Category Archives: Tax Liens and Bankruptcy

If I Do Not Pay My Property Tax Will The County Take My Property?

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If you do not pay your property taxes for quite a few years your county can conduct a tax lien sale to sell your house out from under you to pay back the unpaid property taxes. When does a property owners’ legal and equitable interests in their property terminate so that filing for bankruptcy protection cannot stop a tax lien sale in California? To ask the question a different way, when can a homeowner file bankruptcy and stop the tax lien sale of their home? This article will focus on California property tax law and how real property can be sold to pay unpaid property taxes.

California Property Tax Law

In California real property taxes (land) are secured by and serve as a lien on the real property for which they are assessed. Property taxes that are secured that remain not paid at the end of the fiscal year (June 30 of each year) are deemed to be in default. See California Revenue and Tax Code Section 3436. For residential properties if the property taxes are defaulted and not paid for five years then the county has the right to satisfy the outstanding defaulted taxes by selling the property at a tax lien sale. See California Revenue and Tax Code Section 3691. For a nonresidential commercial property only three years has to go by before the county and sell the real property. The real property will be sold at public auction, which now includes the internet, to the highest bidder.

Homeowners that are behind on their property taxes have a right to redeem the property by paying all prior defaulted taxes in full with penalties, costs and fees. When does the right to redeem terminate? California Tax and Revenue Code Section 3707 governs termination of the redemption period. Section 3707(a)(1) provides the right of redemption terminates at the close of business on the last business day prior to the date of the sale. After the tax lien sale is determined or deemed complete a homeowner’s right to redeem the tax defaulted real property cannot be revived under California Tax and Revenue code Section 3707. After the tax lien sale is completed the county tax collector will execute a deed to the purchaser. This tax deed will convey title to the purchaser free of all encumbrances (loans or other liens) of any kind existing before the sale.

What Is California Law Regarding Voluntary and Involuntary Foreclosure Sales?

This question can is answered by looking further at California law as it relates to the Bankruptcy Code. As soon as a bankruptcy petition is filed the automatic stay takes effect stopping any and all collection activity including tax liens sales if the bankruptcy filer still has the right to redeem the property. Section 541 of the Bankruptcy Code governs what is property of the bankruptcy estate upon the filing of a petition for relief. A bankruptcy filers right to redeem their real property is a distinct property right from the bankruptcy filers legal and equitable interests in the real property. See Harsh Inv. Corp. v. Bialac (In re Bialac), 712 F.2d 426, 431 (9th Cir. 1983). Section 541 provides the definition of property of the bankruptcy estate is very broad. The California Tax and Revenue Code says that legal title to a tax defaulted real property will transfer after the tax sale with the recording of a tax deed by the tax collector. California Tax and Revenue Code unfortunately does not provide when equitable title to the tax defaulted real property transfers to the purchaser during the tax lien sale process.

In an ordinary non-tax lien sale of a piece of real property to a third party under California law provides the transfer of legal title at the time of execution of the contract of sale, the grantee acquires an equitable title to the estate being sold and the person selling the property, the grantor, retains the legal title as security for the purchase price. The legal title passes to the purchaser, grantee, at the time of their completion of the conditions precedent…..

In an involuntary sale like a foreclosure sale equitable title under California law is transferred to the purchaser at the foreclosure auction with acceptance of the highest bid and at the time a trustee’s sale is completed. See In re Richter, 525 B.R. 735, 745 (Bankr. C.D. Cal. 2015) (citing Nguyen v. Calhoun, 105 Cal. App. 4th 428, 441 (Cal. Ct. App. 2003). These cases provide the trustee’s sales is completed upon acceptance of the highest bid. Legal title remains with the owner or debtor and if the owner/debtor files for bankruptcy protection after the foreclosure sale there are grounds to not allow the bankruptcy to stop or stay the foreclosure sale process to allow the equitable owner to obtain legal title to the foreclosed real property. Bankruptcy attorneys have to find out the exact sequence of events to determine the debtor’s legal rights at the time the bankruptcy case is filed.

At What Point Can A Homeowner File Bankruptcy But Not Stop the Tax Lien Sale?

So, at what point can a homeowner file bankruptcy but it will not stop the tax lien sale? The Ninth Circuit Bankruptcy Appellate Panel on February 3, 2017, published an opinion, In re RW Meridian, LLC; BAP Case No. SC-16-1227-JuFY, that addresses this question. The bankruptcy petition has to be filed prior to the tax lien sale being completed.

The 9th Cir. BAP held that the bankruptcy filer was not divested (lost) of its legal or equitable interests in the underlying real property by operation of law upon the expiration of the bankruptcy filers right to redeem the real property under California law. The Court further held t6hat before a bankruptcy filer (debtor’s) equitable interests in the real property could transfer the tax lien sale process requires the taxing collector to hold an auction, and at the very least accept the highest bid, or at most, the tax collector receive the purchase price before the sale can be considered “complete.” California Tax and Revenue Code Section 3707(c) says that a tax sale is not complete until the purchase price has been paid in full which is a later point in time than in a foreclosure sale when it is acceptance of the highest bid which passes equitable title.

SO, if the auction or there is no acceptance of the highest bid before the bankruptcy petition is filed the tax lien sale was not completed and the bankruptcy filer can stop the tax lien sale. In the RW Meridian, LLC, bankruptcy case the Ninth Cir. BAP held neither the auction or acceptance of the highest bid took place prior to the property owner filing for bankruptcy protection. There was no transfer of the debtors/bankruptcy filers legal or equitable interests in the real property prior to filing the bankruptcy petition by the owners bankruptcy lawyer. The 9th Circuit Bankruptcy Appellate Panel held that there are no provisions of the California Tax and Revenue Code about tax lien sales provides that the expiration of the right to redeem prevents a bankruptcy filer of their equitable or legal interests in the real property upon filing of bankruptcy protection.
The key to all of this is that the alleged tax lien sale took place after the real property owner filed for bankruptcy protection.

County Argued Ministerial Acts Exception to The Bankruptcy Automatic Stay

Given the 9th Cir. BAP concluded the bankruptcy filer had equitable and legal interests in the real property the tax collector county violated the automatic stay that took effect when the bankruptcy case was filed. The county tax collector argues the postpetition sale of the real property falls within the narrow ministerial exception to the automatic stay. The Ministerial Acts exception says the automatic stay does not prohibit ministerial acts or automatic occurrences that entail no deliberate, discretion or judicial involvement on the part of the actor. See McCarthy, Johnson & Miller v. N. Bay Plumbing, Inc. (In re Pettit), 217 F.3d 1072, 1080 (9th Cir. 2000). The Ministerial Acts exception can apply to the simple recording of a tax deed after a tax lien sale was completed after a bankruptcy petition is filed. Completing the actual tax lien sale process by accepting the highest bid is not a ministerial act.

Can I Be Held Liable For Unpaid Sales Tax in California If I Am A Silent Partner?

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In California the State Board of Equalization collects sales tax from businesses and partnerships. But what if you are a silent partner that invested funds to start a business but do not participate in the day to day operation of the business? Why should you be personally liable for unpaid sales tax when you had nothing to do with not paying the sales tax to the BOE if and when the business unfortunately fails? Under California law and the Revised Uniform Partnership Act all partners are liable jointly and severally for all obligations of the partnership unless otherwise agreed by the claimant or provided by law.” Cal. Corp. Code § 16306(a).

This issue was recently discussed and analyzed in a Ninth Circuit Bankruptcy Appellate Panel opinion, In re: Earnest Leal and Maria Leal; BAP No. CC-06-1207-MoDK. The debtors, Earnest and Maria Leal were silent partners in a retail shoe store. The Leal’s did not participate in the actually running of the shoe store and had no responsibility for collecting and paying sales tax. Their business partners, the Stanleys, actual ran the store and were responsible for the day to day operation of the shoe store. The lease for the shoe store was signed by both the Stanleys and Leals. Maria Leal and Ms. Stanley signed a Business License Tax Application that was filed with the City of Rancho Mirage. Retail is a tough business and apparently the Stanleys had to close the shoe store.

So, how does this land in bankruptcy court and the Ninth Circuit Bankruptcy Appellate Panel? Mr. and Mrs. Leal filed for bankruptcy under Chapter 7 of the Bankruptcy Code and did not list any debt owed to the Board of Equalization. Some of the creditors of the failed shoe store did see collection from Mr. and Mrs. Leal. There was at least one default judgment entered against Mrs. Leal and the Leals’ bankruptcy petition included debts resulting from the failed shoe store. Mr. and Mrs. Leal received their discharge and their Chapter 7 case was closed. Sometime after they received their discharge the Board of Equalization began collection activity against Mr. and Mrs. Leal for $20,000 in unpaid sales tax owed from the shoe store. The Leals’ bankruptcy attorney reopened their Chapter 7 case and filed a motion to determine the validity of the alleged sales tax debts and tax liens against the Leals. The bankruptcy court found that the Leals’ were not responsible for the sales taxes given they did not willfully fail to pay them and had no supervision over the business.

The resulting appeal provides the following analysis of the relevant California law regarding partnerships and liability for sales tax payments. Does California Revenue and Tax Code Section 6829 shield debtors from joint and several liability for unpaid sales tax? Section 6829 provides in relevant part: “upon termination, dissolution, or abandonment of a partnership . . . any officer, member, manager, partner, or other person having control or supervision of, or who is charged with the responsibility for the filing of returns or the payment of tax, or who is under a duty to act for the corporation, partnership, limited liability partnership, or limited liability company in complying with any requirement of this part, shall be personally liable for any unpaid taxes and interest and penalties on those taxes, if the officer, member, manager, or other person willfully fails to pay or to cause to be paid any taxes due from the corporation, partnership, limited liability partnership, or limited liability company pursuant to this part.

The Leals’ bankruptcy attorney argues that the Leals cannot be personally liable for any unpaid taxes and interest given they were not charged with the responsibility of filing returns or payment of the taxes. They are just silent partners in the failed shoe store business. The Ninth Circuit Bankruptcy Appellate panel disagreed with the original bankruptcy court and held that Cal. Rev. & Tax Code section 6829 does not protect Debtors from any liability they may have as general partners under Cal. Corp. Code section 16306(a). So silent partners in California beware. Just because you are not part of the day to day operations of a partnership you invested in you can be liable for unpaid sales taxes if they are not paid timely.

How Does a Tax Lien Affect My Bankruptcy?

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You owe taxes to the Internal Revenue Service (IRS).  To make matters worse you find out the IRS has placed a tax lien on your property with the county recorder’s office.  What can you do?  Is the tax lien dischargeable in bankruptcy?

Under 11 U.S.C. §§507 and §523, the following taxes are dischargeable in bankruptcy if:

1)      The return was last due at least three years before the bankruptcy petition was filed;

2)      The tax claim was assessed within 240 days before the date of the filing of the petition;

a)      If you have requested an offer in compromise related to the tax you are trying to discharge, the time it takes the IRS to consider the offer in compromise is not counted towards the 240 days.  In fact, the IRS adds another 30 days on top of the time it takes for the IRS to make a decision. This means that if you submitted an offer and compromise to the IRS and they rejected the offer in compromise 3 months later, the 240 days assessment period does not include the 4 months (3 month consideration period plus an additional 30 days).

b)      If you have filed a previous bankruptcy case, the 240 days assessment period does not include the time you are in bankruptcy and it adds another 90 days on top of that time. So if you filed for a Chapter 7 bankruptcy case previously and it was closed 3 months later, the 240 days assessment period does not include the 6 months (3 months in bankruptcy plus an additional 90 days).

3)      The tax return was filed more than two years before the bankruptcy petition was filed;

4)      The tax return was not fraudulent or there was no willful attempt to evade the tax.

These rules do not apply if there is a tax lien placed on your property.  A tax lien is not dischargeable in bankruptcy. If you own real property the IRS may record a tax lien on the title.  If you do not own any real property, the IRS may place a lien on all your personal property.

If You Own Real Property

If the tax lien was recorded on your real property, your personal obligation to pay the debt may be wiped out in the bankruptcy if the income taxes meet the rules listed above.  However, even though your personal liability is discharged when filing bankruptcy the tax lien would remain recorded against your property until the tax lien is released.  This means if you try to sell your house when the tax lien is still recorded against your property, you will have to pay off the IRS lien in the sale of your home.

If You File Chapter 7 Bankruptcy and You Do Not Own Real Property

If you do not own any real property in a Chapter 7 bankruptcy then the tax lien only attaches to your personal property.  Your obligation to pay the tax debt may be wiped out in the bankruptcy case if the income taxes meet the rules above.  However, the tax lien would still survive the bankruptcy and the lien remains recorded against all the assets you have owned on or before the date your bankruptcy petition was filed.  Fortunately the IRS cannot go after income or assets you acquire after the date you have filed for bankruptcy protection.  They can only go after the assets that you have owned prior to filing for bankruptcy.  This means the IRS can only repossess the furniture or cars that are paid in full or other personal assets you have owned prior to the bankruptcy filing.  Chances are the IRS will probably not come to your door to collect your 20 year old couch because it would be a waste of time for the IRS. The IRS may potentially go after your retirement plans as well since the retirement plans were excluded from the bankruptcy estate.  However, they cannot go after your retirement plans until you retire and are eligible for retirement income.  By that time, the tax lien may have expired.

If You File Chapter 13 Bankruptcy and You Do Not Own Real Property

So what happens if you are in a Chapter 13 bankruptcy plan and you owe income taxes for both 1) tax years that would have otherwise been eligible for discharge if the rules above are met and 2) recent tax debt that is not eligible for discharge? In a Chapter 13 bankruptcy case, your recent tax debt is considered a priority unsecured debt, and they must be paid in full through your Chapter 13 bankruptcy plan.  The other income tax debt that would normally have been eligible for a discharge but for the tax lien is secured up to the amount of assets owned and that amount needs to be paid in full through the Chapter 13 plan (for example, if you have $25,000 of personal property, including cars, bank accounts, furniture, etc., then the $25,000 would need to be paid in the Chapter 13 plan in addition to the priority unsecured debt).  The remaining tax debt from the tax lien is treated as an unsecured debt that is discharged in the bankruptcy, but as indicated above, the tax lien still survives the bankruptcy.  Therefore the remaining tax debt subject to the tax lien is treated the same as in the Chapter 7 bankruptcy case above.  The IRS will still retain the IRS lien on your personal property but they cannot go after income or property you acquire after your bankruptcy case was filed.

If you have tax liens and you need to file for bankruptcy, you should consult an experienced bankruptcy attorney.  You can schedule a free no obligation consultation with us by calling 1-877-9NEW-LIFE or 1-877-963-9543 today.