Vince Nardone: Tax and Controversy

Internal Revenue Service Can Levy Guaranteed Payments of LLC Member -

Written by Guest Author: Pilar Honer:

In CCA 2008366002, the Service Chief Counsel’s Office determined that the Service could levy upon payments owed by an LLC to its member at the time of levy.  The CCA, however, left open the question as to whether contingent fees qualify as salary and wages for purposes of serving a continuing levy upon them.  In this instance, the taxpayer, a personal injury attorney, organized his law practice as a Limited Liability Company (LLC).  The LLC entered into contingent fee agreements with the clients.  After successful litigation, the LLC collected a percentage of the recovery and after paying overhead costs, paid the taxpayer for his services rendered.

Since the taxpayer’s practice was set up as a LLC, the Service had a harder time obtaining a levy upon the taxpayer’s assets.  First, even though the taxpayer was the only owner/member of the LLC, the Service could not place a levy on the LLC’s assets. Unless there is evidence of an alter-ego relationship, the Service cannot reach the actual assets of the LLC to satisfy the personal debts of a single owner.  Second, the Service could have placed a levy on the taxpayer’s interest in the LLC; however, there were no other owners/market to buy this interest.  Therefore, the only potential asset for the Service was the income the taxpayer received from the LLC.

Under the Code, the Service may use two methods to enforce a lien. It can either bring a foreclosure action pursuant to I.R.C. §7403, or it can levy on the taxpayer’s property pursuant to I.R.C. §6331.  A levy reaches only to “property possessed and obligations existing at the time of the levy.” Hemmen, 51 F.3d 883 (9th Cir. 1995).  Reg. Reg. 301.6331-1(a)  interprets the “present obligation” as “[l]evy may be made by serving a notice of levy on any person in possession of, or obligated with respect to, property or rights to property subject to levy.... Except as provided in §301.6331-1(b)(1) with regard to a levy on salary or wages, a levy extends only to property possessed and obligations which exist at the time of the levy. Obligations exist when the liability of the obligor is fixed and determinable although the rights to receive payment thereof may be deferred until a later date.....” 

Therefore, the first question was “what ‘rights to property’ does a member of an LLC have?”  According to state law, an LLC’s member has a “right to property” in being repaid his capital contribution and share in the profits and other assets, unless otherwise stated in the operating agreement.  This right, however, must be fixed and determinable at the time of levy for the LLC to be obligated to turn it over to the Service. Courts hold that “when events which give rise to the obligation have occurred and the amount of the obligation is capable of being determined in the future it is ‘fixed and determinable’.”  Hemmen, 51 F.3d at 890.  Therefore, although the taxpayer worked on a contingency fee arrangement, the LLC’s obligation to the taxpayer was fixed and determinable with respect to legal services rendered prior to the notice of levy.  Hence, the Service was successful in obtaining fees that the LLC owed to the taxpayer, but only with respect to those owed at the time of levy. 

The Service then sought to place a levy upon the taxpayer’s future right to payments from the LLC.  Generally, a levy extends only to property possessed and an obligation existing at the time the levy is made.  There is, however, an exception with respect to salary and wages. I.R.C. §6331(a).  Section 6331(e) provides that the effect of a levy on salary or wages payable to or received by a taxpayer will be continuous from the date the levy is first made until the levy is released under Section 6343.  Section 6331(e) does not specify the types of remuneration that are covered by the terms “salary or wages.”  The CCA discussed a more recent district court opinion that held that amounts paid and payable to a member of a law firm, organized as a partnership, were subject to a continuing levy.   

In that case, the district court held that since the partnership made payments to the delinquent taxpayer/partner on a regular basis they were wages for purpose of the code. Moskowitz, Passman & Edelman, 100 AFTR 2d 2007-6358 (DC N.Y., 2007).  There the delinquent taxpayer handled all of the books for the law firm and regularly wrote checks out to himself from the partnership’s bank account.  The taxpayer argued that those checks were not salary or wages because they were as he testified a “draw or an advance or a loan against what is ultimately converted to income at the end of the year.”  The district court disagreed and held that since the remuneration was paid on a recurring basis, his self-payments were wages.  In applying this holding from Moskowitz to CCA 200836002, the Chief Counsel’s Office was concerned that the irregular payments received by the taxpayer from the contingent fee awards would not qualify as wages.  Therefore, the CCA required the Service to obtain more information in order to make that determination, leaving open the question as to whether contingent fees qualify as wages or salary.

Comment by Vince Nardone:

I found the CCA very interesting; specifically on issue that the Service cannot simply attach the assets of an LLC when the Service is a creditor of one of the LLC’s members.  I receive questions many times from other lawyers concerned about the LLC’s assets when the Service is pursuing a member for his personal income tax liabilities.  In many instances, I am representing the individual and the other lawyer is representing the LLC.  I try to explain the fact that the Service cannot simply attach the LLC’s assets.  But, invariably there is always an attorney that questions that position without sound reasoning for doing so.

Download levy_llc.pdf

Internal Revenue Service Can Levy Guaranteed Payments of LLC Member -

Written by Guest Author: Pilar Honer:

In CCA 2008366002, the Service Chief Counsel’s Office determined that the Service could levy upon payments owed by an LLC to its member at the time of levy.  The CCA, however, left open the question as to whether contingent fees qualify as salary and wages for purposes of serving a continuing levy upon them.  In this instance, the taxpayer, a personal injury attorney, organized his law practice as a Limited Liability Company (LLC).  The LLC entered into contingent fee agreements with the clients.  After successful litigation, the LLC collected a percentage of the recovery and after paying overhead costs, paid the taxpayer for his services rendered.

Since the taxpayer’s practice was set up as a LLC, the Service had a harder time obtaining a levy upon the taxpayer’s assets.  First, even though the taxpayer was the only owner/member of the LLC, the Service could not place a levy on the LLC’s assets. Unless there is evidence of an alter-ego relationship, the Service cannot reach the actual assets of the LLC to satisfy the personal debts of a single owner.  Second, the Service could have placed a levy on the taxpayer’s interest in the LLC; however, there were no other owners/market to buy this interest.  Therefore, the only potential asset for the Service was the income the taxpayer received from the LLC.

Under the Code, the Service may use two methods to enforce a lien. It can either bring a foreclosure action pursuant to I.R.C. §7403, or it can levy on the taxpayer’s property pursuant to I.R.C. §6331.  A levy reaches only to “property possessed and obligations existing at the time of the levy.” Hemmen, 51 F.3d 883 (9th Cir. 1995).  Reg. Reg. 301.6331-1(a)  interprets the “present obligation” as “[l]evy may be made by serving a notice of levy on any person in possession of, or obligated with respect to, property or rights to property subject to levy.... Except as provided in §301.6331-1(b)(1) with regard to a levy on salary or wages, a levy extends only to property possessed and obligations which exist at the time of the levy. Obligations exist when the liability of the obligor is fixed and determinable although the rights to receive payment thereof may be deferred until a later date.....” 

Therefore, the first question was “what ‘rights to property’ does a member of an LLC have?”  According to state law, an LLC’s member has a “right to property” in being repaid his capital contribution and share in the profits and other assets, unless otherwise stated in the operating agreement.  This right, however, must be fixed and determinable at the time of levy for the LLC to be obligated to turn it over to the Service. Courts hold that “when events which give rise to the obligation have occurred and the amount of the obligation is capable of being determined in the future it is ‘fixed and determinable’.”  Hemmen, 51 F.3d at 890.  Therefore, although the taxpayer worked on a contingency fee arrangement, the LLC’s obligation to the taxpayer was fixed and determinable with respect to legal services rendered prior to the notice of levy.  Hence, the Service was successful in obtaining fees that the LLC owed to the taxpayer, but only with respect to those owed at the time of levy. 

The Service then sought to place a levy upon the taxpayer’s future right to payments from the LLC.  Generally, a levy extends only to property possessed and an obligation existing at the time the levy is made.  There is, however, an exception with respect to salary and wages. I.R.C. §6331(a).  Section 6331(e) provides that the effect of a levy on salary or wages payable to or received by a taxpayer will be continuous from the date the levy is first made until the levy is released under Section 6343.  Section 6331(e) does not specify the types of remuneration that are covered by the terms “salary or wages.”  The CCA discussed a more recent district court opinion that held that amounts paid and payable to a member of a law firm, organized as a partnership, were subject to a continuing levy.   

In that case, the district court held that since the partnership made payments to the delinquent taxpayer/partner on a regular basis they were wages for purpose of the code. Moskowitz, Passman & Edelman, 100 AFTR 2d 2007-6358 (DC N.Y., 2007).  There the delinquent taxpayer handled all of the books for the law firm and regularly wrote checks out to himself from the partnership’s bank account.  The taxpayer argued that those checks were not salary or wages because they were as he testified a “draw or an advance or a loan against what is ultimately converted to income at the end of the year.”  The district court disagreed and held that since the remuneration was paid on a recurring basis, his self-payments were wages.  In applying this holding from Moskowitz to CCA 200836002, the Chief Counsel’s Office was concerned that the irregular payments received by the taxpayer from the contingent fee awards would not qualify as wages.  Therefore, the CCA required the Service to obtain more information in order to make that determination, leaving open the question as to whether contingent fees qualify as wages or salary.

Comment by Vince Nardone:

I found the CCA very interesting; specifically on issue that the Service cannot simply attach the assets of an LLC when the Service is a creditor of one of the LLC’s members.  I receive questions many times from other lawyers concerned about the LLC’s assets when the Service is pursuing a member for his personal income tax liabilities.  In many instances, I am representing the individual and the other lawyer is representing the LLC.  I try to explain the fact that the Service cannot simply attach the LLC’s assets.  But, invariably there is always an attorney that questions that position without sound reasoning for doing so.

Download levy_llc.pdf