For sports fans, or more specifically college basketball fans, this is championship week on ESPN. At the blog this is lien and levy week because Les and Steve are letting me write about collection cases this week. It is best if you never have to deal with collection cases but sometimes reading about them can make you feel better about your own life if nothing else.
Almost thirty years ago the Supreme Court ruled on the scope of the federal tax levy. The National Bank of Commerce case badly shocked the IRS because the rest of the world did not see levy the way the IRS did. One of my biggest shocks in moving from the Office of Chief Counsel, IRS to the low income taxpayer clinic at Villanova has been the lack of understanding of the National Bank of Commerce case by the IRS collection employees in Pennsylvania and New Jersey. Two levy cases recently came to my attention. One of them suggests to me that it is time for the Supreme Court to attempt to guide the IRS with the next generation levy decision even though it declined to do so here. The other case shows that some taxpayers may be as confused as the IRS employees in my state.
Before talking about the recent cases, the National Bank of Commerce case deserves brief mention because of its importance in setting out the scope of the federal tax levy. Mr. Roy Reeves of Pine Bluff, Arkansas owed federal taxes. He had received the notice of intent to levy required by IRC 6331. The case arose prior to the collection due process provisions.
Mr. Reeves had a bank account at the National Bank of Commerce, which he shared with his wife, Neva, and his mother, Ruby. At the outset it seems worth mentioning that having a joint bank account with your mother and having outstanding federal taxes seems a bad combination. Sure enough, the IRS sent a notice of levy to the bank seeking to collect $856.61 owed by Mr. Reeves, but not his wife or mother. At the time the bank received the notice, the bank account contained $321.66 in checking and $1,241.60 in savings. That may not seem like much but I am sure it was enough to spark some interesting family discussions. The bank refused to turn the money in the bank account over to the IRS because it had not proved that the money in the account belonged to Mr. Reeves and not to his wife or mother. I have wondered since if the officials at the bank were aware that the proceeds in the account really belonged to his mother.
The IRS sued the bank for failure to honor levy and for turnover of the funds. At the district court the bank won as the court held that the IRS had not proved that the money in the account belonged to the taxpayer and not to his wife or mother. The IRS was quite surprised and displeased because the test set forth by the district court would make it virtually impossible for the IRS to levy on joint bank accounts. It appealed to the 8th Circuit where it lost again. So, it went on to the U.S. Supreme Court, which reversed in a 5-4 decision. The Supreme Court held that levy was a provisional remedy requiring the bank to turn over the proceeds to the IRS pending a determination of the true ownership of the funds. The IRS, chastened by the decision, was greatly surprised and concerned where this might mean going forward. The Service supported a legislative change in 1986 setting up a 21 day period after a bank levy during which the account holders on a joint bank account would receive notice and have the opportunity to show that the money in the account belong to them and not to the taxpayer.
In non-bank levy cases, no notice goes to third parties that might have an interest in the property obtained by the IRS through the levy. These parties have nine months pursuant to IRC 6343 (b) to bring a wrongful levy action against the IRS if they cannot convince the IRS during that period that the levied property belongs to them rather than to the taxpayer. The Supreme Court recently denied a cert request in Austin and Laurato v. US filed by attorneys claiming that a portion of the levied proceeds belonged to them rather than to the taxpayer. The attorneys lost in the lower courts because the court determined sua sponte that they lacked standing and because of the timing of their request for return of proceeds. The case demonstrates the difficulty that a third party can face once a levy attaches to property since the third party will not always become aware of the levy immediately thereafter. The result in this case suggests yet another circumstance in which equitable tolling should apply to protect an injured party who missed a statutory deadline through no fault of their own. Alternatively, the case suggests the need for broader language in the Internal Revenue Code that would allow expansion of timeframes under carefully prescribed circumstances. See my prior blog post on this issue and recent law review article. Ultimately though, the case was decided on a standing issue that creates a seemingly impossible Catch 22 for a party such as the attorneys in this case.
Two law firms successfully brought a state court action seeking release of forfeited funds. One of the three parties they represented owed federal taxes. It is not clear whether they were aware of this fact and there does not seem much they could have done about it other than to take a pass on the case. The state court entered its order on August 8, 2010 ruling in favor of their clients requiring return of the funds. The IRS sent a levy to the state court on August 10, 2010. The case was appealed to the next level and ultimately affirmed. In June, 2011 the state sent the money to the IRS (through the local United States Attorney). It appears that the state did not honor the levy during the period of the appeal and that the IRS did not push the state to honor the levy during that period. These actions, which were logical, set up the tragic outcome for the lawyers because this essentially meant that the levy was a secret during this time since the IRS took no public action during the nine month period after the levy. Only the state, the IRS, and the specific taxpayer would have known of the existence of the levy unless the taxpayer decided to tell others. The taxpayer may not have said anything, and the record is silent on this issue. If he mentioned the levy to his attorneys, then they sat on their rights. If he did not mention it, as appears to be the case (and I am assuming here that he received the notice following the issuance of the levy), then there was absolutely no opportunity for the lawyers with a claim in the proceeds of the suit to know about the existence of the levy during the statutory period for making a wrongful levy claim.
I would have preferred if the opinions had explicitly stated when the lawyers, or the clients, became aware of the existence of the service of the levy or of the delivery of the funds to the IRS. In the absence of information, I assume that the lawyers did not become aware of the existence of the levy until after the nine-month period for bringing a wrongful levy expired.
The lawyers spent time complaining about the failure of the IRS to file a notice of federal tax lien against certain defendants. That was a wasted effort but the lien aspect of this levy case is worth noting. The lawyers arguably hold superpriority under IRC 6323(b)(8) that will allow them to defeat the federal tax lien whether filed or not. For that reason the filing of the notice of federal tax lien does not matter in their competition with the IRS. It appears their complaint concerns lack of notice of the IRS liability. I cannot tell from the opinions how filing the notice of federal tax lien would have alerted them to the existence of a levy. So, this seems like a red herring to me. An interesting issue with respect to their superpriority status is the fact that they had to sue the government for return of proceeds. The court does not focus on this issue because its decision focuses on standing and lateness in the request for return of levied proceeds, but the fact that the lawyers were suing the government could play into the outcome either directly or indirectly.
Section 6323(b)(8) in granting a priority to attorneys who create the fund contains an exception, which denies attorneys superpriority status if the suit creating the fund was filed against the United States. The specific language states, “except that this paragraph shall not apply to any judgment or amount in settlement of a claim or of a cause of action against the United States to the extent that the United States offsets such judgment or amount against any liability of the taxpayer to the United States.” It appears that the suit creating the fund was filed against the state only since it was filed in state court and not removed to federal court as the United States would automatically do if it were a party but the suit appears to seek recovery of forfeited proceeds. This type of case often implicates both state and federal authorities. The court turned over the proceeds to the United States Attorney’s office rather than the IRS. This action further suggests that a federal interest may have existed in the proceeds. If the United States was in some way involved in the forfeiture, a defense to the superpriority status of the attorneys may exist had the case gone that far. Even if the United States was not a party to the case involving the proceeds, the fact that the underlying suit was one against a governmental unit makes the case less appealing from a policy standpoint that those involving recovery of proceeds in other settings. Perhaps that influenced the decision of the judges in what seems like a very harsh result as I further describe below.
By the time the lawyers contact the IRS and bring a suit for wrongful levy the time frame set out in IRC 6343 had long since passed. The IRS moved to dismiss the suit. The district court did so not only because of the late filing of the wrongful levy suit but also because it determined the lawyers lacked standing. The 11th Circuit affirmed on the lack of standing issue and the Supreme Court denied cert. The IRS did not argue lack of standing. This argument really puts the attorneys in a tough spot when the wrongful levy timeframes already had them there. The district court determined that the lawyers did not have a lien in the proceeds because there were no proceeds to which their lien attached. Because no attorney’s lien existed, the lawyers lacked standing to bring a suit on their own since they had no interest in the property which was the subject of their suit. Taking this approach puts the attorneys in an impossible situation and I think the IRS realized the harshness of this argument in its failure to push for a decision on standing. This aspect of the decision seems to ignore the National Bank of Commerce decision that levy is a provision remedy. As a provisional remedy the levy did not take from the parties all of their interests in the property. I do not necessarily agree with the analysis of the court concerning the attorney’s lien because of the way the levy operates.
If the attorneys lack standing because the levy took proceeds, then only the parties, the clients they represented in the forfeiture proceeding, could bring the action. Here there were three parties, only one of whom had a tax liability. It appears possible that one of the other two parties here might have had an interest in the proceeds. The facts do not provide sufficient detail for me to parse their respective interests. So, a possible avenue to bypass the standing issue might have existed here assuming that the court was correct that the attorneys lacked standing. That will not always be the case. Suppose that the only party with wrongly forfeited property were the taxpayer and the IRS served a notice of levy prior to the time the court pays out the proceeds. The attorney, under this court’s theory of standing would never have the opportunity to bring a wrongful levy action because the attorney’s lien would never perfect. The taxpayer could not bring a wrongful levy action because the levy was not wrongful as to the taxpayer. So, a levy, timed as this one was, would always effectively foreclose the attorneys from recovering any of the proceeds resulting from their efforts even though the lien provisions place the attorneys ahead of the IRS. That cannot be the right result. So, I think this case deserves attention as a twisting of the standing provisions into a sword never meant to be.
Had these attorneys escaped the snare of the standing provisions, they would still have run headlong into the language of IRC 6343(b) requiring them to bring the wrongful levy suit within nine months of the levy. They did not do so and, based on the language of the district court would have lost the case for that reason even if they had standing. This is the issue that needs revisiting if the levy provisions are to apply fairly. The district court noted that Congress fixed IRC 6511 after the refunds provisions were shown to be too harsh and without an equitable extension. Even though the attorneys cited the recent case law suggesting that the scope of the Supreme Court’s decision regarding the lack of equitable tolling in the IRC 6511 circumstances does not in other areas of the code, the district court rejected this argument.
The court held here that the event starting the nine-month period was the service of the levy and not the payment of the levy. I agree with the court’s analysis on that issue but in circumstances like this where the third party does not learn of the levy, there must be a way for third parties to come to the IRS and the court when they actually learn of the taking of their property. Without such a relief valve the statute grants too much power to the IRS through the levy process. I have argued, see my law review article linked above, for the creation of a more general tolling provision than IRC 6511(h) that could apply broadly to situations in the Internal Revenue Code where taxpayers or third parties should receive more time. Others have argued for a broader application of the equitable tolling principles to tax cases. One or both of these options should exist. There is a case pending in the Ninth Circuit, Volpicelli, in which this argument exists in a case involving a minor. That case bears watching on this issue.
Tomorrow I will talk about the other levy case – one in which the taxpayer confused lien and levy.