Considering Serving as Executor of an Estate Subject to a Tax Lien?

A recent case from the Southern District of Indiana might make you think twice.

Decedent died in Indiana.  The claims against the estate totaled $1,812,621.69. The distributable assets of the estate were only $266,872.70. Thus, the estate was insolvent.

A significant portion of the estate’s debt–$591,406.05–represented unpaid federal income taxes and Trust Fund Recovery Penalties. The IRS had filed Notices of Federal Tax Lien during the Decedent’s lifetime.

In connection with the estate insolvency proceedings, the executor filed a Motion for Hearing to Determine Claim Priorities. At issue was whether administrative expenses, including the executor’s fee and attorney fees, should be paid before the government’s claim. If so, presumably the executor and her attorney would receive all the assets of the estate and the government would receive nothing.

Under state law, funeral and administrative expenses normally take priority over other claims and get paid first if there are insufficient assets of the estate to satisfy all claims. See, e.g., T.C.A. § 30-2-317 [“All claims or demands against the estate of any deceased person shall be divided into the following classifications, which shall have priority in the order shown: First: Costs of administration, including, but not limited to, … reasonable compensation to the personal representative and the personal representative’s counsel”].

This case, however, involved federal law and had been removed to federal court. A Magistrate Judge determined that funeral and administrative expenses have no priority over a federal tax lien. 

The US District Court for the Southern District of Indiana, Indianapolis Division, agreed. It determined that the controlling law is not the Federal Priority Statute, 31 USC § 3713 (discussed in a previous post), but rather the Federal Tax Lien Act, 26 USC §§ 6321 – 6323. Under the FTLA:

If any person liable to pay any tax neglects or refuses to pay the same after demand, the amount (including any interest, additional amount, addition to tax, or assessable penalty, together with any costs that may accrue in addition thereto) shall be a lien in favor of the United States upon all property and rights to property, whether real or personal, belonging to such person.

However:

The lien imposed by section 6321 shall not be valid as against any purchaser, holder of a security interest, mechanic’s lienor, or judgment lien creditor until notice thereof which meets the requirements of subsection (f) has been filed by the Secretary.

Neither the executor nor her attorney fell within one of these exceptions, and there was no dispute that the government properly filed notice of its federal tax liens. Therefore, the District Court ruled that the government’s tax liens had priority. Because the federal tax lien exceeded the assets of the estate, the executor and her attorney stood to receive nothing.

Undoubtedly, the executor and her attorney provided valuable services to the estate, which services benefited the IRS as priority creditor. For this reason, the Court’s opinion might seem harsh and perhaps unjust. The Court was not entirely unsympathetic to this argument. It concluded the opinion as follows:

[The executor] argues that, under the Court’s conclusion, no reasonable personal representative or counsel would provide services under such impositions. The Court, however, notes that [the executor’s] policy argument is addressed and remedied by the procedures set forth in the Internal Revenue Manual (“IRM”). Pursuant to IRM 5.5.2.4(3), the Government “may in its discretion not assert priority over reasonable administrative expenses of the estate.”  The Government made clear that, if documentation is provided evidencing payments made by [the executor] to maintain the Property, the Government will allow [the executor’s] unreimbursed expenses to be paid ahead of the federal tax liens. 

Given that such reimbursement is in the discretion of the IRS, and that the IRM “does not confer rights on taxpayers,” the Court’s suggestion should provide little comfort to executors and their attorneys.

Source: In the Matter of the Estate of: Frederick Alan Simmons, Deceased, 2017 WL 3261781.

Posted by Joel D. Roettger, JD, LLM, EPLS

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