Tax Notes logo

Attorney Liable for Failure to Honor Levy and 50% Penalty

Posted on Apr. 11, 2016

The case of United States v. Huckaby provides a good example of what not to do when representing a client with a large federal tax obligation.  I think Mr. Huckaby is lucky this post concerns his civil and not his criminal tax problems.  I have written before  about the failure to honor levy in the context of a bank and about the 50% penalty for failure to honor a levy. Here the taxpayer’s attorney manages to bring upon himself the personal liability of his client as well as an additional 50% for good measure.

Mr. Huckaby represented Action Construction Inc. and its principal, Gregory Hunt. The corporation had a client that went into bankruptcy and did not pay the fee on a construction project.  That caused Action to go into bankruptcy because it could not meet its obligations without the payment it expected to receive for its work.  Mr. Huckaby probably assisted Action in its pre-bankruptcy planning and may also have given advice to Mr. Hunt about the impact of the bankruptcy on him. These situations can present difficult issues for an attorney representing both parties as frequently happens in small businesses.  For an article discussion some of the issue see here.  During the period of financial distress as it struggled to survive while waiting for payment, Action did not pay its employment taxes.  At some point Action brought suit against the party for whom it was engaged in a construction project.  The opinion states that “Hunt alleges that, by February 23, 2011, when Hunt received a settlement check for the Minden lawsuit made out to Action in the amount of $83,069.61, the assets of Action had already been disbursed to settle creditors’ claims in the course of those bankruptcy proceedings and Action no longer continued to exist.  Hunt asked his attorney, Huckaby, what to do with the check received at this stage and Huckaby suggested the check be deposited into Huckaby’s client trust account.”

I did not go and look at Action’s bankruptcy case. If it was a Chapter 7, a trustee would have existed and that trustee would like to know about the existence of this asset of the estate.  If the bankruptcy case proceeded as a liquidating Chapter 11 with Hunt acting as the fiduciary of the estate, then Mr. Hunt had a duty to the creditors to alert them to this additional asset of the estate.  The bankruptcy court would have reopened the case to allow distribution of this asset.  The opinion turns on the failure to honor a levy and does not make further mention of the bankruptcy case; however, I think a bankruptcy issue lurks here.  The claim held by the IRS in the bankruptcy case may have had the highest priority of the remaining debts making the result the same inside or outside of bankruptcy.  If creditors of Action existed with a higher priority than the IRS, those creditors would like to have the chance to have their claims satisfied with these proceeds.  The opinion discusses one other claimant who had a UCC security interest but it was unclear whether this creditor would have defeated the IRS had the funds gone into the bankruptcy estate.

The next action described in the opinion seems the most bizarre. “On June 6, 2011, several months after making that deposit, Huckaby called Michael Franck, a revenue officer for the IRS and informed Franck of the payment.”  Given what Mr. Huckaby did before and after that call, I cannot understand why he made the call.  At the time of the call the revenue officer probably had what he considered an uncollectible account.  Upon receiving the call, the revenue officer dutifully and reflexively demanded payment of these funds to satisfy the outstanding employment tax obligation of Action.  Mr. Huckaby waives fresh meat in front of the revenue officer and then pulls it back.  If you intend to not pay the IRS with funds sitting in a bank account the IRS does not know about, I question why you would call the IRS and bring its attention to the account.  The actions on the part of the IRS that occurred thereafter were extremely predictable and they were the correct actions.

Having told the IRS about the account, Mr. Huckaby then receives directions from his client to move the money to a different trust account but also one for which Mr. Huckaby serves as trustee. He complies with the request.  Meanwhile, the revenue officer sends Mr. Huckaby notices of levy which he fails to pay.  I am not going to describe all of the things that Mr. Huckaby did and did not do but the opinion indicates he paid about $20,000 to the IRS on Mr. Hunt’s trust fund recovery penalty liabilities, $7,500 to himself as legal fees and $53,500 to Mr. Hunt for him to “start over.”  This left the outstanding tax liability at over $35,000.  For some reason the IRS did not think that the opportunity for Mr. Hunt to start over should come ahead of the outstanding tax liabilities of Action  it sought to collect through its levy so it brought suit against Mr. Huckaby for failure to honor levy.

The Court points out that defenses to a valid levy notice are very limited extending only to situations where the levied party does not possess the money or the property has already been subject to prior execution or attachment. On the facts presented here the Court granted summary judgment finding Mr. Huckaby liable for the unpaid taxes as well as the 50% penalty under Section 6332(d).  In addition to seeking a judgment against Mr. Huckaby, the IRS also sought to hold Mr. Hunt liable for fraudulently transferring the funds.  The Court found that while Mr. Huckaby’s repeated and unequivocal efforts to move the funds to avoid paying the IRS were both fraudulent and made with actual intent to hinder the collection of the taxes, it could not reach the same conclusion with respect to Mr. Hunt at the summary judgment stage of the proceeding.  So, Mr. Hunt’s personal liability on this count must wait for a trial even though Mr. Huckaby is liable for fraudulent transfer.  On the final count of conversion, the Court found that Mr. Huckaby’s actions constituted conversion as a matter of law and also that Mr. Hunt was liable for conversion since no matter what his intent or knowledge of the transfers was, his action resulted in a conversion of the IRS interest in the settlement funds.

What do findings like this cause a state bar or the IRS Office of Professional Responsibility to do? Even though Mr. Huckaby did not get charged with any criminal action, he may be exposed on professional responsibility grounds.  He may end up not only owing the IRS a sizable amount but also having to answer questions from the bar overseers.

Subject Areas/Tax Topics
Copy RID