What Is a Tax Lien and a Tax Levy?
With limited exceptions, most Americans are required to file tax returns with the Internal Revenue Service, and if you work or live in North Carolina, the North Carolina Department of Revenue. If you do not file and pay your taxes on time each year, you will incur penalties and interest on the amount of money you owe the tax entity. Initially, the tax entity will likely work with you to establish a payment plan for the taxes you owe. However, if you make no effort to contact and work with the taxing entity, do not be surprised if a lien is placed against all of the property you own or your wages are garnished through a tax levy.
First, let’s discuss the difference between a tax lien and a tax levy.
A tax lien is a security interest against your property. The IRS records a tax lien with the clerk of court in the county where you live. The lien is on all real and personal property you own including your house, car, bank accounts, clothing, household goods, etc. As a result, you will be unable to sell your home, car or other possessions without first obtaining a release from the IRS. In other words, the IRS will now allow you to sell your house and make a profit without being paid at least a portion of the debt that is owed to them.
A tax levy is a legal seizure of your property to satisfy a tax debt. With a tax levy, the IRS can seize and sell your house, car or other assets. They can also seize your bank accounts, retirement accounts, state tax refunds and other assets. They can also garnish wages.
By filing bankruptcy, you may be able to eliminate some of the tax debt and stop a wage garnishment while in an active bankruptcy. If you file a Chapter 7 bankruptcy to eliminate credit card, medical bill and other consumer debt, the wage garnishment will stop while you are in the bankruptcy but may resume once the bankruptcy is complete and if taxes are still owed. In certain situations, amounts owed on taxes that were due more than three year ago may be eliminated in a Chapter 7 bankruptcy. Unfortunately, if a tax lien is placed for the older tax years the tax debt may be eliminated BUT the lien is still in effect. As a result, you may still be required to pay the taxes if you sell your house or car in the future. As a result, you should contact the IRS and State of North Carolina and request a copy of any tax liens prior to filing bankruptcy.
You may want to consider a Chapter 13 bankruptcy to restructure your tax debt and pay the taxes over the course of three to five years. If you decide to file bankruptcy to restructure your tax debt, it is very important you determine whether there is a tax lien before the bankruptcy is filed. The existence of liens will impact the amount owed in the bankruptcy and will directly impact the monthly payments in a Chapter 13 repayment plan.
Tax liens and tax levies are the IRS’ and State’s way of ensuring taxes are paid by the majority of their citizens. If taxes are owed, it is best to work with the IRS and state proactively to avoid tax liens and levies. However, should you find yourself with a lien or levy, you may want to consider bankruptcy to restructure the payments.
Am I Required to File Tax Form 941 Before Filing Bankruptcy?
If you own a business or owned a business in the past and had employees, you were most likely required to file IRS Form 941 on a quarterly basis or IRS Form 944 on an annual basis. Form 941 is the quarterly report reflecting the taxes you withheld from your employees’ payroll checks as well as the employer portion owed the federal government for Social Security and Medicare taxes. In many cases, small employers pay their payroll tax liability at the same time they file the 941s. You can obtain an understanding of the IRS guidelines for filing Forms 941 and 944 on the IRS website, www.IRS.gov. You can type the term “Form 941” or “Form 944” in the search box to access the instructions.
This blog is not intended to provide instructions on when and how to complete the tax forms, rather the impact of not filing these returns may have on your bankruptcy. Depending on how the company is legally organized will impact your personal responsibility. If you are a sole proprietor, single-member LLC or 100% owner of the corporation, you are mostly likely personally responsible for the taxes. Even if the business entity is no longer doing business or has even been dissolved with the state, you are responsible for the payment of these taxes.
If you file Chapter 13 bankruptcy, you will need to have your tax returns including 941s or 944s filed with the Internal Revenue Service. At your meeting of creditors some bankruptcy districts require you to sign an affidavit stating you have filed your tax returns, inclusive of 941s or 944s, for the past four years. If you are unable to sign this affidavit, your case will not be recommended for approval or confirmation and will most likely be dismissed. If you sign the affidavit, not realizing it applies to 941s as well as your other tax returns, you will be met with a surprise. The Internal Revenue Service may file a motion to have your bankruptcy case dismissed. They may also estimate your tax liability and file a proof of claim in your bankruptcy for the amount they have estimated you owe. This claim will most likely be greater than your actual tax liability, sometimes much great. As a result, your bankruptcy may not appear viable if you cannot afford to make the Chapter 13 bankruptcy payments including the liability estimated for the payroll taxes owed.
As a result, it is extremely important to file the 941 reports as soon as you anticipate you will file bankruptcy. The taxes owed for the employee payroll taxes and reported on the 941s can be added into your monthly bankruptcy payments. As a result, you should be able to resolve any payroll tax liability to the IRS within your bankruptcy.
Does Your HELOC (Home Equity Line of Credit) Have You Locked?
A few years ago when your home had equity, you obtained a Home Equity Line of Credit or HELOC to consolidate your debt and payoff credit cards, medical bills, personal loans, etc. It seemed like a great idea because you could eliminate all of your revolving debt and make only two payments each month…your first mortgage and your HELOC payment. This approach also provided a way to lower your monthly payment, since the interest rate on the HELOC was less than what you were paying on credit cards. And we all thought at that time your home would appreciate in value!
That was circa 2008 and here you are in today. You are lucky if your home is worth what you owe on the first mortgage, there’s no way will it will cover the HELOC. So your HELOC has you locked! What are your options?
Do absolutely nothing – You can see what is the HELOC creditor is going to do.
The HELOC creditor could foreclose on your home but probably not, since they would receive little if anything from the sale. However, your credit will be negatively impacted because of late, slow or no payments on the HELOC. The impact on your credit will make it difficult for you to obtain other credit for another car or other needs.
The HELOC creditor may actually decide to foreclose on the property. They know they will receive little or nothing from the foreclosure, but they can write-off the bad loan from their books making the company more financially sound.
The HELOC creditor may write-off the debt on the loan and send a 1099C to you and the Internal Revenue Service. It appears that this voluntary non-payment is excluded from the Mortgage Forgiveness Debt Relief Act of 2007. At this point you will be responsible for taxes on the forgiven debt. You should also remember that the creditor writing off the debt does not eliminate the lien by deed of trust on your home. If you try to sell the house in the future, you must still deal with the HELOC creditor before you can convey the deed to another person.
Sell the home – You would sell the home, but you can’t get enough to pay the first mortgage and the HELOC.
You’ve talked to the HELOC creditor about a short-sale, and they want you to come to the closing table with at least some money to pay them.
Since you don’t have the money at closing, they have agreed to release the lien for you to sell the house, but they want you to sign an unsecured loan on at least a portion of the debt you owe them. That is an option, but do you really want to pay for a house you do not own? If you default on this unsecured loan in the future, they can actually sue you for the unpaid debt.
Chapter 13 bankruptcy – You can file a Chapter 13 bankruptcy to resolve the HELOC and any other outstanding debt.
The key is that your first mortgage must be greater than the value of your home.
You will be required to file a lawsuit or adversary proceeding in bankruptcy against the HELOC creditor.
You must complete your bankruptcy and receive a discharge.
This approach will allow you to retain your home and make it a more valuable asset, since you will no longer be saddled with the HELOC.
We you speak with your accountant or a bankruptcy attorney to determine what option is best for you.
