The IRS Levy Power (4/4/14)

I have recently had email discussions with Leslie Book and Keith Fogg, authors of the Procedurally Taxing Blog, here, regarding some aspects of the levy power, particularly levy on right to receive future payments.  As a result of that discussion, I have been better educated about the levy and have made some revisions to my text.  I thank Les and Keith for their contributions to my education.

I cut and paste below the section revised and note in red-line the revised portions.  I do not include the footnotes.

VIII. Administrative Levy and Judicial Enforcement. 

A. Administrative Levy and Sale. 

  1. General Rules of Levies.

Levy includes the power to seize and sell the taxpayer's property (including interests in property and personal service compensation, such as wages).  § 6331(b) (levy); § 6335 (rules for sale).  A levy – often referred to as a seizure – is a “summary, non-judicial process, a method of self- help authorized by statute which provides the Commissioner with a prompt and convenient method for satisfying delinquent tax claims.”  The Supreme Court has said: “The IRS need never go into court to assess and collect the amount owed; it is empowered to collect the tax by non-judicial means . . . without having to prove to a court the validity of the underlying tax liability.”   

The IRS levy can involve a direct seizure of the property but more often the levy is accomplished by notice of levy to the taxpayer or third parties requiring them to turn over the taxpayer’s property in their possession.  Thus, the IRS can serve notice of levy a bank to obtain the funds in the taxpayer's bank account or can levy a brokerage firm to obtain the investments in the taxpayer's bank account.  The IRS can also levy persons or entities who appear to be third parties, asserting that they are nominees or alter egos of the taxpayer.  (I cover nominee and alter ego liability later in the text.) 

As noted, the IRS often levies on third parties by issuing “notice of levy,” which, like the IRS summons studied earlier, is simply a form that the IRS collection officer fills out and delivers to the person upon whom levy is made.  Once the person is given the notice of levy, the United States has the right to the property levied.  As to the property, the person receiving the notice of levy holds the property in a form of custodial relationship to the United States. 

The person receiving the notice of levy takes substantial risks in not responding to the levy.  The person receiving a levy is liable for the value of the property levied upon and not turned over, plus a penalty of 50%.  § 6332(d).  The defenses available to the party levied to avoid the levy are quite limited.  Nonpossession of the taxpayer’s property is a defense.  However, the “validity of the levy and competing claims to the ownership of the funds are not valid reasons for refusing to honor a levy.” The person can be relieved from the 50% penalty for reasonable cause, which would be something beyond the person's control that prevents compliance.  The IRM advises the agent to be judicious in assertion of the penalty, and courts also may give a liberal application of reasonable cause where the taxpayer is already penalize by liability for the value of the property that he may have turned over to the taxpayer. In order to protect the levied party, the levied party responding to the levy by delivering the property to the IRS is “discharged from any obligation or liability to the delinquent taxpayer and any other person with respect to such property or rights to property arising from such surrender or payment.”  § 6332(e).  As a result, practically speaking, the levied party “has two, and only two, possible defenses for failure to comply with the demand: that it is not in possession of property of the taxpayer, or that the property is subject to a prior judicial attachment or execution.” 

What if a third party upon whom a levy is served claims to have an interest in or even ownership of the property or, alternatively, is aware that some other third party (other than the taxpayer) claims ownership of the property?  In the nontax world when there are two or more claimants on property, the possessor can interplead the property and let the claimants duke it out.  Interpleader is generally not an option to an IRS levy since § 6332(d) offers no relief for the penalty if the person levied interpleads the property.  In appropriate cases, the IRS will consider interpleader to be reasonable cause.  The reason interpleader may not avoid the penalty is the person levied upon is otherwise protected from liability to the taxpayer or third parties.  § 6332(e).  And, if the possessor who is levied also claims an ownership interest in the property, the possessor has a post-levy remedy via the wrongful levy suit that we shall discuss later. 

Normally an administrative levy on a third party reaches only the property of the taxpayer that the third party has on the date that the levy is made. For example, if the IRS levies a bank account, the bank must turn over the balance on the date of the levy.  If the taxpayer makes a deposit the next day, that amount of the new deposit need not be turned over by the bank.  Notwithstanding this general moment in time nature of a levy, a levy on recurring “salary or wages” and personal service compensation (often called garnishments in other contexts) are continuing from the date of levy until the levy is released. § 6331(e).  The Regulations define the statutory terms “salary or wages” very broadly to include “compensation for services paid in the form of fees, commissions, bonuses, and similar items.” The courts have blessed this broader reading, sustaining, for example, continuous levies on payments to (i) independent contractors, such as commissioned agents, (ii) partners as distributions, and (iii) members of an LLC as distributions.   Similar continuing levies, subject to restrictions in amount,  may be made with respect to some other federal payments.  The IRS can, of course, make successive levies where the original levy is not a continuing levy and thereby reach the property of the taxpayer as of each levy.  § 6331(c). 

There is an important nuance to the normal levy (not the continuing levy authorized by statute) in the case of future payments.  The normal levy reaches an existing right to future payments if the right is fixed and determinable on the date of the levy.  For example, if the taxpayer has the current right to a payment or payments in the future, the IRS can serve the levy on the payor who then must pay to the IRS as the future payment(s) fall due.  Say I have a right to receive $10,000 a year from now and the payor does not have to pay until that year period is up.  The IRS can levy today on the payor and, when the payment is due, the payor would have to pay the IRS pursuant to the levy.  The key requirement is that the rights are fixed and determinable on the date of the levy; if so, that right to future payments is property within the scope of the levy on the date of the levy.  Perhaps the classic example is a simple note, consistent with the example.  Another common example is a vested right in a pension or retirement plan (including Social Security) that is fixed and determinable on the date of the levy, albeit paid in the future and over time.  The IRS levies on the payor and the payor pays the retirement benefits to the IRS as they are otherwise payable under the plan. For certain types of retirement payments, the IRM has discretionary rules advising collection officers to use them in moderation and as a last resort.  A related consequence of levy on such fixed and determinable rights to future payments being effective as of the date of the levy rather than the later payment is that the levy remains effective as to those future payments even after the collection statute of limitations expires. 

Unlike the other enforced collection tool – the judicial suit for foreclosure – the levy is a provisional remedy.  It does not determine that the Government is entitled to the property levied vis-a-vis other claimants or even the taxpayer. It simply seizes the property and prevents the property from dissipation while parties, including the taxpayer, claiming an interest in the property have the opportunity to pursue remedies available to them to determine the priority of their claims as against the Government. The levy power is “an essential part of our self-assessment tax system,” for it "enhances voluntary compliance in the collection of taxes.” "Among the advantages of administrative levy is that it is quick and relatively inexpensive, and it has easily cleared constitutional challenges.

I do note that Keith has an excellent discussion of one of the subjects covered -- the liability on the levied nontaxpayer for the property and a 50% penalty. See Keith Fogg, Imposition of an Extra 50% Penalty for Failing to Honor Levy – Is the Levy Form Inadequately Descriptive (Procedurally Taxing Blog 3/12/14)., here.