Archive for the ‘ Asset Protection ’ Category

If the government can prove that you “willfully attempted in any manner” to “evade or defeat” a tax, then you cannot discharge that tax debt in bankruptcy. 11 U.S.C. 523(a)(1)(c).   I’ve always seen this as a very low bar for the IRS to prove, because the elements are simple: 1) the taxpayer had a duty to pay a tax; 2) the taxpayer knew that he had this duty; and 3) the taxpayer voluntarily and intentionally violated that duty. Payment of any expense beyond subsistence, such as a child’s college tuition, at a time when taxes remain unpaid, could meet the standard. That’s what the cases around the country teach.

The 9th Circuit, however, has changed the standard here in California and elsewhere in its domain. In Hawkins v. FTB, Case No. 11-16276, decided on September 15, 2014, the court has held that the taxpayer needs to have a specific intent of evading tax for this discharge exception to apply. Outside the 9th Circuit, a “willful attempt “ to intentionally violate the duty to pay tax means a deliberate act that results in nonpayment of tax. Here in the 9th Circuit, the “willful attempt” means a deliberate act with the intent of evading tax.

The facts in Hawkins are rather shocking to this former IRS attorney. The debtor-taxpayer made a fortune in Silicon Valley enterprises, and tried to shelter some of his capital gains through sophisticated yet dubious transactions. A large tax bill ensued, and then his enterprises lost a great deal of money. Yet he continued to live large: in the face of of a $25 million tax bill, he continued to maintain two residences worth a total of more than $6 million, and bought a fourth family car (in a two-driver family) for $70,000. The family spent between $17,000 and $78,000 more per month than its income for several years.

I think that the result in Hawkins is wrong. This kind of spending by a taxpayer who knows he owes $25 million in taxes is dishonest. As a taxpayer, I do not want my fellow Americans to get away with this by saying “gee, I wasn’t trying to avoid paying the taxes, but I just couldn’t stop myself from spending.  But I do salute the attorneys who reached this result. It is a good result for my clients, and I intend to use it until the Supreme Court reverses the 9th Circuit.

A client recently had the FTB, Franchise Tax Board, garnish his son’s bank account.  His son didn’t owe the tax money; my adult client did.  But the FTB didn’t care; it took the kid’s money – $14,000 – and paid it to the father’s tax liability.

The child had just turned 21.  His parents set up the bank account when their son was 10.  Because he was a minor at the time, the parents needed to sign on their son’s account and present one of their social security numbers.  So far as the FTB was concerned, this was the father’s money.  Presenting the signature card, with the boy’s uncoordinated 10-year signature, did not soften the hard hearts of the FTB.

The father could have sued the FTB in state court to return the money to his son.  That would have taken hours of attorney time, and it was the father’s burden to prove that the money didn’t belong to him.  If he succeeded, (more likely than not) he would have owed $14,000 to the FTB, because his son had effectively paid his tax debt for him.

I thought this would have ended the matter for the FTB.  It did not.  Not only did the FTB seize the son’s money, the seizure created a new debt.  The FTB assessed a $150 seizure fee that was not taken during the original raid on the son’s account, so the FTB threatened to levy on the father’s accounts again to satisfy the $150 still owing.

A few lessons here: first, the FTB is a harsher agency than the IRS.  After having worked at IRS, I believe it is more likely that the IRS would have returned the son’s money.  The FTB is harsher on collection matters because it has a different relationship to citizens than the IRS.  The IRS feeds the world’s largest pot of money; it’s also part of the Treasury, an agency that can just print more dollars. Dollars going back to the Treasury are like pouring water into the ocean, or electricity going to ground.  If someone doesn’t pay his taxes, the Treasury won’t miss it.  The state treasury will miss it much more immediately.  To make up any budget shortfalls, the state needs to issue new bonds, or declare bankruptcy (can a state declare bankruptcy?  Probably not; that discussion is worth another article).  In short, the FTB doesn’t have the fiscal flexibility to be nice; it must take such dramatic measures as it did against my client – whether it was ethical or not.

Second lesson: to avoid a similar incident, parents should set up an account under the Uniform Transfer to Minors Act (Cal. Probate Code § 3900 et seq.). The account needs specific language in the name.  If the proper procedural steps are followed, the state is bound to respect the ownership of the account.

A note that interests lawyers, though not laypeople: even though it’s called a “uniform” law, meaning that the language is the same in every state that adopts it, the actual provisions may not necessarily be the same in each state.  Courts in different states may interpret the same phrase in the Uniform Transfers to Minors Act differently.  The California legislature may have decided that the model statute needed to be improved in some way, so the California version may read differently than the Nevada version. When you set up an account like this, there are pitfalls.  Talk to a lawyer.  We can help.

A client talked to the IRS about his back payroll tax issue.  The revenue officer said not to worry about it, that the account was not a high priority for the revenue officer and that they had time to work things out.  Two weeks later, the IRS levied on his payroll account, and his business may never recover.

He claims that this is unfair, and he’s right.  But he can’t do anything about it.

That’s because the government – any government, not just the federal government, but your state and local governments too – is generally immune to what lawyers call “estoppel.”  That’s a fancy word meaning “you can’t go back on your word once I rely on it.”

The Supreme Court has declined to say whether “affirmative misconduct” on the government’s part would open it up to estoppel.  In other words, even if my client above could prove that the revenue officer had set a trap for him, the Supreme Court thinks it could be okay.  If the misstatement was due to mere negligence or incompetence, case law at all levels of courts is unanimous: you, a member of the public can’t rely on it.

So, for instance, a Social Security field representative can tell a low-income woman she’s not eligible for insurance benefits, and not to bother filing an application for them.  When she finds out later that she is eligible, she can’t get the benefits retroactively to the date that the field representative told her she didn’t qualify, because the law requires her to file an application.  It doesn’t matter that the field representative was directly contradicting the law and his policy handbook  [Schweiker v. Hansen, 450 U.S. 785 (1981)].

When I was in government service, I used to counsel revenue officers in their function of collecting tax.  They would ask me how to handle tax protestors – those idiots who try to claim that no federal law requires anyone to pay tax.  The tax protestors, of course, love to try to trip up government agents by asking about arcane facts and law that make no difference to the government’s power over the citizenry.  I told the revenue officers that they could say what they wanted to the tax protestors, and that when they were tired of talking, they could close the conversation by saying “I don’t know and I don’t care.”  Is there a law that allows you to seize the cash register at my place of business?  “I don’t know and I don’t care.”

So the law tells us to assume that whatever government agent we deal with is actually incompetent.  In reality, most government employees are actually quite bright and motivated; I know more than a few, and they are wonderful people.  But they are cogs in a machine, and their actions are limited by the law, not by their prior statements.  Don’t trust them with your wallet.

Nothing left to lose and loving it

I had a client come to me a few years ago to file bankruptcy.  He owned two office buildings with mortgages totaling more than the buildings’ values. They were going to be foreclosed, triggering personal guarantees, and the client would owe millions of dollars to the lender.  If he somehow got out of the personal guarantees, he would owe hundreds of thousands of dollars of tax on the imputed income from canceling his debt.

My client was 75 years old and suffering from Parkinson’s Disease. He had $100,000 in a bank account, and was living off of his social security checks – $10,000 per year.  Though he was married, his prenuptial agreement said the money and income were his separate property.

I advised him against filing bankruptcy.  “Give the money to your wife,” I said, “in return for her promise to feed and shelter you for the rest of your life. The social security income will be exempt from attachment in California; you are effectively judgment-proof.  And you won’t owe tax, because cancelation of debt isn’t income when you are insolvent.”

He followed that advice.  The wife spent the money caring for him; the foreclosures still haven’t occurred, so there is no judgment against him yet.

I saw him recently.  He said he had never felt happier in his life – not when he was a physics professor, nor when he was raking in money as a commercial landlord in good times.  He was surrounded and cared for by people he loved, had no worries about losing anything, and was satisfied with the life he had led.

I’m in a different place.  I work hard to provide my clients the best in service and expertise.  I have bills to pay, mouths to feed, obligations to others.  I enjoy it; I feel a satisfaction in achieving goals and being recognized by my peers.

In looking at this client, however, I felt more than the usual amount of satisfaction.  I did nothing superhuman; the work wasn’t particularly demanding.  But I made a difference in his life, a difference for the better, and I feel deeply satisfied about that.  Such experiences make my work very rewarding.

Asset protection versus bankruptcy

A well-to-do friend called me for some planning.  He invited me to his beautiful, five-bedroom home in the hills above Westlake Village.  We sat at poolside as he described his predicament.

While he was quite wealthy, he could see losing almost all of that wealth in a snap.  He owned an insurance brokerage; one of his clients had sued him for millions of dollars, claiming that he had sold a bad policy.  Insurance malpractice, I guess.  Trial was in another two weeks, and if he lost, he would have to pay an eight-figure verdict with only seven figures of assets.  Should he file bankruptcy if that came to pass?  Should he do anything right now to protect his assets and lifestyle?

I thought it very wise to talk to me before anything happened.  I was able to explain what would happen to his house (he’d keep it, because he had such a large mortgage on it) and his other assets in bankruptcy (the trustee would take his annuity and his life insurance policies, because they were more valuable than the appropriate exemptions, but the trustee would leave most of his insurance company because it depended on his personal services to have any value).

Could he do any asset protection?  Well, yes.  But he’d need to make a decision early as to whether he was going to combine asset protection with bankruptcy.  There are some things one can do to protect assets that work only if one never files bankruptcy.

We bankruptcy attorneys shy away from fraudulent transfers.  Cathy Moran in Redwood City gives a good explanation why this is.    And certainly “fraudulent transfer” sounds only a little less loathsome than a lung disease.   But there are advantages to making a fraudulent transfer, particularly if you are trying to defeat a private creditor: the transfer creates another legal hurdle to the creditor’s ultimate recovery.  It’s essentially a bargaining chip.  Don’t try this if you owe money to the IRS, or if you want to eventually discharge your taxes in bankruptcy.

That’s something I learned from Jacob Stein, one of the few lawyers I know with his own Wikipedia page.  So when my friend asked what he should do, I told him to call Jacob, who knows a whole lot more about asset protection than I do.

There is also asset protection that works in bankruptcy.  It’s called planning.  Put as much money as you can into exempt assets: 401k, IRA, a homestead.  Insure yourself so you don’t face a multi-million verdict.  Cathy Moran talks about these strategies here.

Asset planning can go spectacularly badly in bankruptcy.  I once represented a trustee who had a debtor who thought she could buy a condo in Mulege, Baja California, then file bankruptcy in California, discharge her debts here, and retire to Mexico.   Her life’s plans changed drastically when we were able to seize and sell her condo.  She got a good lawyer, who was able to talk us out of pressing criminal charges.

If you’re facing the possibility of sudden loss, go talk to an attorney who knows something about bankruptcy and collection law.  I’ll be happy to help you out.