  • Start or finish a tax audit “to determine tax liability.” (See Section 362(b)(9)(A) of the Bankruptcy Code.)
  • Send you a notice about the amount of tax that you owe—a “notice of tax deficiency.” (Section 362(b)(9)(B).)
  • Demand that you file your tax returns, a legal requirement understandably not affected by your bankruptcy filing, and which indeed is often necessary to be able to administer your bankruptcy case. (Section 362(b)(9)(C).)
  • Make an “assessment” of your taxes and issue a “notice and demand for payment.” (Section 362(b)(9)(D).)
  • Under certain limited circumstances the assessment a tax lien can attach to your personal property and real estate. (Section 362(b)(9)(D).)

Again, other than these limited actions, it’s a violation of the automatic stay and so is illegal for the taxing authorities to take any other collection action against you once you file bankruptcy.

 

Dealing with a Recorded Income Tax Lien and Preventing Future Ones

July 15th, 2016 at 7:00 am

Chapter 7 sometimes doesn’t give much help with tax liens. But Chapter 13 hugely helps with tax liens already recorded, and stops new liens.

 

Today we cover the 5th of the 10 ways that Chapter 13 helps you keep your home, which we listed in a recent blog post. Here’s how we had introduced this one:

5. Protection from Both Previously Recorded and Future Income Tax Liens

Chapter 7 usually does nothing to address income tax liens that have already been recorded on your home. It also doesn’t prevent future tax liens on income taxes you continue to owe after the bankruptcy case is completed. In contrast, Chapter 13 provides an efficient and effective procedure for valuing, paying off, and securing release of tax liens. Plus, the IRS/state cannot record a tax lien on income taxes during the years while the Chapter 13 case is active.

Let’s show how this works in practice.

The Example

Assume that you own a home worth $215,000 with a mortgage loan balance of $210,000. The home value has been increasing modestly each year.

You tried to start a business at the beginning of 2012 which you couldn’t really get off the ground so you closed it down at the end of 2013. You worked part-time during those two years to have some income, and the business made some money. But the combined income was not nearly enough. As a result you didn’t have the money to pay estimated self-employment or withholding income taxes during those two years. And before, during and after that two-year period you racked up a bunch of credit card and other debt.

As a result you owe $8,000 in income taxes to the IRS for 2012 and $6,000 for 2013. You’ve filed all tax returns on time, don’t owe anything for 2014 and 2015, nor expect to for 2016. Your credit card and other non-mortgage debts now total $68,000.

You just received a notice that the IRS recorded a tax lien against your home on the $8,000 2012 tax debt. You are strapped, have used up all sources of credit and have fallen behind on some credit card payments. You can’t afford to pay anything to the IRS, and don’t know what to do.

Chapter 7 “Straight Bankruptcy” Not Sufficiently Helpful

At first it looks like a Chapter 7 case would solve many of your financial problems. The question is whether it would solve them adequately.

A Chapter 7 case would likely forever “discharge”—legally write off—all or most of the $68,000 in credit card and other miscellaneous debts. That would no doubt free up a fair amount of cash flow.

The 2012 income tax debt would have met the conditions for discharge (essentially, more than 2 years since the tax return was filed and more than 3 years since that tax return was due). But the new tax lien now recorded against and attached to your home would survive a Chapter 7 bankruptcy.

That means that the IRS can still force you to pay that $8,000 tax debt by sitting on the tax lien and maybe threatening to foreclose on your home. There’s currently only $5,000 in equity in the home ($215,000 value minus $210,000 mortgage), less than the amount of the tax lien. But that equity will likely increase as the home’s value increases and you pay down the mortgage. You will eventually have to pay the tax. In the meantime the tax lien will continue significantly hurting your credit.

On top of that, the $5,000 tax debt for 2013 would not yet meet the conditions for discharge. It’s not yet been 3 years since its April 2014 tax return due date. So you would continue owing that entire $5,000 tax debt. Plus the interest and penalties would just keep accruing. Then just as soon as your Chapter 7 case is completed the IRS would be able to use all of its usual collection powers. That includes recording a tax lien on this 2013 tax debt as well.

So a few month after your Chapter 7 case would be finished you would likely have two tax liens of $8,000 and $5,000 on your home, and have to figure out how to pay them off.

Chapter 13 Often Much Better

As we stated at the beginning, “Chapter 13 provides an efficient and effective procedure for valuing, paying off, and securing release of tax liens.” Here’s how that works.

In the example provided, you and your bankruptcy lawywer would propose a Chapter 13 payment plan that treats the 2012 tax debt as partially secured against your home and partially not secured. That $8,000 tax debt is secured to the extent of $5,000 (again, the $215,000 value minus $210,000 mortgage). The remaining $3,000 of that $8,000 would be declared by the court to be unsecured. That portion would be paid if, and only to the extent, that there was any leftover money to pay it during the course of the Chapter 13 case.

As for the $5,000 in 2013 income taxes, your Chapter 13 payment plan would have to earmark enough to pay that in full as an unsecured “priority” debt. But the interest and penalties would stop accruing, effectively reducing the amount that you’d have to pay. And you’d have a great deal of flexibility when and how it was paid. The payments would be based on your budget and worked around other important debts. And, in contrast to Chapter 7, and very importantly, the IRS would not be able to record a tax lien against your home during the course of your case.

At the successful completion of your case you would have paid off the secured port of the 2012 tax. And so that tax lien would be released. Whatever portion of the unsecured part of that tax would not have been paid would be discharged, along with any unpaid portion of the other $68,000 in debts. The 2013 priority debt would be paid in full. You’d owe no taxes. And other than the mortgage, you’d be altogether debt-free.

 

Your Secured Debts

June 22nd, 2016 at 7:00 am

Creditors with secured debts often have much more leverage against you than with unsecured debts.

 

The last couple months we have been discussing your bankruptcy options with debts secured by your vehicle, by your home, and by investment or business real estate. You can have debts secured by many other kinds of security—furniture and appliances, other personal property you buy or else had owned beforehand, business equipment and inventory, personal possessions that are subject to an income tax or judgment lien. These are just some of the possibilities. Before we get into these, and how bankruptcy handles them, let’s get a better understanding of secured debts in general.

Secured Debts

It’s quite simple. An unsecured debt is not legally tied to any interest in or right to anything you own. A secured debt IS legally tied to something you own through a lien on it. A lien is defined in the U.S. Bankruptcy Code as a “charge against or interest in [your] property to secure payment of a debt or performance of an obligation.” (Section 101(37).)

For example, vehicle loan is a secured debt. Your creditor has a lien on your vehicle. Your title shows the creditor as the lienholder on the vehicle. That lien is on the title because of what you agreed to in the documents you signed with that creditor. The lien secures your payment of the debt and your performance of other obligations you agreed to in those documents. If you don’t pay the debt your creditor can of course repossess your vehicle. If you don’t pay insurance and it lapses, your creditor can likely “force-place” its own insurance to protect its security interest in the vehicle and make you pay for that insurance.

Voluntarily and Involuntarily Secured Debts

You intentionally give a creditor a lien by entering into a “security agreement”—part of the paperwork you sign when you buy a vehicle, or when you take out a loan and provide collateral in the form or your vehicle or some other collateral you own. (See Section 101(51 of the Bankruptcy Code.)

But there are many kinds of secured debts in which you don’t directly agree to give a lien on your property but it happens by operation of the law. Generally these happen when you don’t pay an unsecured debt and the law provides ways for the creditor to convert that unsecured debt into a secured one.

If you don’t pay almost any unsecured debt or claim against you, the creditor can file a lawsuit against you. If you lose that lawsuit—which you usually do if you owe the debt or the claim is valid—the creditor gets a judgment against you. That judgment can turn into a judgment lien against your home. That judgment lien gives that creditor certain rights against your home, including often the right to foreclose on that lien to force you to pay that judgment.

If you don’t pay income taxes, the IRS or state tax agency can put a tax lien on both your real estate and personal possessions. That tax lien in effect turns those possessions into collateral on the tax you owe.

There are numerous other similar kinds of liens that can be created on your property.

Debts that May or May Not Be Secured

For a creditor to have a lien in your property—whether voluntary or not on your part—the creditor must initially go through the appropriate legal steps create that lien, to turn that debt into a legally secured one.

As a result some debts that you might think are secured debts are not. For example, when you buy some furniture or appliance, whether the debt you owe is secured—whether the creditor could repossess what you bought if you don’t pay—depends on whether it took the legally necessary steps to create a legally enforceable lien. This depend on whether you sign appropriate paperwork that gives the creditor that right in the contract, and then whether the creditor followed any additional required legal steps to create the lien.  

Sometimes a debt is intended to be secured but the creditor does not do what the law requires, and so the debt ends up being completely unsecured. The creditor would not have rights to repossess whatever of yours it could have otherwise. 

 

In our next blog post in a couple days we’ll look at how bankruptcy can give you certain powers and advantages over your secured debts.

 

Dealing with a Recorded Tax Lien FULLY Secured by Home Equity

May 30th, 2016 at 7:00 am

A tax lien fully encumbered by the equity in your home is dangerous. Chapter 13 may be your best option. 

 

Today we finish a short series of blog posts on income tax liens recorded against your home. Last time we explained how to use Chapter 13 “adjustment of debts” to get the release of a tax lien when there is SOME equity in your home to secure the tax debt. The time before we got into what happens when there’s NO equity in your home to which the tax lien can attach. Today is about tax liens that secure the entire tax debt because the amount of home equity is enough to cover the ENTIRE tax.

Scenarios

To make better sense of this, here are three scenarios to illustrate the three above situations.

All of them involve a homeowner who owns a home worth $190,000 while owing an income tax debt of $20,000. Assume that this tax debt meets the conditions for “discharge”—legal write-off in bankruptcy. That usually just means that the tax return for that income tax debt was due more than 3 years ago and the tax return was submitted to the IRS/state more than 2 year ago.

  • In the first scenario, assume that the mortgage(s) and any other prior liens (such as for property taxes) against this $190,000 home total $180,000. So the home has $10,000 in equity. If the IRS or state tax agency recorded a tax lien against the home on the $20,000 tax, that tax would be partially secured, to the extent of $10,000. See our last blog post for how best to deal with this partially secured situation.
  • In the second scenario, assume that the mortgage(s) and any other prior liens against this $190,000 home total $195,000. Then of course the home has no equity at all. If a tax lien was then recorded on the $20,000 tax debt against the home, it has no home equity to which to attach. So in spite of the tax lien, the tax debt would still be effectively unsecured, at least unless and until equity built up on the home by an increase in its value or pay-down of the prior liens. See two blog posts ago about how best to deal with this completely unsecured situation.
  • In the third scenario, assume that the mortgage(s) and any other prior liens for the $190,000 total only $170,000. Now when a tax lien is recorded against the $20,000 tax debt, there is enough equity in the house to cover that full amount. The tax lien makes the tax debt fully secured. This is what we cover now.

You Must Pay the Tax to Keep the Home

If your home has enough equity to cover the amount of the tax on which the tax lien is recorded, you have to pay the tax. With the recording of the tax lien, your home involuntarily became collateral on the tax debt.

This is true even if that tax would otherwise meets the conditions for being legally discharged—completely written off (by meeting the 2-year and 3-year conditions, and occasionally another condition or two, mentioned above).

A recorded income tax lien—similar to a home mortgage—continues in effect after your bankruptcy case. So if you want to keep the home, again you have to pay the tax.

Because of this drastic effect of a tax lien, as we emphasized in a blog post a week ago, if at all possible try to file bankruptcy before a tax lien is recorded. This is especially true if you qualify for discharge of the tax debt AND there is equity in your home that would be encumbered by a tax lien.

Chapter 7 “Straight Bankruptcy” Might Help

Filing Chapter 7 case my help by:

  • discharging (writing-off) all or most of your other debts so that you could afford to make payments on the income tax debt until it was paid in full, including ongoing interest and penalties, and the tax lien was released from your home’s title.
  • discharging other income taxes that qualify for discharge and don’t yet have a recorded tax lien

But That Often Doesn’t Work

In practice Chapter 7 often isn’t the best option because even after discharging your other debts, you may not qualify for or be able to afford to pay what the IRS/state requires in a monthly installment tax payoff plan.

This would especially be true if you have other special debts to pay that Chapter 7 does not discharge and would have to be paid as well. Examples are student loans and child support arrearage.

Or if you are behind on a vehicle loan, and/or the home’s mortgage, property taxes, or homeowner association dues, you would have to pay these to hang onto the vehicle and/or the home. 

Other obligations like these would likely make it hard to make the required installment payments on the income tax secured against your home by the tax lien.

Chapter 13 Can Be Much Better

Filing a Chapter 13 “adjustment of debts” case can protects you from the tax debt and its tax lien as follows:

  • The IRS/state is stopped from enforcing the tax lien through foreclosure of the lien, or any other collection methods. The protection that in a Chapter 7 case usually lasts only about 4 months, under Chapter 13 lasts throughout your 3-to-5-year payment plan.
  • Your payments on the tax debt at issue can be delayed or reduced while you pay other even more time-pressing debts (such as child support, home mortgage, or vehicle arrearage mentioned above).
  • If your circumstances change during your Chapter 13 payment plan, you can usually adjust your plan payments, including the payments being paid on the income tax debt. Instead of just hoping that the IRS/state would be willing to accept delayed or lower payments, Chapter 13 would very likely give you more flexibility and protection.

Summary

When you meet with your bankruptcy lawyer, together look very carefully into whether getting rid of your other debts through Chapter 7 would really free up enough of your cash flow so that you could enter into a reasonable monthly payment plan with the IRS/state.

If not, or if you have other special debts that need the other benefits that Chapter 13 provides, discuss with your attorney if that is the best way for you to go. 

 

Resolving a Recorded Tax Lien Partly Secured by Home Equity

May 27th, 2016 at 7:00 am

Chapter 13 forces the IRS/state to accept only partial payment on an income tax debt that is only partially secured by a tax lien.

 

We’re in a short series of blog posts on income tax liens recorded against your home. Last time we explained how to use Chapter 13 “adjustment of debts” to get the release of a tax lien when there is no equity in your home securing that tax lien. That happens when the mortgage(s), property taxes, and other prior liens soak up the whole value of the home.

But what if there is enough equity in the home to cover part of the tax lien but not all of it? That is, the prior liens soak up most of the home’s value but leave SOME equity for the tax lien but not enough to cover the full tax debt.

An Example

This situation will make much more sense with an example.

Take a home is worth $200,000, with a mortgage of $195,000, leaving equity of $5,000. This home equity is increasing over time as the neighborhood home values increase and the mortgage is paid down.

The IRS is owed $20,000 for the 2011 and 2012 tax years. Assume that this $20,000 could normally be “discharged” (legally written off) in a Chapter 7 “straight bankruptcy” without paying anything. That’s because the main conditions for discharge were met in this example: the tax returns for those taxes were due more than 3 years ago and were submitted to the IRS more than 2 year ago.

But recently the IRS recorded a tax lien on the home for that $20,000 owed, securing the tax debt against the home. But there’s currently only $5,000 equity in the home to cover that $20,000 tax lien. What happens?

The Disadvantage under Chapter 7

If no tax lien has been recorded against you and your home, Chapter 7 is an excellent way to get rid of older income tax debts, those that meet both the 2-year and 3-year conditions just mentioned. The problem is that by the time those conditions would be met, there’s a good chance that a tax lien will get recorded. After all, the IRS and state tax agencies know the bankruptcy laws quite well and want to make you pay the taxes!

A recorded tax lien survives a Chapter 7 discharge. So if that lien attached to some equity in the home, you finish the Chapter 7 case with that dangerous tax lien still encumbering your home and that equity. There is no legal mechanism under Chapter 7 to discharge the unsecured part of the tax and just pay on the secured part.

So the IRS or state will use that tax lien as leverage to make you pay as much of the tax as possible. Especially if the value of the home is increasing, the IRS/state will likely be able to make you pay all or most of the tax amount before releasing its tax lien.

The Solution under Chapter 13

Chapter 13 does have exactly the kind of legal mechanism that you need here. Through your court-approved payment plan, the bankruptcy law allows you establish the amount of equity in your home to which an income tax lien attaches as of the time your case is filed. Then that amount—that part of the tax lien—and no more, is paid over time through the Chapter 13 payment plan. That’s the secured part of the tax debt.

In our above example, that’s the $5,000 portion of the $20,000 tax debt, the part secured by the equity in the home.

The rest of the tax beyond the secured part, the additional $15,000 in our example, is treated as a “general unsecured” debt. That means it is grouped with the rest of your debts that are neither secured nor treated in any special way. These debts, including that portion of the taxes, are paid only to the extent that you have money left over after paying off the secured part, and after paying in full all your other legally more important debts.

What’s important to understand is that In practice the unsecured part of the taxes—the $15,000 in our example—usually doesn’t increase the amount you pay into your 3-to-5-year Chapter 13 payment plan payments. This happens one of two ways:

  • Your payment plan doesn’t have any money left over for the “general unsecured” debts, including the unsecured part of the taxes. That’s when you budget only provides you enough “disposable income” over the life of your plan to pay the secured part of the tax and other legally more important debts—like catching up on your home mortgage, paying off your vehicle loan, and paying more recent income taxes that can’t be discharged. This is called a 0% plan—paying nothing of the “general unsecured” debts and paying nothing of the unsecured part of the income tax. In our example, the $15,000 would be paid 0%—it would be paid nothing.
  • In other Chapter 13 cases in which you are paying something to the “general unsecured” debt, that “something” is a definite amount based on what your budget allows. Adding the unsecured part of the lien tax debt to that pool of other “general unsecured” debts does not increase the amount of money you have to pay into that pool. You pay the same amount and that amount is just spread out among more debts, so that the other “general unsecured” debts just get less of that fixed amount that you pay. In our example, if you had $50,000 of other “general unsecured” debts, adding the $15,000 unsecured portion of the taxes would not increase the amount you would pay but rather the remaining $50,000 of debts would just get paid less.

 

Beating a Recorded Income Tax Lien on Your Home

May 25th, 2016 at 7:00 am

Once an income tax lien is recorded, Chapter 13 gives you a tool that may enable you to pay no more and yet get a release of that tax lien.

 

Our last blog post was about using bankruptcy to prevent the IRS or state income tax authority from recording a tax lien on your home. But what if a tax lien has already been recorded?

The Challenge of a Tax Lien

In our last blog we also focused on how bad it is for you if the IRS/state records a tax lien 1) on an income tax debt that could otherwise be discharged (legally written off) 2) against a home that has equity against which that tax lien can attach. Then the problem is that the tax can no longer be discharged since it’s now secured by your home.

But what if the home has no present equity for the tax lien to attach to?

Dealing with a Tax Lien with No Home Equity to Attach

Maybe the IRS/state didn’t know that there was no equity when it recorded the tax lien, or maybe it just didn’t care. A recorded tax lien is a matter of public record. It hurts your credit record and your ability to sell and refinance the home. It puts you under pressure to pay the underlying tax debt. The IRS and state know this and that lien hurts you regardless that your home may have no present equity.

Filing a Chapter 7 “straight bankruptcy” usually doesn’t help because an income tax lien is not affected by it. The tax lien continues to attach to your home. And within just 3-4 months after the case is filed it’s finished and the IRS/state can resume enforcing the lien.

Determining that a Tax is Unsecured in Spite of the Tax Lien

But filing a Chapter 13 “adjustment of debts” bankruptcy instead DOES help. That’s because it comes with a truly unique tool, the ability to get a legal determination that the home has no equity attachable by the tax lien. You simply establish that as of the time the case was filed the liens that come ahead of the tax lien eat up all of your home’s equity, leaving none for the tax lien. (See Section 506(a) of the U.S. Bankruptcy Code.)

As a result the tax debt is treated as a “general unsecured” debt.  It is put into the pool of all your other “general unsecured” debts—which include medical bills, most credit cards, and all other debts that are not treated special by the bankruptcy laws.   You would pay into that pool, including on that tax debt, only as much as you could afford to pay during the life of your 3-to-5-year Chapter 13 plan, if at all.

Indeed in many situations you would pay little or nothing because you would first be required to pay other higher-priority debts. Again, you would only pay “general unsecured” debts, including the tax debt in issue, to the extent you could afford to do so with any money left over within the length of time that your Chapter 13 plan is required to last.

And in most cases when you do pay some percentage of those “general unsecured” debts, the addition of your tax debt to that pool of your “general unsecured” debts usually doesn’t increase the amount you must pay. That’s because most of the time you pay a fixed amount of money into that pool of debts. So adding the tax debt simply reduces what the other “general unsecured” creditors receive without you paying any more.

Forcing the Release of a Tax Lien When It Does Not Attach to Any Equity

Then at the end of the Chapter 13 case, any portion of the tax debt that hasn’t been paid is discharged, legally written off forever. Then, the IRS/state—regardless how much it’s been paid or not paid—must release its tax lien.

Lack of Equity Fixed As of Date of Filing

The lack of any value in the tax lien is fixed as of the beginning of the Chapter 13 case. So the home’s ongoing appreciation in value (and increase in equity as you pay down mortgage and other debt) is put beyond the reach of the tax lien. The IRS/state does not benefit from the tax lien during the course of the case while you are protected from all collection activity. Then at the end of the case the tax debt is discharged and the tax lien is release.

Under these facts, this is an excellent way to beat a tax lien.

 

Preventing an Income Tax Lien on Your Home

May 23rd, 2016 at 7:00 am

The recording of an income tax lien turns your home into collateral on the tax you owe. Stop the IRS/state from getting that huge advantage.

 

Assume you owe an income tax debt of $20,000. Assume also that if you filed a bankruptcy case today that $20,000 would be “discharged”—legally written off—in bankruptcy since that tax meets the conditions for discharge. You would not have to pay a dime of this $20,000. Ever.

But now instead assume that you didn’t file bankruptcy today. Then tomorrow the IRS or state tax authority records a tax lien against your home on this $20,000 tax debt. This could mean that after that you could not discharge that debt at all but instead would have to pay it in full. Plus penalties and interest.

So, bankruptcy doesn’t just write off income taxes under the right circumstances. It prevents a debt that could be written off turning into one that can’t. And protects your home in the process.

A Bad Combination of Circumstances

So the recording of an income tax lien can turn a debt that can be discharged into one that has to be paid in full. This doesn’t always happen. It happens when you have a combination of 2 circumstances. But this combination of circumstances is a common one if you owe taxes:

  • First, the income tax you owe meets the conditions for it to be discharged in bankruptcy. A tax can generally be discharged if 1) more than 3 years have passed since the tax return for that tax was due, and 2) more than 2 years have passed since the tax return was actually submitted to the IRS/state.
  • Second, your home has equity to which a tax lien could attach.

Tax Liens Often Are Recorded Against Dischargeable Debts

The IRS and the state tax authorities don’t tend to record tax liens early in the collection process. Whether or not they do depends on the amount of the tax due and other factors. But they are often not quick on recording tax liens. They tend to go through other collection procedures first, especially if you cooperate with them (although again it depends on their individual procedures and how they exercise their discretion in each case).

Often the result is that by the time they would be recording a tax lien, enough time would have passed to meet the above 2-year and 3-year conditions for discharging that tax. So when a tax lien is recorded against you, that recording often turns a tax that could have been easily discharged into one that no longer can be.

A Tax Lien Attaches to ALL Present and to FUTURE Home Equity

Whether or not you own a home is a matter of public record. The IRS and state know if you own a home. They can determine, at least roughly, how much you owe on it. And so they know whether you have any equity in it and about how much. These facts can affect whether and when they would record a tax lien against your home.

You may think that you have little or no equity in your home. But consider the following:

  • First, you may have learned that you are entitled to a “homestead exemption” that protects the equity in your home from your creditors. You may have even learned that all of the equity that you have in your home is more than covered by that homestead exemption. Doesn’t matter. The homestead exemption does not have the power to stop a tax lien from attaching to your home equity.
  • Second, a tax lien attaches not just to your present equity but also to future equity. Your home equity increases as you pay down your mortgage and as the value of the home increases. If you are behind on property taxes, homeowners’ association dues, or other debts against your home, catching up on these builds equity all the more quickly. Tax liens can last a long time and so can attach to your home’s future equity. An IRS tax lien, for example, lasts the 10 years that it can collect on a tax (and can be extended in certain situations).
  • Third, even if you have little or no equity in your home and the equity won’t significantly increase in the future, a tax lien gives the IRS/state leverage to force you to pay them in order to get rid of the tax lien. Tax liens are quite damaging on your credit record. They can prevent you from selling or refinancing your home. The IRS/state will use all this to make you pay to get a release of its lien, even if the amount you are forced to pay is more than the amount of equity that the tax lien actually attaches to.

Preventing All This

Stop the IRS and state tax authorities from gaining all these damaging advantages. Do so simply by filing bankruptcy before they record a tax lien.

If you file either a Chapter 7 “straight bankruptcy” or a Chapter 13 “adjustment of debts” before a tax lien is recorded against you and your home, the IRS and/or state are stopped from recording one. Then, the IRS/state cannot record a tax lien during your bankruptcy case. And if the income tax(es) you owe meet(s) the conditions for discharge, towards the end of your Chapter 7 or 13 case the tax will be discharged. After that the IRS/state cannot take any action to collect the debt, including to record a tax lien.   

So, especially if you owe income taxes that meet the conditions for discharge, filing bankruptcy before a tax lien is recorded can make a tremendous difference.  The difference can be between paying NOTHING on a discharged tax debt and paying ALL of that tax because the lien attached to present and future equity in your home. 

 

A Fresh Start for Your Home Partly Encumbered by a Tax Lien

February 12th, 2016 at 8:00 am

Chapter 13 handles a tax lien on a home especially well when the home has enough equity to cover some but not all of the tax lien amount.

 

In our last two blog posts we dug into tax liens, and we do so one more time today. Two blog posts ago it was about tax liens that have no equity at all to attach to. Then the last blog post was about tax liens that have enough equity in the home to cover the entire amount of the tax lien.

Today we get into the in-between situation—where there’s enough equity in the home to cover part of the tax lien but not all of it. How can you get a fresh start on you home in this situation?

A Quick Summary about Tax Liens

A recorded tax lien on your home turns an income tax debt that you could have completely discharged (legally written off) in a Chapter 7 “straight bankruptcy”case into one that you may have to pay in full. If that income tax debt meets the conditions for discharge (mostly by being old enough), whether and how much you have to pay that tax depends mostly on whether there is equity in the home to cover this tax debt.

If there’s no equity at all for the tax lien because the mortgage and other liens legally ahead of the income tax lien eat up more than the full value of the home, you may not have to pay anything, or relatively little, of the tax at issue.

If there is enough equity in the home to cover the entire value of the secured by the recorded tax lien, you will have to pay the tax if you want to keep the home.

So what happens if the tax lien is neither completely unsecured for lack of equity nor completely secured by more than enough equity? What happens with a partially secured tax lien?

The Problem with a Partially Secured Tax Debt under Chapter 7

A Chapter 7 case is great if you owe an income tax which meets the conditions for discharge, IF there’s no tax lien. But if there IS a recorded tax lien, and there’s some equity that the lien attaches to, you finish the Chapter 7 case with that dangerous tax lien still encumbering your home equity. Then the IRS/state will use that tax lien as leverage to make you pay as much of the tax as possible. If the value of the home is increasing, the IRS/state will likely be able to make you pay all or most of the tax amount before agreeing to release its tax lien.

The problem is that there is no legal mechanism under Chapter 7 to divide the partially secured tax lien into two parts, the secured part and the unsecured part. You can’t discharge the unsecured part and just pay on the secured part. Instead the IRS/state takes advantage of its tax lien by making you pay all or most of the tax.

A Partially Secured Tax Debt under Chapter 13

However, Chapter 13 “adjustment of debts” does have exactly this kind of legal mechanism. The bankruptcy court helps you fix in time the amount of equity in your home to which an income tax lien attaches. Then that amount—that part of the tax lien—and no more, is paid over time through the Chapter 13 payment plan. That’s the secured part of the tax debt.

The rest of the tax beyond the secured part is treated as a “general unsecured” debt. So it’s lumped in with the rest of your bottom-of-the-barrel “general unsecured” debts. So that unsecured part of the tax is paid only to the extent that you have money left over after paying the secured part, and after paying all your other legally more important debts in full.

In practice you usually don’t increase the amount you pay into your 3-to-5-year Chapter 13 payment plan payments when you add the unsecured part of your income tax. There can be two reasons for this.

First, sometimes you can only afford to pay the secured part of the tax and other legally more important debts—like catching up on your home mortgage, paying off your vehicle loan, and paying more recent income taxes that can’t be discharged—leaving nothing for ANY of the “general unsecured” debts. Paying nothing on your “general unsecured” debts means paying nothing on the unsecured part of the income tax with the tax lien.

Second, in most Chapter 13 cases, after paying the secured part of the tax with the tax lien and the other legally more important debts you have only a certain amount of money available during the life of your payment plan to pay to all of your “general unsecured” debts. So adding the unsecured part of the lien tax debt to that pool of “general unsecured” debts does not increase the amount of money you have to pay of the debts in that pool of debts, You pay the same amount and that amount is just spread out among more debts. Having the unsecured part of the tax with the tax lien just results in the other “general unsecured” debts getting less of that fixed amount that you pay.

Chapter 13 Example

This makes more sense with an example. Assume that a home is worth $225,000 with a first mortgage of $190,000 and second mortgage of $30,000, leaving equity of $5,000. The equity is increasing as property values increase and the mortgages are paid down. The IRS is owed $20,000 for the 2010 and 2011 tax years. That $20,000 could have been discharged without paying anything because the tax returns for those two years of taxes were due more than 3 years ago and were indeed filed more than 2 year ago. But then the IRS recorded a tax lien on the home for that $20,000.

That tax lien covers the $5,000 in present equity. But after a Chapter 7 was filed the IRS would not likely release its tax lien for $5,000 because it could just wait for the property values to increase and the mortgages to be paid down for the equity covered by its lien to increase.

However under Chapter 13 the bankruptcy court could order the $20,000 tax debt to be divided into a $5,000 secured part and a $15,000 unsecured part. The $5,000 would then be paid over the 3-to-5-year court-approved payment plan, throughout which time the IRS would be prevented from taking any collection action. The remaining $15,000 unsecured part would be lumped in with the other “general unsecured” debts, usually not increasing the amount paid into the plan.

 

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