Yesterday, I wrote about a case in which third parties were denied the opportunity to sue for wrongful levy because of a lack of standing and, secondarily, because of the lateness of their request for return of proceeds. Today, I will discuss another recent levy case in which both the lien and levy process were implicated.
On the other end of the spectrum from the Austin and Laurato case sits the recent decision in United States v. Steward, No, 1:13-cv-11412. This case demonstrates a misunderstanding between levy and lien. The IRS issued a levy and the levy recipient claimed that it did not hold property belonging to the taxpayer. The IRS backed away from the levy and brought a lien foreclosure suit. This is common where a title dispute exists concerning property. The IRS gains little by administratively seizing property if it must try to sell property subject to competing claims. In such a sale, the price gets depressed and the IRS recovers only a fraction of the value of the property. To avoid the problem of trying to sell property with an attached lawsuit, the IRS generally moves away from administrative levy action and to litigation where ownership issues can get resolved before sale. By doing this, the IRS hopes to obtain a fair price for the property at sale, which benefits not only the IRS but also the taxpayer because a greater amount of the assessed taxes get paid.
The levy recipient was not happy that the IRS brought the suit. To combat the suit, it brought a counterclaim in the lien foreclosure suit alleging wrongful levy. The IRS moved to dismiss the counterclaim and succeeded. The Court explained that the IRS had withdrawn the levy and explained the difference between a levy and a lien foreclosure stating:
“Relying on a dictionary web site (Dictionary.com), HLA argues that “forced judicial sale is a wrongful levy,” id., and that the § 7426 waiver of sovereign immunity applies here because “the IRS is seeking to seize and sell Holly Lane’s property in this case.” Countercl. ¶ 4. This is simply not the case. A lien foreclosure action is not a levy. As previously noted, a levy and a lien foreclosure are distinct actions that can be taken by the IRS to collect taxes, and each action is authorized by a separate section of the Internal Revenue Code (§ 6331 and § 7403). A levy is a “provisional remedy” that “protect[s] the Government against diversion or loss” by allowing the IRS to administratively seize property prior to a determination that “the Government’s rights to the seized property are superior to those of other claimants.” Nat’l Bank of Commerce, 472 U.S. at 721. A levy “does not determine the rights of third parties until after the levy is made, in postseizure administrative or judicial hearings.” Id. at 731 (emphasis in original). In contrast, a § 7403 action is a “plenary action” where a court first adjudicates the interests in the property and “finally determine[s] the merits of all claims to and liens upon the property.” Id. at 737. Only then is property turned over to the United States (should it prevail). A § 7403 action “adequately protects any vested rights of third parties in the property at issue.” Stabler v. United States, 786 F. Supp. 2d 1161, 1165 (E.D. La. 2011). In essence, a lien foreclosure action adjudicates the very same thing that a wrongful levy suit would — except that it is brought by the United States to affirmatively determine interests before any seizure or sale of property.”
Many people confuse lien and levy as concepts. The Steward case offers the chance to see the clear difference between the two and to appreciate why the IRS would choose one route over the other. Recipients of levy notices and lien foreclosure actions need to understand and appreciate the difference so that they can properly respond and properly protect their interest. In the Steward case, the levy recipient, HLA, properly asserted its interest in the property as a defense to the levy in the first instance but it failed to recognize that such an assertion of interest takes on a different form in a lien foreclosure action. One of the defenses to levy properly asserted by a levy recipient is not holding property of the taxpayer. A valid assertion of that defense will usually cause the IRS to back away from the levy but that does not mean the IRS will go away. If the IRS believes that the taxpayer does have an interest in property in the possession of the levy recipient, it can proceed in a different form requiring different responses. HLA failed recognize the distinction and wasted its time in a lien foreclosure action seeking to make arguments that might succeed against a levy.
Faced with a levy that the levy recipient believes is incorrect because the levy recipient does not hold property of the taxpayer either because the levy recipient owns the property itself or because the levy recipient believes a third party owns the property, the levy recipient has choices to make. If it asserts ownership in the property, it should immediately notify the IRS of its ownership interest. Time is of the essence because the levy recipient does not want to bring on a failure to honor levy suit. Failure to respond to the levy will cause the IRS to move to this next step potentially causing the levy recipient additional expense. If the levy recipient can convince the IRS that it is the owner of the property subject to the levy, then the IRS will/should release the levy and the matter is concluded.
If the levy recipient cannot convince the IRS that it owns the property, then the IRS will likely either bring a failure to honor levy suit if it believes the taxpayer clearly owns the property (an unlikely step in the face of a competing claim of ownership) or bring a suit to foreclose the lien which will clear title to the property. If a suit to foreclose the lien is brought, the levy recipient who asserts ownership, should respond to the pleadings and assert its own interest in the property. It should be prepared to pursue its interest with documentary and testimonial evidence. If the levy recipient wants to be proactive, a quiet title case might also be considered as a path to clearing competing claims against the property.