By Tony Mankus, Esq.
A levy on third parties is, in effect, the seizure by the IRS of the taxpayer's property, or rights to property, in possession or control of third parties. Examples include the seizure of the taxpayer's bank accounts held by his bank, earned wages being retained by his employer, accounts receivables in possession of his clients, stocks in possession of his stock broker, etc. The levy on third parties is, by far, the most common form of collection enforcement by the IRS. Two of the most common forms of levies on third parties are levies on bank accounts and levies on wages. First, as a matter of practical reality, these places are usually where many taxpayers have their money. Second, IRS knows which specific bank accounts and employers of the taxpayers to levy on. IRS gets this information from the taxpayer's own tax returns, or other sources. The income tax return has a W-2 form attached to it from the taxpayer's employer. If the taxpayer is an independent contractor, his client sends (or is supposed to send) a form 1099 to the IRS. If any tax is due, the payment is often made with a check drawn on the taxpayer's bank account. IRS records this information in its collection data base. When and if it needs to take enforced collection action against the taxpayer, the IRS simply retrieves it from its data base.
A levy on third parties is executed by service of form 668-A, Notice of Levy, or form 668-W, Notice of Levy on Wages, Salary and Other Income. Form 668-A is a one-time levy that attaches to all of the funds or property of the taxpayer held by the third party at the time that the 668-A is served. Form 668-W, on the other hand, is a continuous levy on part (albeit a large part) of the funds held and/or to be held by a third party, usually an employer, It remains in force and effect until IRS serves the third party with a Release of Levy, form 668-D.
WHAT IS IRS' AUTHORITY FOR THE LEVY?
The authority for the levy on third parties comes generally from IRC §6331, the same as the authority for seizure. The Code does not distinguish clearly between a seizure of assets from the taxpayer and the levy of his assets on third parties. Both of them are referred to as “levy”. Therefore the 10/30 day notice requirements of IRC §6331(d) also apply to levies on third parties. With regard to the property that is subject to the notice of levy, form 668-A, IRC §6331(b) states, in relevant part, that “a levy shall extend only to property possessed and obligations existing at the time thereof.” (Emphasis added) That means that the third party is obligated to send to the IRS only the property (funds) it holds on behalf of or owes to the taxpayer at the time of the service of form 668-A. However, if the IRS does not collect all the money it is owed with the first levy, it can continue to levy repeatedly until it does. IRC §6331(c) states the following:
(c)SUCCESSIVE SEIZURES.-Whenever any property or right to property upon which levy has been made by virtue of subsection (a) is not sufficient to satisfy the claim of the United States for which levy is made, the Secretary may, thereafter, and as often as may be necessary, proceed to levy in like manner upon any other property liable to levy of the person against whom such claim exists, until the amount due from him, together with all expenses, is fully paid.
[This section does not, as some revenue officers contend, authorize the IRS to seize property, release it to the taxpayer upon its redemption for value, and then seize it again. IRC §6331(c) states that IRS may seize any other property repeatedly. (Emphasis added)]
The authority for form 668-W, the continuous levy on wages, salary and other income, comes from IRC §6331(e) which states that, “The effect of a levy on salary or wages payable to or received by a taxpayer shall be continuous from the date such levy is first made until such levy is released under section 6343.” (IRC §6343 will be discussed later in this chapter)
IRC §6334(d) exempts a certain amount from the continuous levy. The amount exempt from each wage or salary payment is the personal exemption amount allowed for the taxpayer under IRC §151(d), divided by the number of paychecks in a year. Thus, if the taxpayer is married and has two children whom he claims on a joint tax return (and the wife does not work), he would be entitled to three exemptions. In 1995, each exemption was worth $2,500.00. (It is adjusted annually for inflation) Therefore he would be entitled to an exemption $144.23 if he gets paid weekly and the levy was served on the employer in 1995. If the wife works and claims one of the children, the husband would only be entitled to two personal exemptions and the amount exempt from an IRS levy would be $96.15 weekly. If he and his wife are divorced and he is paying child support under a court order, the full amount of the child support payment would be exempt from IRS' levy under IRC §6334(a)(8), but he would not be entitled to claim additional exemptions for the children under section 6334(d). He would, however, be entitled to one personal exemption for himself, or $48.07 weekly. [See Treas. Reg. §301.6334 and IRM §5363.3]
If the husband has more than one job, an IRS levy on just one job would not allow the taxpayer any exemtions if the amount he earns on the other job is at least as much as would be allowed under section 6334. If he earns less on the second job than the amount of the exemption allowed, the exemption would pro-rated to include only the difference between what he earns on the second job and the amount of the allowed exemption.
If the wife also works and it is a joint tax liability, the IRS may levy on her wages as well. The maximum amount of the exemtion between the two of them will only be $144.23 ($7,500 ¸ 52). It should be noted, however, that IRS generally does not levy on the wages of both spouses, except in the most eggregious cases. [See IRM §5366.3(5)]
Once IRS form 668-W is served on the employer, the taxpayer has three days to complete part 3 of the form, statement of exemtions and filing status. He then gives it to his employer who withholds accordingly. If he fails or refuses to fill it out, the employer must withhold as if the taxpayer were a married individual filing a separate return. That would entitle him to a personal exemption of $1,250.00 per year in 1995, or $24.03 per week. [See Treas Reg. §301.6334-3]
If the levy remains in effect from one calander year to another, the employer will continue to withhold the same amount, even though the exemption amount may have increased in the second year due to indexing. However, the taxpayer may submit a new “verified statement” to the employer to change the amount of the exemption. [See Treas. Reg. §§301.6334-3(e) and 301.6334-4] The rationale of the IRS is that forcing the taxpayer rather than the employer to make the adjustment is less burdensome on the employer who is an innocent third party in this matter.
WHAT PROPERTY DOES THE NOTICE OF LEVY ATTACH TO?
Other than the property exempt under IRC §6334, the notice of levy attaches to all property or rights to property of the taxpayer in the possession of third parties. IRS can serve notices of levy on any third parties which hold virtually any property, or rights to property, on behalf of the taxpayer to which IRS' lien attaches. Common examples are: levies on accounts receivables of an in-business taxpayer, levies on tenants for rents due a taxpayer/landlord, levies on attorneys who represent taxpayers in a suit which stands a chance to recover money damages, levies on cash loan value of whole life insurance policies owned by the taxpayer, levies on the death benefits of a life insurance policy if the taxpayer is the beneficiary, levies on the annuity payments due the taxpayer, etc.
At times, questions may arise as to whether the taxpayer is the true owner of the property and, if so, the extent of his rights in the property. For example, if a taxpayer sets up a bank account in trust for his child, the question may arise as to whether the taxpayer or the child is the true owner of the property. If the taxpayer is the true owner, the IRS may serve a notice of levy on the bank and seize the funds in the account. If, on the other hand, the child is the true owner, the IRS' levy does not attach to the funds. Another example is where the taxpayer has a bank account jointly with his spouse. The question may arise as to whether the IRS may seize the funds in the account, or seize only half of them – or perhaps not at all, if the funds were all deposited by the spouse. The issue of title to property and the scope of the IRS' levy in general will be dealt with more extensively in Chapter 4, “The Federal Tax Lien.” The issue of whether and to what extent a levy attaches to property is essentially an issue of whether the federal tax lien attaches to particular property.
IS ANY PROPERTY EXEMPT FROM LEVY ON THIRD PARTIES?
The only property or rights to property that is exempt from levy on third parties is that which has been enumerated in §6334 of the IRC. Five of the thirteen exemptions were discussed in Chapter One of this book. They dealt with property that is commonly in the possession of the taxpayer. The other eight, listed below, are usually in the posession of third parties. The relevant sections of IRC §6334 state the following:
(a)ENUMERATION.-There shall be exempt from levy-
. . . .
(4) UNEMPLOYMENT BENEFITS.-Any amount payable to an individual with respect to his unemployment (including any portion thereof payable with respect to dependents) under an unemployment compensation law of the United States, of any State, or of the District of Columbia or of the Commonwealth of Puerto Rico.
. . . .
(6) CERTAIN ANNUITY AND PENSION PAYMENTS.-Annuity or pension payments under the Railroad Retirement Act, benefits under the Railroad Unemployment Insurance Act, special pension payments received by a person whose name has been entered on the Army, Navy, Air Force and Cost Guard Medal of Honor roll (38 U.S.C. 562), and annuities based on retired or retainer pay under chapter 73 of title 10 of the United States Code.
(7) WORKMEN'S COMPENSATION.-Any amount payable to an individual as workmen's compensation (including any portion thereof payable with respect to dependents) under a workmen's compensation law of the United States, any State,the District of Columbia, or the Commonwealth of Puerto Rico.
(8) JUDGMENT FOR SUPPORT OF MINOR CHILDREN.-If the taxpayer is required by judgment of a court of competent jurisdiction, entered prior to the date of levy, to contribute to the support of his minor children, so much of his salary, wages, or other income as is necessary to comply with such judgment.
(9) MINIMUM EXEMPTION FOR WAGES, SALARY, AND OTHER INCOME.-Any amount payable to or received by an individual as wages or salary for personal services, or as income derived from other sources, during any period, to the extent that the total of such amountspayable to or received by him during such period does not exceed the applicable exempt amount determined under subsection (d).
(10) CERTAIN SERVICE-CONNECTED DISABILITY PAYMENTS.-Any amount payable to an individual as a service-connected (within the meaning of section 101(16) of title 38, United States Code) disability benefit under-
(A) subchapter II, III, IV, V, or VI of chapter 11 of such title 38, or
(B) chapter 13, 21, 23, 31, 32, 34, 35, 37, or 39 of such title 38.
(11) CERTAIN PUBLIC ASSITANCE PAYMENTS.-Any amount payable to an individual as a recipient of public assisstance under-
(A) title IV (relating to aid to families with dependent children) or title XVI (relating to supplemental security income for the aged, blind, and disabled) of the Social Security Act, or (b) State or local government public assistance or public welfare programs for which eligibility is determined by needs or income test.
(12) ASSISTANCE UNDER JOB TRAINING PARTNERSHIP ACT.-Any amount payable to a participant under the Job Training Partnership Act (29 U.S.C. 1501 et seq.) from funds appropriated pursuant to such act.
Contrary to popular belief, income from most pensions, including military pension and social security benefits, are not exempt from levy. Neither are Medicare payments, nor dividends from Veteran Administration insurance policies. However, IRS' policy is that these pensions, as well as death benefits and other forms of medical or humanitarian disbursements be levied upon judiciously and only in the most eggregious cases of non-compliance. [See IRM §§536(14) through 536(17)] Pension payments under the Railroad Retirement Act and those designated for Medal of Honor winners are exempt under IRC §6334(a)(6), as are annuities under the Retired Serviceman's Family Protection Plan and the Survivor Benefit Plan.
The exemptions are few and very specific. As if to emphasize that point, Congress passed §6334(c) which states the following:
(c) NO OTHER PROPERTY EXEMPT.-Notwithstanding any other law of the United States (including section 207 of the Social Security Act), no property or rights to property shall be exempt from levy other than the property specifically made exempt by subsection (a).
Sometimes there is confusion and misunderstanding, especially in a bankruptcy setting, between the exemptions granted under IRC §6334 and those granted under §522 and other sections of the Bankruptcy Code. The exemptions under the Bankruptcy Code are broader and include, among other things, a homestead exemption and certain private pension plans. However, IRC §6334(c) makes clear, and IRS takes the position that, it can collect tax liabilities from property that is exempt under the Bankruptcy Code that is not exempt under IRC §6334 – even if the taxes are dischargeable in bankruptcy. (More on this in Chapter )
It should be noted, however, that while pension or other retirement income is reachable by IRS' levy, the corpus may not be, depending on how the pension is structured. Generally, if the beneficiary cannot take out the corpus in a lump sum, IRS' levy cannot reach it. Some pensions or profit sharing plans provide for a limited access to the corpus in cases of certain enumerated emergencies, such as extreme medical expenses, bills for the purchase or repair of a primary residence, funeral expenses, etc. This makes the situation more ambiguous. Arguably, the corpus is reachable only through a voluntary application of the beneficiary and the IRS cannot administratively compell the beneficiary to apply for a withdrawal – at least not without a court order. Therefore, the corpus should not be reachable by IRS' levy. But this is a gray area of the law that has not been fully explored by the courts. And, since IRS is not aggresively pursuing this avenue, it is likely that the area will remain gray for the forseeable future. [See IRM §536(14).5(4)]
It is arguable that IRS' levy attaches to an IRA account. An IRA account can be liquidated unconditionally by the owner at any time, provided that he is prepared to pay the taxes on the accrued interest, plus the 10% early withdrawal penalty. When IRS does levy on an IRA account, the insult to injury is that, in paying off an old tax liability, the taxpayer incurs a new one.
Of course, IRS' lien attaches to the corpus of the pension or profit sharing plan, but that is a passive encumbrance, somewhat analogous to a mortgage on a house. As long as IRS makes no effort to judicially foreclose on its lien the pension should remain intact. (More on this issue in Chapter 4.)
WHAT IS THE OBLIGATION OF THE THIRD PARTY WHO IS SERVED WITH A LEVY?
IRC §6332(a) requires the third party to surrender any property of the taxpayer subject to the levy. Generally the property must be surrendered to the IRS immediately, or within a reasonable time. The IRC makes exceptions for banks and insurance companies, however. §6332(c) allows banks 21 days to honor the levy; §6332(b) gives the insurance companies 90 days to comply. The purpose of these statutory delays is not clear. Presumably they give time to the banks and insurance companies to process the paperwork, allow checks on deposit with a bank to clear and, perhaps, provide the taxpayer with an opportunity to work something out with the IRS in the meantime.
Once the third party honors the levy by surrendering the property to the IRS, he is, pursuant to IRC §6332(e), dicharged from any further obligation to the IRS, to the taxpayer or to any other person with respect to the surrender of such property. That means that, theoretically, he cannot be held liable by the taxpayer, or some other party who claims an interest in the property, for surrendering it to the IRS.
If the third party refuses to honor the levy, the IRS usually serves a Final Demand, Form 668-C. If the third party still refuses to turn over the property, the IRS may turn the matter over to the U.S. Justice Department for prosecution under IRC §6332(a). If convicted, the third party may be held personally liable for the value of any property not surrendered to the IRS. IRC §6332(d)(1) imposes a personal liability on any person who fails or refuses to honor the levy. The personal liability is equal to the value of the property subject to the levy, plus the costs incurred to enforce such levy and the statutory interest from the date of the levy. §6332(d)(2) imposes an additional penalty of 50% of the amount subject to the levy on the person who refused to honor the levy. §6332(f) defines the term “person” to include an officer or an employee of a corporation or a member or employee of a partnership who is under a duty to honor the levy.
In reality, few cases are prosecuted by the Justice Department. In part, this is due to the fact that the Justice Department does not have the resources to pursue all the failure to honor levy cases. Another reason is that the third parties may, arguably, have valid defenses. For example, if the third party is an account receivable of the taxpayer, it may claim that the product it purchased from the taxpayer was defective or the work performed by the taxpayer was inadequate or incomplete. Therefore the Justice Department would have to get involved into the contractual relationship between the parties to determine whether its levy against the third party had to be honored. This would be time consuming and, perhaps, not cost effective, especially if the funds at issue are relatively small, as is the case in most levies on third parties.
These realities have resulted in gamesmanship by some third parties. For example, some accounts receivables refuse to pay the IRS – or the taxpayer. They sense that the taxpayer, who has IRS tax problems, is too weak to sue them and suspect that the government will not pursue them either. So they just keep the money and end up with a windfall. It's a dog-eat-dog world out there and some dogs are bigger, smarter or meaner than others.
The Justice Department should consider farming out some of the more meritorious failure to honor suits to private attorneys who would pursue the third parties in court for a percentage of the amount collected. There are many hungry young attorneys out there who would be willing to do that. The results, while not pretty, would result in additional funds in the coffers of the U.S. Treasury. Privatization of some aspects of the tax collection process should be explored.
Of course, the one sure way to avoid a suit by the Justice Department is to get a release of the levy from IRS. IRC §6343 grants authority to the IRS to release the levy. (It's ironic to me that IRS would need such authority. I could see IRS needing the authority to levy, but not authority to release it. If it has the authority to do something, it seems implicit that they would have the authority not to do it, or to undo it once they've done it. It's hard for me to imagine a scenario where a taxpayer, or anybody else, for that matter, would sue the IRS for releasing a levy on grounds that it had no authority to do so. I suppose, from IRS' perspective, it's worried that, if it released levies without explicit authority, Congress might accuse it of not fulfilling its mandate. More likely, it's a commentary on IRS' paranoia that it would feel that it even needs such authority.)
In 1989, however, Congress modified this section as part of the so-called “Taxpayer Bill of Right” legislation, making it mandatory for the IRS to release the levy under certain conditions. Where before the statute simply made it lawful for the IRS to release a levy, the new statutes directs the IRS to release it, such as when the collection statute expires, when the taxpayer has entered into a payment agreement, or when the levy is creating an economic hardship. However, there is sufficient waffling in the language and in IRS' implementation of the statute so that IRS still uses a lot of discression about when and if the levy will be released. For example, economic hardship is determined by the IRS and, as a practical matter, IRS rarely releases a levy on those grounds.
I had a case that I thought was a hardship case. It involved a taxpayer who worked two jobs, one as a deliverer of newspapers and the other one as a photographer for a real estate listing service. He was treated as an independent contractor by both of the companies he worked for so that there was no withholding. Every year he ran up tax liabilities due to a failure to make estimated tax payments. IRS served a continuous levy on one of his jobs and kept it on there for over a year. He could not pay his gas bill and the gas company shut it off. When he came to my office he had not taken a bath for weeks, perhaps months, and the smell remained long after he left. His shoes and clothing were worn out and delapidated. He did not have enough money to eat regularly so he ate dog and cat food. He kept three or four cats and several dogs – for companionship, I suppose. (He was not married) Also the roof leaked so that there were pots and pans on the floor and constant dripping when it rained. It was cold and damp there in the winter months and he had no health insurance.
On top of the levy, the revenue officer seized his home and was preparing to sell it. I prepared a form 911 (to be discussed later) and requested a release of levy on grouds of hardship. The case was refered to the regional office. The regional commissioner wrote me a letter stating that “we are pleased to provide the relief you requested.” He went on to state that the sale of the home would be stayed for 10 days during which time the taxpayer is to work out some sort of “alternative arrangement to satisfy the liabilities.” The only alternative arrangement available with the IRS that was feasible for the taxpayer was a payment agreement, but since the taxpayer had previously defaulted on one, the revenue officer did not want to grant him another one. (The taxpayer did not want to file Chapter 13 bankruptcy, which would have stopped the IRS. Even if he had wanted to, it's not clear that he could have proposed a feasible plan of reorganization. His disposable income was probably too low to pay the creditors the liquidation equity in his home.)
So the revenue officer held the sale of the home after the 10 day period expired. No one bid in because the minimum bid he set was too high. Eventually the revenue officer released the home and the levy on the employer, but not before he put the taxpayer through the wringer.
The IRS releases a levy on third parties by issuing form 668-D. (The release of levy on property seized from the taxpayer is form 668-E) Form 668-D has provisions for a partial release of levy. The IRS can decide to levy a smaller amount than the one they are entitled to. [See IRM §536(13).2]
© Tony Mankus, Mankus & Marchan, Ltd.