Did you say Chapter 7 or Chapter 13? It makes a difference. Keep reading…
It is not uncommon for a taxpayer’s home to be “underwater,” meaning the fair market value (FMV) of a taxpayer’s home is less than the amount owed on the senior mortgage loan. Sometimes a taxpayer with an underwater home fails to pay income taxes, causing the IRS to file a Notice of Tax Lien against a taxpayer’s property with the Recorder of Deeds for the county in which the real property is located. This lien gives public notice of a “secret lien” that previously existed pursuant to 26 U.S.C. §6321, which attached automatically to all of a taxpayer’s property and rights to property, both real and personal, upon assessment.
These taxpayers are prevented from filing Chapter 7 bankruptcy and “stripping down” the tax lien value from the full face amount of the tax obligation to the amount that would be recoverable after the senior liens are paid in full. The U.S. Supreme Court rejected any attempt to “strip down” a lien in a Chapter 7 bankruptcy case in Dewsnup v. Timm. Until recently, the Supreme Court had not decided whether a lien could be “stripped off” in a Chapter 7 case.
So a clever taxpayer in In re Blackburn, 525 B.R. 153 (Bankr. N.D.FL 2015) attempted to reclassify an otherwise impermissible “strip down” of a tax lien into a “strip off” by arguing the IRS’ tax liens were divisible between real property and personal property. If divisible, the taxpayer argued, then the tax lien could be “stripped off” as to the real property while preserving the tax lien as to the personal property.
The Blackburn court stated the issue as whether the IRS tax liens were divisible. The court ruled that the IRS tax liens were NOT divisible. Therefore, the IRS’ claim was partially secured by the personal property. The fact that there is no equity in the taxpayer’s real property over and above the senior mortgage did not render the IRS’ tax lien totally unsecured. The IRS’ tax lien remained, at least in part, secured by the taxpayer’s personal property. Consequently, the court rejected the taxpayer’s attempt to “strip off” the tax lien finding the taxpayer was actually attempting to “strip down” the tax lien, which was prohibited by the US Supreme Court in Dewsnup v. Timm.
Practice Pointers: A taxpayer should attempt to file a Chapter 13 case instead of a Chapter 7 case if the taxpayer’s goal is to “strip down” a tax lien. It is permissible to both “strip down” and “strip off” a tax lien in Chapter 13 bankruptcy cases.
For follow-up questions, contact attorney Robert V. Schaller by clicking here.