Federal tax liens are among the IRS’s most powerful tools to secure payment of delinquent taxes. These liens attach broadly to the taxpayer’s property and rights to property, creating significant legal and financial implications.

This article examines the various types of property affected by tax liens.

Types of Property Affected by Tax Liens

Under Internal Revenue Code (hereinafter “IRC”) §6321, a federal tax lien attaches to “all property and rights to property” belonging to the taxpayer. This expansive scope extends to both tangible and intangible assets and even includes future and contingent interests.

Federal law determines whether a taxpayer’s interest in property qualifies as “property” or “rights to property,” to which a tax lien can attach, while state law governs the nature and extent of the taxpayer’s interest in that property. For example, state law defines whether a taxpayer has an interest in a specific asset, such as a joint tenancy or a community property arrangement, but it is federal law that decides whether that interest is sufficient to allow the lien to attach under IRC §6321. This principle was clarified in United States v. Craft, 535 U.S. 274 (2002).

Real Property and Tax Liens

Real property, including land, buildings, and other immovable assets, is a primary target for tax liens. Real estate is often one of the first assets considered when a tax lien is recorded. Although liens attach regardless of ownership structure—whether the property is held as joint tenancy, tenancy in common, tenancy by the entirety, or under community property laws—the tax lien’s impact on real property varies significantly depending on the nature of the ownership structure.

Joint Tenancy

In joint tenancy, two or more individuals hold equal and undivided property interests with a survivorship right. A tax lien attaches to the taxpayer’s interest in the property, and the IRS may enforce the lien by foreclosing and selling the taxpayer’s share under IRC §7403. The purchaser acquires the taxpayer’s interest, often converting the joint tenancy into a tenancy in common (United States v. Rodgers, 461 U.S. 677 (1983)). Suppose the taxpayer dies before the lien is enforced. In that case, the lien typically ceases to attach due to the termination of the taxpayer’s interest upon death, although it’s important to verify state law treatment.

Tenancy in Common

A tenancy in common differs from a joint tenancy in that there is no right of survivorship, and co-owners can hold unequal shares of the property. A tax lien attaches only to the taxpayer’s fractional interest in the property, which the IRS may sell or foreclose upon. Unlike joint tenancy, the lien survives the taxpayer’s death, encumbering their interest in the property passing to their heirs or legatees.

Tenancy by the Entirety

Reserved exclusively for married couples in states that recognize this ownership structure, tenancy by the entirety includes a right of survivorship. It prohibits transfers of interest without the other spouse’s consent. Despite these restrictions, the Supreme Court ruled in United States v. Craft, 535 U.S. 274 (2002) that a tax lien can attach to the tenancy by the entirety when only one spouse had a federal tax liability. However, enforcement can be complex, as the non-liable spouse retains protection against the loss of their share of the property.

The official position of the IRS considering this Supreme Court decision is as follows:

• Federal tax liens attach to all property and rights to the taxpayer’s property, including interests in tenancy by the entirety.
• The decision in Craft confirms longstanding law and does not change other rules about federal tax liens or collections.
• The IRS may choose not to apply Craft to certain pre-existing property interests if third parties reasonably relied on state laws preventing lien attachment.
• Selling or seizing entireties property for tax debts is administratively challenging and often avoided in favor of levying on cash or equivalents.
• Foreclosure on entireties property is considered on a case-by-case basis to avoid harm to non-liable spouses.
• A taxpayer’s interest in entireties property is typically valued as one-half of the property.
• If entireties property is transferred without discharging the lien, the lien attaches to the transferring taxpayer’s share.

Community Property

In community property states, property acquired during marriage is generally considered jointly owned by both spouses. A federal tax lien attaches to the community property share of the liable spouse. This can have significant implications, even if the non-liable spouse has no personal tax debt. Exceptions exist for state-specific domestic partnerships and similar arrangements. Community property law presents unique challenges concerning the force and effect of the federal tax lien.

The community property states are Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin. Puerto Rico is also a community property jurisdiction. Spouses in Alaska may elect to have statutory community property rules apply to some or all their property.

Cash and Financial Assets

A tax lien affects more than physical property. It also extends to cash and other financial assets, impacting bank accounts, wages, and rights to cash. A federal tax lien can attach to funds in a joint bank account if the taxpayer has an unqualified right to withdraw them. This allows the IRS to seize taxpayers’ right to funds without the other account holder’s consent.

Similarly, a tax lien can impact wages once paid, even if state laws typically protect wages from other creditors. Under federal law, the IRS lien trumps most state wage protections.

Additionally, negotiable instruments and other rights to cash are susceptible to lien enforcement, provided the taxpayer retains control or legal rights to these assets.

Business Assets and Tax Liens

Tax liens can also attach to various business assets, including tangible property, partnership interests, and intangible assets like intellectual property. Unlike real estate, where ownership is typically more clear-cut, business interests are more complex and may require additional research, analysis, and legal guidance.

• Partnership Interests: Determining a partner-taxpayer’s interest in a partnership or joint venture for federal tax lien purposes can be challenging. Generally, a partner’s interest is limited to their share of the partnership’s equity, which is the excess of assets over liabilities. While the lien attaches to the individual partner’s interest, it does not extend to the partnership’s property as a whole. However, frequent and regular partnership “draws,” which are advances on annual profits, are considered the partner’s income and can be subject to the lien, similar to wages or salary.

In the case of a partnership tax liability, a federal tax lien may attach to a general partner’s property. This is because, under state law, partners are derivatively liable for such obligations. After assessing the partnership’s tax liability and issuing notice and demand, the IRS may enforce liens against the partnership’s and the partner’s property.

• Limited Liability Companies (LLCs): Federal tax liens can impact LLCs differently depending on their structure and tax classification. An LLC is a state-law entity that may be structured as a multi-member LLC or a single-member LLC. For federal tax purposes, multi-member LLCs are generally treated as partnerships unless the members elect to have the LLC taxed as a corporation. If the LLC’s members are not personally liable for the LLC’s debts under state law, the IRS cannot collect the LLC’s tax liabilities from its members.

By default, single-member LLCs are considered disregarded entities for federal tax purposes unless they elect to be taxed as associations. This means the single-member owner is treated as the taxpayer for income tax purposes and is liable for excise and employment taxes. These distinctions underscore the need for LLC owners to understand federal and state rules when managing tax obligations and lien risks.

• Intangible Property: Intellectual property such as trademarks, copyrights, and patents are equally subject to liens. These types of property, although intangible, hold significant value and can be encumbered by federal tax liens, just like tangible assets. Additionally, a tax lien can attach to a taxpayer’s chose in action—a personal right to recover property or damages through legal action. For instance, the right to sue for a breach of contract or a tort claim represents an intangible asset subject to lien enforcement.

Special Considerations for Certain Property Types

Not all property is affected by tax liens. Several categories of assets have unique considerations or exemptions under federal law:

• Exempt Property: State laws that exempt certain property from creditors do not limit the reach of a federal tax lien. Even if state law protects a debtor’s property from being claimed by other creditors, the IRS can still attach a lien to that property.
• Terminable Interests: Liens attach to life estates and other terminable interests for their duration. Once the taxpayer’s interest terminates, the lien no longer applies.
• Property Held in Custodia Legis: When a taxpayer’s property is under the jurisdiction and control of a state or federal court, it is considered in custodia legis, meaning it is in the custody of the law. In most cases, the courts recognize that a federal tax lien may attach to such property. However, there are exceptions. If no tax assessment has been made before the property is transferred to a state court receiver, and the taxpayer no longer holds any rights or interests in the property, the lien will not attach. State laws determine whether the taxpayer’s interest is fully divested upon such a transfer.

Even if a lien cannot attach to property in custodia legis, the IRS can still collect the tax liability within the judicial proceeding managing the property. Additionally, the lien will attach to any property returned to the taxpayer once the court proceedings conclude, treating it as after-acquired property.

Conversely, in bankruptcy cases, a taxpayer discharged from liability may prevent the lien from attaching to after-acquired property.

• Property Held by Third Parties: The federal tax lien extends and attaches to property held by a third party as the alter ego or nominee of the taxpayer. “Alter egos” suggest legally distinct entities which are so intertwined that their affairs (and assets) are not readily separable, whereas “Nominees” are readily separable persons or entities, with one holding certain specific property for the exclusive use and enjoyment of the other. Although the terms often interchange or overlap, “alter egos” are usually corporate and business entities controlled by the taxpayer, whereas “nominees” are usually individuals who clearly have a separate physical identity.

• Disclaimers and Renunciations: Although state law may enable a recipient to reject a gift or transfer, such disclaimer or renunciation will not defeat the federal tax lien.

Understanding and Navigating the Scope of Tax Liens

A federal tax lien represents a vast and powerful tool in the IRS’s arsenal, affecting virtually all forms of property and rights to property. The implications for taxpayers are far-reaching, encompassing real estate, financial assets, business interests, and exempt or terminable property types. Understanding the scope and application of these tax liens involves interpreting the interrelationship of complex federal tax laws and state property rights, essential for individuals, businesses, and professionals seeking to defend against IRS-enforced collection. The IRS’s authority under IRC §6321 ensures that unpaid taxes do not simply evaporate over time. However, proactive measures, place of filing determinations, erroneous lien challenges, Collection Due Process hearings, identifying super priorities interests, application of the 45-day rule for certain collateral use by taxpayer borrowers, the ability to obtain a release, discharge, and subordination of tax liens, and lien subrogation requests and applications for certificate of non-attachment. Thus, having professional tax representation can mitigate the impact of these liens and help protect critical assets. Engaging with a knowledgeable tax attorney can be the difference between eliminating the tax claim and full payment.

If you are facing a federal tax lien, schedule a consultation with our expert team today and get the support you need to mitigate against enforced collection and protect your property.

Make an appointment today with Tax Workout Group and take the first step toward leveling the playing field.