Beware… the IRS “Secret” Lien

Many attorneys rely exclusively on the Internal Revenue Code as the “bible” for tax law. However, many other provisions in the United States Code apply to taxes and one is the “secret lien”, secret only because there is no filing or notice other than Section 3713 of the United States Code.

A recent case, United States v. Read, illustrates the effect of the secret lien statute. In Read, the United States sued Randy Read, not only as trustee, but INDIVIDUALLY because Randy made trust payments prior to paying an outstanding tax liability.

In 1999, Randy created a trust for his children with stock options worth approximately $700,000. In 2000, Randy asked for an extension of time to file the tax return and the trust owed approximately $120,000 in taxes of which Randy, as trustee, did  not pay. Randy was aware of the total tax bill in April, 2001.

In April, 2001, the balance of trust assets was $225, 170. Randy ultimately paid from the trust, payments for home renovations, children’s education, real estate investments and children’s summer camps which brought the trust value below the amount of the tax liability.

The Internal Revenue Service (the “Service”) moved for summary judgment which, when successful, indicates no genuine dispute. As Randy did not contest the summary judgment, entry of the judgment in favor of the Service was inevitable. The court addressed Section 3713 of the United States Code.

An insolvent person or a representative of an insolvent person, such as a trustee for a trust or a personal representative for an estate, is PERSONALLY liable to the extent of unpaid Government claims. Thus, Randy, was liable if, as trustee, he distributed trust assets while the trust was insolvent and he knew or had “notice of facts that would lead a reasonably prudent person to inquire as to the existence of the debt owed to the United States”.

The court pointed out that Randy (1) had sole check signing authority over the trust, (2) as of April 15, 2001,  knew about the tax liability, and (3) transferred trust assets rendering the trust insolvent. The court determined that summary judgement was appropriate and found Randy liable for $175,042.16 plus prejudgment interest .

ADVICE: If you are a trustee, personal representative and/or the attorney or CPA representing such person, then you MUST be sure that all tax issues are resolved PRIOR to disbursing monies. Many people don’t realize that, even though a decedent may have not been currently paying taxes,  issues on prior tax returns may be outstanding. Obtain copies of the prior three (3) year tax returns and transcripts from the Service. If a personal representative or trustee must come “out of pocket” for taxes, then they may look to their advisor to make them whole.

WORD OF THE WEEK: Insolvent generally means that you are not paying your debts as they become due and/or your liabilities exceed you assets. In Florida, Section 726.103 of the Florida Statutes defines insolvency in a fraudulent transfer. For example, if you give $10,000 to your girlfriend for “safekeeping” and you are insolvent as defined in the statute, a creditor could have an action to obtain such money.



Leave a Reply

Your email address will not be published. Required fields are marked *