NE Office

503.380.7822

SE Office

503.719.5123

Our Blog

Here’s what we have to say.

Check Out Our Recent Blog Posts

Avoiding “Preference” Shock—Except When You Don’t Want To

posted on 11.22 @ 6:19 pm

The part of bankruptcy law which seems to go most against common sense involves “preferences”—payments that you make to creditors (even if you don’t see them as creditors) within a certain amount of time before your bankruptcy case is filed. In most cases, if you understand and avoid preferences you will much more likely have a smooth bankruptcy case.

The idea behind the term “preference” is that it is a payment to a creditor in preference to your other creditors. You’re playing favorites with one of your creditors. If you do make such a payment, after you file your bankruptcy case the trustee may have the right—depending on the facts—to require that creditor to “return” the amount of that payment, not back to you but rather to the trustee. Then the trustee can distribute that money to all your creditors evenly.If you paid this person because you felt a strong moral obligation to do so—such as to a relative or close friend—then it may be a financial hardship to that person (and intensely embarrassing to you) when the trustee forces that person to “return” the money you paid. In fact, you may well feel like you must make up for that lost money by paying that person again. NOT a good situation.

We’ll tell you the basic rules about preferences in a moment, but first suggest that you’ll understand the term better if you start by disassociating the term from its usual meaning. A payment may be “preferential” even if you are not playing favorites at all. Indeed, the preference payment is often paid unintentionally, such as through a garnishment. The purpose behind the trustee’s right to undo a preferential payment is to discourage creditors from being overly aggressive against a person who looks like they may be a candidate for filing bankruptcy. If creditors know that money they grab may have to be returned, they will tend to be less aggressive about pursuing someone who is hurting financially. At least that’s the theory.

So here’s the basic rule. A preference is a payment (usually money, but it can be any asset) made on a prior debt to a creditor (anybody to whom you legally owe money) during the period of 90 days or less before the filing of a bankruptcy. However, that period is stretched out to a full year before filing for payments made to “insiders”—basically relatives and business associates.

There are a lot of exceptions. An important one is if the payment was made not on a prior obligation but rather to buy something new—say if you bought a used car for $1,500 right before filing bankruptcy, the payment of that amount would not be a preference. Also, if the payment to any particular creditor is less than $600 in a consumer case, or less than $5,000 in a business case, the trustee cannot pursue the preference.If you come in to see us about filing bankruptcy, we will definitely ask you about payments made to creditors in the past year. But we suggest that instead of waiting for us to ask, tell us at the beginning of our initial meeting if within the prior year (or longer if you have any doubt how long it’s been) you paid money (or made payment by transferring assets instead of money) to anyone—especially to relatives or business partners or other associates. We may decide to delay filing a bankruptcy to avoid a payment being a preferential one, but sometimes we may want to hurry the filing to enable the payment to be preferential. In the latter case, in the right circumstances money that you thought was long gone could be retrieved from a creditor and potentially used by the trustee to pay a debt that benefits you, such as paying a child support arrearage or income tax debt that would otherwise not be written off in your bankruptcy.
As you can see, preferences are an unusual aspect of bankruptcy. If we address them appropriately, we can either avoid some bad surprises or occasionally give you a good surprise.

Income Tax Liens in Bankruptcy

posted on 11.08 @ 11:29 pm

If you have an income tax lien in force against you, that usually means that that you have a serious tax problem. The IRS and/or the Oregon Department of Revenue are taking some pretty aggressive enforcement action when they record a tax lien (called a “distraint warrant” by the Department of Revenue). In this blog we focus on taking care of tax liens on your real estate through bankruptcy.

First, a touch of background about tax liens. Simply put, the recording of a tax lien turns an unsecured income tax debt into a secured one. A debt that is not attached to any collateral changes into one that is. A tax lien (in the amount of the income tax/interest/penalties to which the lien applies) generally attaches to everything you own, although that can depend on exactly where the lien is recorded. In Oregon, the tax lien attaches to any real estate you own in the county where the lien is recorded.

When a tax lien is recorded, it does not step ahead of other pre-existing mortgages and liens on your home. Although taxes and their liens can be harder to get rid of in bankruptcy than some other kinds of liens, a tax lien sits on your title in the order that it was recorded. That order is very important when you file a bankruptcy.

Chapter 7

If you owe income taxes from a tax year that is far enough in the past and meets a number of other criteria, those taxes can be discharged (legally written off) along with your other debts. But if that tax debt is secured through a recorded tax lien, that lien continues to exist on the title of your home after your Chapter 7 case is completed and that tax debt is discharged.

What happens to the tax lien after the Chapter 7 bankruptcy is completed depends on whether there is any equity in the home to cover some or all of the value of that tax. The more there’s equity to cover some or all of the tax lien, the more leverage the taxing authority has to require a payment in order for it to release its tax lien. The payoff amount is usually determined through negotiations, turning on the specific facts of the case.  (Note that the homestead exemption does not protect any of the equity from a tax lien.)

If there is absolutely no equity because the value of the property is less than the prior mortgages and liens, then the taxing authority is usually willing to release its lien, perhaps requiring payment of a relatively small “nuisance value” in order to do so.

Chapter 13

Chapter 13 provides what is usually a much more definite mechanism for how much, if any, that you have to pay on a tax lien. In the Chapter 13 Plan we state how much equity in the home we think the tax lien attaches to (after deducting liens with a higher priority), and propose to pay that amount in the 3-to-5 year Plan. If there is no objection—or if the amount is adjusted after objection from the taxing authority—once that amount is paid through the Plan and your case is completed, the rest of the tax is discharged and the lien is released.

And if there is no equity available for the tax lien (because your home is worth less than the amount of the higher priority liens), then in your Plan we propose to pay nothing on the tax lien. That’s because for practical purposes the tax lien attached to nothing, with all available equity exhausted by other earlier liens. So again, at the completion of the case, the underlying tax is discharged, and the IRS/state must release the tax lien even though nothing was paid on it.

The above scenarios involved tax liens where the underlying tax debt is being discharged. In a Chapter 13 case, you can also pay income taxes that can’t be discharged and do so usually under much more favorable terms than outside of bankruptcy or after a Chapter 7 case. If an income tax that can’t be discharge is also secured by a tax lien, then that tax debt must be paid with a relatively modest amount of interest (with the interest rate determined by federal and state tax law). The interest is paid only to the extent covered by the equity in the home (or by any personal property covered by the tax lien). If the tax lien does not attach to any equity, because prior liens total more than the value of the home, then no interest needs to be paid. Either way, at the completion of the case, after the underlying debt has been paid through the Plan, as well as the interest on any secured portion, the tax lien is considered satisfied and is released.

2207 NE Broadway, Suite 350, Portland, Oregon 97232 T: 503.380.7822
1415 SE Ramona Street, Portland, Oregon 97202 T: 503.719.5123
Web Design By Harlo Interactive - Portland Web Design and SEO Company
© copyright of Kane Legal all rights reserved 2010