Creation of Lien page4

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Conclusions of Law

1. It is not the funtion of the Bankruptcy Court to consider or determine issues not directly connected with the administration of the bankruptcy proceeding.

2. Funds in a bankruptcy estate are in custody of the law and cannot be reached by attachment or garnishment proceedings or other proceedings of like purport and effect, without the permission and assent of the Bankruptcy Court. In re Argonaut Shoe Co., 187 Fed. 784; In re American Electric Telephone Co., 211 Fed. 88; and Burcher v. Vance, 36 Fed. (2d) 774; see also Nixon v. Michaels, 38 Fed. (2d) 420; In re Day Lumber Co., 40 Fed. (2d) 285, and In re Railroad Supply Co., 78 Fed. (2d) 530.

3. By reason by the agreement made in Philadelphia between Mr. Udell and Mr. Zion, Mr. Zion was given a lien upon any possible distribution that Mr. Udell would receive on the claim filed. This lien is effective when the services of the attorney primarily aid in producing the fund to which he is to look for compensation, and it is in the nature of an equitable lien.

4. That the lien for services arising in Mr. Zion's favor by reason of his representation of Mr. Udell in the bankruptcy proceeding is superior to any claim that the Collector of Internal Revenue could make for unpaid taxes asserted to be due from Mr. Udell because the fund to which both the Collector and Mr. Zion look was produced by reason of the services rendered by Mr. Zion. Filipowiez v. Rothensies, 43 Fed. Supp. 619, 625 [42-1 USTC ¶9300].

5. No good cause has been shown by the Collector of Internal Revenue why the Trustee should not proceed with the terms of the order of distribution made November 30, 1951, and why Mr. Zion should not receive the full benefit of his lien for services rendered to Mr. Udell, and enabled to deduct the agreed-upon percentage of recovery from the funds received from and paid by the Trustee in Bankruptcy in accordance with the authorization given by Mr. Udell at the time the claim was filed.

6. Neither the Referee nor the Trustee need recognize the attempt by the Collector to proceed against Lawrence Udell and as noted by the circumstances of this case.

Opinion

The Referee has to consider the effect of what was done by the Collector of Internal Revenue in purporting to give Notice of a Lien for unpaid taxes owned by Mr. Udell to the United States . The Referee has further to consider whether or not the claim of Mr. Zion for his lien for services rendered is paramount or superior to the lien claimed by reason of the unpaid tax liability. The Notice of Assessment was received by the Collector of Internal Revenue in July of 1950, long after Mr. Udell and Mr. Zion had agreed upon the amount of Mr. Zion's fee and the source to which he would look for payment. In cannot be guiusaid in this case but that Mr. Zion's efforts produced the fund over which Mr. Zion and the Collector are in dispute as to priority.

It is not necessary for the Referee to determine any question of fact because many of the facts appear from the record of this proceeding, and the Collector has not disputed the extent of Mr. Zion's services or the effect to be given to the results of his services.

[Government's Contention]

Unquestionably the Collector contends that the receipt of advice by the Collector's Office of the making of the assessment and the attempted giving of the Notice of the Lien to the Trustee was effective for all purposes; and that the lien arising from receipt of the Notice of the Assessment and the giving of the Notice of Lien is superior to any claim that Mr. Zion may make for a lien for his attorney's services.

I cannot agree. It has long been decided and understood that funds in the custody of a Bankruptcy Court are in custodia legis, and I have serious doubt than an agency of the United States had the right to ask the Bankruptcy Court--any more than is given to any other creditor of one who files as a creditor in a bankruptcy proceeding--to recognize the claim of the United States and to give effect to it in the course of and as part of the bankruptcy proceedings, and certainly not without the Collector having first made the appropriate approach to the Bankruptcy Court and asked and obtained permission to be injected into the bankruptcy proceedings.

In Nixon v. Michaels, 38 Fed. (2d) 420, 423, the Court commented that "the bankruptcy court has no jurisdiction to allow * * * parties to come into the bankruptcy court merely to litigate therein rights * * *" as against parties to the bankruptcy proceeding. It is observed by the Circuit Court of Appeals, In re Railroad Supply Co., 78 Fed. (2d) 530, 532, that "Notwithstanding the urge to decide the controversy between the two creditors * * * is strong, we realize the danger of such a precedent. We fear the effect would be the adption of a practice which would permit claimants to litigate their differences, which would result in the postponement of the final settlement of bankrupt estates. Creditors who are entitled to dividends should have them and should not be deferred until the judicial disposition of disputes between two creditors whose controversy is of no concern to other creditors or to the estate. * * *."

[Effect of Proper Application to File Lien Not Before Court]

I am not called upon to decide the question which has been considered by other Courts as to whether, on a proper application, the Court should allow a fund in its hands to be reached at the behest of a creditor of the person who could claim such fund. It may be good law to allow such an application, under appropriate terms and conditions which would protect the interests of all involved, although I entertain serious doubt whether a Bankruptcy Court can do anything more than perform the cuties provided by the Bankruptcy Act.

No burden, in my opinion, should be placed on a Bankruptcy Court otherwise than as envisaged by the Bankruptcy Act, certainly none that would delay in the settlement of the bankruptcy proceeding. See In re American Electric Telephone Co., 211 Fed. 88, and In re Chakos, 36 Fed. (2d) 776.

When the order of distribution was made, the Trustee distributed all the money in his hands except that payable on the claim of Lawrence Udell, and so he was without funds to continue payment of his premium on his bond. This, in turn, making the required out the estate and making the required report to the Clerk. This I consider as placing an additional burden on the Bankruptcy Court in that it works to interfere with the function of the Court and delays the settlement of the estate. Unquestionably this seriously affects the efficiency of the process of the Bankruptcy Court and should not be approved or tolerated unless it appears by the clear intendment of the State and the general provisions of the law that Congress had clearly and unequivocally provided that the lien for unpaid taxes under the provisions of $3670 of the Internal Revenue Code applies to bankruptcy proceedings. Inasmuch as it has been long recognized that funds in a bankruptcy court are in custodia legis and thus not reachably by usual process, I hold that §3670 does not apply to a bankruptcy proceeding.

[Final Conclusions]

I hold, therefore, that the receipt of the Notice of Assessment and the act and conduct of the Collector of Internal Revenue in injecting himself into these bankruptcy proceedings cannot be given effect.

If, however, it does appear that I have erred in falling to recognize what was done by the Collector's Office in this case, it is still nevertheless true that Mr. Zion's rights must be recognized, since those rights were established long before the Notice of Assessment was received in the Collector's Office and before any attempt was made to give Notice of the Lien to the Trustee in Bankruptcy.

It appears from the Findings of Fact that Mr. Udell, at the time of filing his claim, authorized Mr. Zion to receive from the Trustee what was expected to be received from the bankruptcy proceeding, and, in addition, Mr. Udell agreed on an oral assignment and that Mr. Zion could take his fee from the recovery. I, therefore, hold that Mr. Zion's claim must be recognized even though effect has to be given to §3670 of the Internal Revenue Code, and what transpired in and was attempted by the Collector's Office. This was established by Judge Kalodner in Filipowicz v. Rothensies, 43 Fed. Sup. 619, 624-625 [42-1 USTC ¶9300].

I, therefore, conclude that the Trustee need not under the circumstances present in this case recognize any further or give effect to what transpired in and was sought to be done by the Collector's Office--certainly not if Mr. Zion's rights are to be affected in any wise as a result.

The clause in the claim filed by Mr. Udell authorizing the Trustee to pay Mr. Zion Mr. Udell's share of what results from the administration of the bankruptcy proceeding is a direction that must be heeded by the Trstee, and, in the absence of any change in that authorization by Mr. Udell, the Trustee has no alternative but to follow the language of the claim and to deliver to Mr. Zion what has been found to be due Mr. Udell as a result of the administration of these bankruptcy proceedings. The effect of the Notice of Lien with respect to the money thus delivered to Mr. Zion need not be decided by me.

Order

At Wilmington , in said District on this said 21st day of April, 1952, upon the foregoing Findings of Fact, Conclusions of Law, and Opinion, it is

ORDERED that Isaac D. Short, 2nd, Trustee in Bankruptcy, draw and deliver a check to the order of Peter P. Zion, Attorney for Lawrence Udell, for $3,986.22, and in the form utilized under the bankruptcy practice, and to otherwise complete administration of these proceedings and make and submit his Supplemental Report showing completion of administration on or before thirty days from the date of this order.

^* The United States Attorney for this District appeared for the Collector of Internal Revenue, First Revenue District of New York, in opposition to the prayers of the petition. No brief has been received from the Collector or from the United States Attorney.

 

 

[60-1 USTC ¶9446]In the Matter of Fidelity Tube Corporation, Bankrupt. Borough of East Newark and Raymond J. Otis, as Trustee in Bankruptcy of Fidelity Tube Corporation, Appellants

(CA-3), U. S. Court of Appeals, 3rd Circuit, No. 12,837, 278 F2d 776, 5/3/60, Affirming unreported District Court decision

[1939 Code Secs. 3670-3972--similar to 1954 Code Secs. 6321-6323]

Lien for taxes: Post-bankruptcy demand for payment: Trustee in bankruptcy as judgment creditor.--The District Director's filing of claims for taxes with the referee in bankruptcy relates back to the date of the assessment against the bankrupt and satisfies the statutory requirement that there be a "demand" for payment in order for a tax lien to arise. A trustee in bankruptcy is not, by virtue of Section 70c of the Bankruptcy Act, a "judgment creditor" within the meaning of the Internal Revenue Code provisions making the filing of notice of a tax lien a prerequisite to its validity as against judgment creditors. Therefore, where the assessments were made prior to the adjudication in bankruptcy, the tax liens were valid as against the trustee even though notice of lien had not been filed, and were entitled to priority over claims for local taxes.

Allan L. Tumarkin, 9 Clinton Street, and James E. Masterson, 1180 Raymond Boulevard, Newark 2, N. J., for appellants. Richard M. Roberts, Department of Justice, Washington 25, D. C., for appellee.

Before BIGGS, Chief Judge, and GOODRICH, MCLAUGHLIN, KALODNER, STALEY, HASTIE, FORMAN, Circuit Judges.

Opinion of the Court on Rehearing

BIGGS, Chief Judge:

After attempting unsuccessfully to make an arrangement under Chapter XI of the Bankruptcy Act, as amended, 11 U. S. C. A. §701 et seq., Fidelity Tube Corporation was adjudicated a bankrupt on February 9, 1954. In the ensuing proceedings the United States filed a claim covering taxes in three categories ¹ alleged. One category consisted of claims in respect to which assessments and demands had been made prior to the adjudication. The second category consisted of claims in respect to which assessments had been made prior to bankruptcy but as to which demands, if any, were made after the adjudication. The third category consists of claims in respect to which assessments and demands were made after adjudication. The United States concedes that it does not have a lien as to the claims described in the third category set out above. As to the claims in the first and second categories, the United States asserts that it is a lien creditor for reasons stated hereinafter. The trustee contends as to the claims in categories one and two as stated above that they were not claims secured by liens but were entitled to priority only under Section 64a(4) of the Bankruptcy Act, 11 U. S. C. A. §104(a)(4).

The Referee held that the trustee was a "judgment creditor" within the purview of Section 3672 of the Internal Revenue Code of 1939 ² and that therefore recording of notice was a prerequisite if the claims of the United States were to be accorded liens valid against the trustee. It was conceded by the United States that no notice was filed as required by Section 3672 and the Referee accordingly gave the claims of the United States, as stated above, priority only under Section 64a(4) of the Bankruptcy Act. A petition for review was filed by the United States . The court below reversed the Referee. See 167 F. Supp. 402 (1958) [59-1 USTC ¶9216]. The trustee has appealed.

[Code Provisions for Tax Liens]

Section 3670 of the Internal Revenue Code of 1939 provides that the United States shall have a lien on all property and rights to property belonging to any person liable to pay any tax who refuses to pay such tax on demand. Section 3671 states that the lien shall arise at the time of the assessment and shall continue until the liability is satisfied or becomes unenforceable by reason of lapse of time.

Section 3672(a) provides for the filing of notice if liens are to be valid as against mortgagees, pledgees, purchasers, or judgment creditors. ³

The trustee contends that Section 70c of of the Bankruptcy Act, 11 U. S. C. A. §110(c), gives the trustee a status equivalent to that of a judgment creditor, i. e., a creditor who has obtained a judgment in a court of record. ⁴ The United States contends that under Section 70c the trustee is a "fictitious" judgment creditor, not the equivalent of one who has obtained a judgment in a court of record and therefore the trustee is not entitled to prevail against the United States .

We are confronted, therefore, in respect to the claims in category one, with a conflict between two federal policies. On one side there is the congressional intent to give the United States maximum assistance in collecting revenues. This intent is embodied in the lien laws set out in Sections 3670-3672 of the Internal Revenue Act of 1939. Opposing this is the policy of increasing the size of a bankrupt's estate available to unsecured creditors as expressed by Section 70c and other sections of the Bankruptcy Act. The court below concluded that United States v. Gilbert Associates, 345 U. S. 361 (1953) [53-1 USTC ¶9291], and other authorities required this conflict to be resolved in favor of the United States . ⁵ The appeal at bar followed. But aside from the issue as to the trustee's status as a judgment creditor there is another question which must be determined: viz., whether the claims of the United States falling in category two are secured by liens. This question is whether the fact that the District Director filed claims with the Referee can be considered compliance with the demand requirement of Section 3670 of the Internal Revenue Code. ⁶ We will deal with this question first.

[Demand for Payment]

The Referee in his decision, under the heading "Finding of Fact", stated the following: "The United States Treasury Department also proved that its claims have a lien status under 26 U. S. C. 6321 and 6322, ⁷ but such claims were not filed or recorded as required by 26 U. S. C. 6323 in order to make them effective as against judgment creditors." This is not a finding of fact but is a conclusion of law. The Referee did not pass specifically on the issue of whether the United States made demand for payment though perhaps the decision of this issue was inherent in his order. Under the Referee's view of the law it was not necessary that he discuss this question for if the trustee had the status of a creditor who had procured a judgment, the claims of the United States were not entitled to prevail against the trustee.

It is apparent that the issue of demand for payment was argued before the Referee since it was discussed in the briefs of the parties. The Trustee and the Borough of East Newark did not seek a review of the decision of the Referee on this point and therefore the finding of the Referee reached the court below unchallenged. But we cannot not perceive how the trustee or the Borough could have appealed from the Referee's decision on the demand point since the order of the Referee was in their favor. We cannot tell on the instant record whether or not the issue of demand was argued before the trial judge on the hearing on the petition for review since we do not have the briefs or a record of the oral arguments before us. But in its opinion, 167 F. Supp. at p. 403, the court below stated that "Its [the United States'] lien is valid and is entitled to payment out of available proceeds prior to a distribution to priority claimants." The trial judge reversed the Referee on the issue of the status of the trustee as judgment creditor and remanded the cause for proceedings not inconsistent with his opinion. We are of the opinion that the issue of the demand by the United States for payment of the claims in category two was before the court below and was adjudicated in favor of the United States . It would therefore appear to be before this court for adjudication on this appeal.

We must therefore decide three questions: (1) was a demand made by the United States for payment of its claims in the second category in conformity with Section 3670 of the Internal Revenue Code of 1939; (2) if a demand was validly made, is the United States entitled to prevail as a lien claimant on the claims under the second category against the trustee and the Borough; and (3) is the United States entitled to prevail against the trustee and the Borough on its claims in the first category? The second and third questions will be determined by identical principles of law.

[Claim in Bankruptcy Gives Rise to Tax Lien]

As to question (1) as set out in the preceding paragraph, it is clear that assessments were made on the claims in the second category before bankruptcy but demands for payment, if any, were made after adjudication and then only by the filing of formal claims for payment by the Collector with the Referee in Bankruptcy. If such claims would otherwise meet the requirements of Section 3670 of the Internal Revenue Code do the intervening bankruptcy proceedings render inoperative the provisions of Section 3671 which ordinarily would confer lien status.

As we have stated Section 3670 provides that when a person liable to pay a tax neglects or refuses to pay it "after demand" a lien arises in favor of the United States . Section 3671 provides in pertinent part: "Unless another date is specifically fixed by law, the lien shall arise at the time the assessment list was received by the Collector. . . ." It is the contention of the United States that the filing of the claims with the Referee by the Collector were effective demands and that these demands relate back to the time of the assessment, admittedly prior to the adjudication. In respect to the filing of a claim in a bankruptcy proceeding as constituting an effective demand we find a helpful analogy in the decision of the Court of Appeals for the Seventh Circuit in United States v. Ettelson, 159 F. 2d 193, 196 (1947) [47-1 USTC ¶9137]. In that case a claim was filed with a Probate Court against the estate of the deceased taxpayer and this was treated by Circuit Judge (later Mr. Justice) Minton as the equivalent of the demand required by Section 3670. In the case at bar as in Ettelson, the demand for payment was made at the only place that it could be made, i.e., in the bankruptcy proceeding. ⁸ Compare, however, In re Crockett, 150 F. Supp. 352 (N. D. Cal. 1957) [57-1 USTC ¶9559], which holds by inference that a claim for taxes by the United States in a bankruptcy proceeding is not a demand within the meaning of Section 3670. See and compare also Sherman B. Ruth, Inc. v. O. S. V. The Marie and Winifred, 150 F. Supp. 630, 632 (D. Mass. 1957 [57-1 USTC ¶9665]; In re Holdsworth, 113 F. Supp. 878, 879 (D. N. J. 1953) [53-2 USTC ¶9589], and 9 Mertens, Law of Federal Income Taxation §54.40. We have carefully considered these authorities but we think that logic compels us to follow the holding of the Court of Appeals for the Seventh Circuit in Ettelson. It is clear that if bankruptcy had not intervened the United States would have had a valid lien if demand was made prior to the date when the assessment became unenforceable by reason of lapse of time and we can find no provision of the Bankruptcy Act which would prevent a lien arising in favor of the United States under Sections 3670 and 3671 because of a delayed demand by the District Director.

In view of the provisions of Section 3671 an inchoate lien seems to arise at the time of the assessment which is perfected by a demand and when the demand is made the lien relates back to the date of the assessment, in the case at bar to a time prior to bankruptcy. Plumb, Federal Tax Collection and Lien Problems (Second Installment), 13 Tax L. Rev. 459, 488 (1958) states: "Furthermore, even if notice and demand have not been made before bankruptcy, they may be made thereafter and will relate back to perfect the lien arising upon the prior assessment." See also Macatee, Inc. v. United States, 214 F. 2d 717, 719 (5 Cir. 1954) [54-2 USTC ¶9550]. ⁹

[Trustee in Bankruptcy as Judgment Creditor]

This brings us to the second and third questions posed above, which as we have said, are governed by identical principles of law. Is the trustee in bankruptcy a "judgment creditor" within the purview of Section 3672? Our ruling must turn in large part upon an interpretation of the decision in United States v. Gilbert Associates, supra. In the Gilbert case the Supreme Court was confronted with the problem of priority between a federal tax lien and a tax lien of the Township of Walpole, New Hampshire, assessed before the recording of the federal lien. The Supreme Court of New Hampshire held that under the law of that State the assessment of such a tax was in the nature of a judgment and that the Township was a judgment creditor within the meaning of Section 3672 of the 1939 Code. See Petition of Gilbert Associates, Inc., 97 N. H. 411, 90 A. 2d 499 (1952) [52-2 USTC ¶9473]. The Supreme Court of the United States disagreed, holding that judgment creditor status created by a fiat of state law was not within the meaning of the phrase "judgment creditor" as used in Section 3672. Cf. United States v. Acri, 348 U. S. 211 (1955) [55-1 USTC ¶9138]. Relying on the Gilbert decision, the Second and Ninth Circuits respectively held that a trustee in bankruptcy was not a "judgment creditor" under Section 3672. Brust v. Sturr, 237 F. 2d 135 (2 Cir. 1956) [56-2 USTC ¶9954]; ¹⁰ United States v. England, 226 F. 2d 205 (9 Cir. 1955) [55-2 USTC ¶9693].

The trustee in the instant case argues that the Supreme Court's decision in Gilbert was motivated by a desire to procure uniformity among the States in determining questions relating to priority of payment of lien claims and that the Supreme Court ruled as it did because it feared that if each State was left free to designate who was or who was not a "judgment creditor" under their respective laws there would be lack of uniformity. The trustee contends that under Section 70c of the Bankruptcy Act there is no danger of heterogeneity since we are construing federal and not State law and that therefore the Gilbert decision is not apposite. But the Supreme Court stated, 345 U. S. at p. 364, "In this instance, we think that Congress used the words 'judgment creditor' in §3672 in the usual, conventional sense of a judgment of a court of record since all states have such courts." This language is decisive. It is true that the authorities cited do not deal with the interrelationship of the Internal Revenue Code with the Bankruptcy Act but we fail to see how the term "judgment creditor" can be given separate, divisive meaning based on the circumstances of the individual case.

[Bankruptcy Act Provisions]

We must concede that strong authority takes a contrary position particularly in view of the amendments effect to Section 70c of the Bankruptcy Act in 1950 and 1952. See 64 Stat. 26 and 66 Stat. 429. Section 70c, 11 U. S. C. A. §110(c), as it now exists and as it existed at the time of the adjudication in the instant case provides: "The trustee, as to all property, whether or not coming into possession or control of the court, upon which a creditor of the bankrupt could have obtained a lien by legal or equitable proceedings at the date of bankruptcy, shall be deemed vested as of such date with all the rights, remedies, and powers of a creditor then holding a lien thereon by such proceedings, whether or not such a creditor actually exists."

The legislative history indicates that it was the intention of Congress by the 1950 and 1952 amendments to expand the rights of a trustee in bankruptcy generally but the legislative history itself as well as the amendatory statutes leave in doubt the status of the trustee as a judgment creditor under the Internal Revenue Code. But see 4 Collier, Bankruptcy ¶70.49 n.3.

Moreover, there is presently pending in Congress a bill, H. R. 7242, which purports to remove and question as to the status of the trustee as a judgment creditor. See H. Rept. 745, 86th Cong., 1st Sess. p. 10. The report contains a lucid legislative history of Section 70c of the Bankruptcy Act. It is proposed by the bill to give the trustee the status of a creditor who has obtained a judgment against the bankrupt on the date of bankruptcy whether or not such creditor exists. We are of the opinion that the statute must be amended before a trustee in bankruptcy can prevail against the United States under circumstances similar to those at bar.

In the light of all the circumstances and the present state of the law we are constrained to agree with the judgment of the court below and we conclude, therefore, that the United States is entitled to prevail against the trustee and the Borough of East Newark on the issues presented. We do not find it necessary to pass on the issues which might have arisen under Section 67c, read in conjunction with Section 64a, clauses (1) and (2), of the Bankruptcy Act, 11 U. S. C. A. §§ 107(c) and 104(a), clauses (1) and (2), for no such issue is presented by the present record. ¹¹ Accordingly the judgment will be affirmed.

¹ The claims were based on Federal Unemployment, Withholding, and Federal Insurance Contribution Act (Social Security) Taxes.

² The Internal Revenue Code of 1939 applies to all aspects of this case. 26 U. S. C. A. §7851(a)(6)(B).

³ Section 3672(a) provides in part: ". . . [the] lien [imposed by section 3670] shall not be valid as against any mortgagee, pledgee, purchaser, or judgment creditor until notice thereof has been filed by the collector . . .."

⁴ Section 70c, 11 U. S. C. A. §110(c), provides in part: "The trustee, as to all property, whether or not coming into possession or control of the court, upon which a creditor of the bankrupt could have obtained a lien by legal or equitable proceedings at the date of bankruptcy, shall be deemed vested as of such date with all the rights, remedies, and powers of a creditor then holding a lien thereon by such proceedings, whether or not such a creditor actually exists."

⁵ For a further discussion of this problem see 4 Collier, Bankruptcy ¶67.24 n.6a.

⁶ Section 3670 provides: "If any person liable to pay any tax neglects or refuses to pay the same after demand, the amount . . . 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." [Italics added.]

⁷ The statutory references are to sections of the Internal Revenue Code of 1954. See note 2, supra.

⁸ The District Director of Internal Revenue in his claim filed with the Referee did not assert liens. He claimed only that the United States was entitled to priority of payment under Section 64 of the Bankruptcy Act. The fact that the District Director did not assert that the United States possessed liens is immaterial. If the claims fall within the purview of Sections 3670 and 3671 of the Internal Revenue Code, as we are of the opinion they do, the District Director is not required to assert a lien or liens. He has made claims on behalf of the United States and the applicable statutes give the claims lien status.

⁹ Section 67b. of the Bankruptcy Act, 11 U. S. C. A. §107(b), seems to contravene the contention of the Borough of East Newark and the trustee that the adjudication cut off the right of the United States to perfect its liens. Section 67b. provides that notwithstanding the provisions of Section 60 of the Bankruptcy Act statutory liens for taxes owing the United States may be valid against the trustee. The last sentence of Section 67b. states that where by the laws of the United States such liens are required to be perfected and arise but are not perfected before bankruptcy, "[T]hey may nevertheless be valid, if perfected within the time permitted by and in accordance with the requirements . . ." of the laws of the United States. The Borough of East Newark contends that the word "may" is permissive and that for the statute to effectively authorize the validation of the liens of the United States the word employed should have been the mandatory "shall." We are unable to find any adequate support for this proposition in the pertinent authorities.

¹⁰ Brust v. Sturr, 237 F. 2d 135 (2 Cir. 1956) [56-2 USTC ¶9954], seems to alter the position taken in United States v. Sands, 174 F. 2d 384 (2 Cir. 1949) [49-1 USTC ¶9264]. The later decision is in line with United States v. Gilbert Associates, 345 U. S. 361 (1953) [53-1 USTC ¶9291].

¹¹ The Referee has certified that "all debts entitled to priority under Section 104(a), clauses (1) and (2), have been paid."

In view of the state of the record the statement contained in the opinion, 167 F. Supp. at p. 403, "Its [the United States'] lien [sic] is valid and is entitled to payment out of available proceeds prior to a distribution to priority claimants.", cannot require revision for there are no outstanding claims falling within the category prescribed by clauses (1) and (2) of Section 64a.

[Dissenting Opinion]

KALODNER, Circuit Judge, dissenting:

I would reverse the judgment of the District Court.

Stripped down to its essence the majority's holding is that a trustee in bankruptcy does not have the status of a "judgment creditor" by virtue of the provisions of Section 70c of the Bankruptcy Act as amended in 1952. ¹ While the majority does not say so in so many words, that is the core of its holding that a trustee in bankruptcy is not a "judgment creditor" within the meaning of Section 3672 of the Internal Revenue Code of 1939.

In my view there just cannot be two varieties of a "judgment creditor" under separate federal statutes which relate to such creditors. A "judgment creditor" cannot be "fish" under one federal statute and "fowl" under another. Nor does a bankruptcy trustee have a dual personality--that of a "judgment creditor" in one room of the federal legislative structure and a total absence of it in another room of the same structure.

The majority's holding seriously interferes with the administration of the bankruptcy laws because it destroys the centuries-old concept of the common law and equitable jurisprudence which says that one who has levied attachment or execution is a judgment creditor and Section 70c specifically vests a bankruptcy trustee "with all the rights, remedies and powers of a creditor then holding a lien."

Further, it repeals by judicial fiat a federal statute--Section 70c--which in the plainest of terms vests a bankruptcy trustee with the status of a "judgment creditor." Moreover, it disregards the express ruling of the Supreme Court of the United States in Myers v. Matley, 318 U. S. 622 (1943), that a bankruptcy trustee is a "judgment creditor", and lastly, it is a reversal of this Court's holding in Salkind v. Dubois, 105 F. 2d 640 (1937) that the Bankruptcy Act makes the bankruptcy trustee a "judgment creditor."

In Myers v. Matley, supra, it was said (pp. 624, 625):

"The trustee, as to all property in possession and under the control of the bankrupt at the date of bankruptcy, is deemed vested, as of that date, with all the rights and remedies of a creditor then holding a lien on the property by legal or equitable proceedings, whether or not such a creditor actually exists." (Italics supplied)

In Salkind v. Dubois, the writer of the majority opinion, there speaking for this Court, said (p. 640):

"Pursuant to the provisions of section 47a(2) of the Bankruptcy Act, 11 U. S. C. A. §75(a)(2), ² a trustee is deemed vested with all the rights, remedies and powers of a creditor holding a lien by legal or equitable proceedings upon property coming into the custody of the bankruptcy court, and therefore the attempted reservation of property was void as against the trustee." (Italics supplied)

Another member of this Court, Judge Hastie, ³ speaking for the United States Court of Appeals for the Ninth Circuit, in Sampsell v. Straub, 194 F. 2d 228 (1952), cert. den. 343 U. S. 927, said (p. 231):

"Section 70, sub. c . . . is employed primarily to protect general creditors of the bankruptcy against secret liens. To this end the trustee is given all the rights which a creditor with a lien by legal or equitable proceedings would enjoy. The trustee unquestionably enjoys the rights of a creditor who has levied attachment or execution, on the bankrupt's property." (Italics supplied)

To the same effect see McKay v. Trusco Finance Co. of Montgomery, Alabama, 198 F. 2d 431 (5th Cir. 1952) which cited with approval Sampsell v. Straub, supra. In doing so, it stated (p. 433):

". . . It follows that under sec. 70, sub. c of the Bankruptcy Act, the trustee in this case was in the position of a judgment creditor with a lien as of the date of the bankruptcy. . . ." (Italics supplied)

It is true that the cases cited arose under the Bankruptcy Act prior to its 1950 and 1952 amendments but as the majority says "The legislative history indicates that it was the intention of Congress by the 1950 and 1952 amendments to expand the rights of a trustee in bankruptcy generally. . . ." In this connection the following excerpts from the "Historical Note" following Section 110, 11 U. S. C. A. are pertinent.

"1950 Amendment. Subd. (c) amended by Act March 18, 1950, to place the trustee in bankruptcy in the position of a lien creditor with respect to all of the bankrupt's property".

* * *

"1952 Amendment . . . Subd(c) amended by Act July 7, 1952, §23(e), to clarify the fact that a trustee has the rights of a lien creditor upon property in which the bankrupt has an interest or as to which the bankrupt may be the ostensible owner."

[Construction of Bankruptcy Act, as Amended]

Section 70c, although it does not, as amended in 1950 and 1952, use the term "judgment creditor" does spell out in the most definitive language possible the elements which make the bankruptcy trustee a "judgment creditor".

As amended in 1952 (in effect when the bankruptcy petition was filed in the instant case) Section 70c provides, in part:

". . . The trustee, as to all property, whether or not coming into possession or control of the court, upon which a creditor of the bankrupt could have obtained a lien by legal or equitable proceedings at the date of bankruptcy, shall be deemed vested as of such date with all the rights, remedies, and powers of a creditor then holding a lien thereon by such proceedings, whether or not such a creditor actually exists."

The Section, as amended, has been construed, in cases arising under it, to give the trustee in bankruptcy the status of a judgment creditor in language almost identical with that used in Myers v. Matley, Sampsell v. Straub and Salkind v. Dubois, supra.

In discussing the amended Section this Court, speaking through our brother Hastie, in In re Consorto Const. Co., Inc., 212 F. 2d 676 (1954), cert. den. 348 U. S. 833 said (p. 678):

"The trustee's rights under this Section are not derivative. They are not rights of any existing creditor to which the trustee is subrogated but are independent rights, of such character as a described hypothetical creditor would have enjoyed, created by the Bankruptcy Act itself. . . ." ⁴

In United States v. Eiland, 223 F. 2d 118 (4th Cir. 1955) [55-1 USTC ¶9487] the late Chief Judge Parker stated with respect to the 1952 version of Section 70c (p. 123):

"The effect of the section as amended is to vest the trustee, not only with rights with respect to the bankrupt's property which creditors had acquired at the date of bankruptcy, but also with all rights which creditors might have acquired by legal or equitable process on that date. . . ." (Italics supplied)

In B. F. Avery and Sons Company v. Davis, 226 F. 2d 942, 945 (5th Cir. 1955), it was held that "the rights" of a bankruptcy trustee are those of a "judgment creditor", and in Brookhaven Bank & Trust Company v. Gwin, 253 F. 2d 17 (5th Cir. 1958), where the status of the bankruptcy trustee was at issue, it was said (p. 23):

". . . the 'strong-arm clause' of Section 70c . . . vested in the trustee all of the rights, remedies and powers of a creditor, whether existing or not, who held or who could have obtained a lien by legal or equitable proceedings."

The Seventh Circuit, in In Re Lustron Corp., 184 F. 2d 789 (1950) cert. den. 340 U. S. 946, construed Section 70c, as amended in 1950, to vest in a bankruptcy trustee the rights of a "judgment creditor armed with an execution", and in In re Ripp, 242 F. 2d 849 (1957) held Section 70c, as amended in 1952, to do likewise. In In re Lustron, supra, it was said (p. 793):

"Under the section [70c], as amended by the Act of March 18, 1950, the trustee is also vested, as of the date of bankruptcy, with all the rights, remedies and powers of a creditor holding a lien thereon, legal or equitable, whether or not such creditor exists, as to all property of the bankrupt, whether or not coming into possession or control of the court." In a footnote to that statement (Footnote 1) the Court said:

"The language of the amendment is all inclusive, thus embracing in the terms 'legal or equitable', a judgment creditor armed with an execution, specifically mentioned in the section prior to the amendment." (Italics supplied)

In In re Ripp, supra, the Seventh Circuit, with respect to Section 70c, as amended in 1952, said (p. 852):

"Under Sec. 70 of the Bankruptcy Act, 11 U. S. C. A. §110 . . . the trustee is vested . . . under subsection c, with 'all the rights, remedies, and powers of a creditor then holding a lien . . . whether or not such a creditor actually exists.' . . . From the time of the filing of the petition, the assets are in custodia legis and over them the bankruptcy court had exclusive jurisdiction and the sole light to determine the validity of any and all alleged liens thereon. . . .

"So here, when the trustee in bankruptcy was appointed, his title to all assets in the bankrupt's custody, possession or control passed to him; and, in addition, he was vested with all the rights of judgment creditors armed with execution liens. The court thereby obtained jurisdiction of the rem, exclusive custody over it." (Italics supplied)

The views expressed by the four circuits in the cases cited were subscribed to by the Second Circuit prior to Brust v. Sturr, 237 F. 2d 135 (1956) [56-2 USTC ¶9954] where it held that a trustee in bankruptcy is not a "judgment creditor" under Section 3672 of the 1939 Internal Revenue Code. Two years earlier, in Constance v. Harvey, 215 F. 2d 571 (1954), cert. den. 348 U. S. 913, the Second Circuit held a bankruptcy trustee to be a judgment creditor under Section 70c as amended in 1952, stating (p. 575):

". . . under §70, sub.c of the Bankruptcy Act the Trustee was entitled to be put in the position of an 'ideal' hypothetical creditor--Hoffman v. Cream-O-Products, 2 Cir., 180 F. 2d 649, certiorari denied 1950, 340, U. S. 815, 71 S. Ct. 44, 95 L. Ed. 599. . . ." ⁵

Earlier, in 1949, the Second Circuit, in United States v. Sands, 174 F. 2d 384 [49-1 USTC ¶9264], expressed a similar view with respect to Section 70c, as then constituted.

The text writers are in accord with the view that a bankruptcy trustee is a "judgment creditor" under Section 70c as amended in 1952: Collier on Bankruptcy, 14th ed. (1958) Vol. 4, par. 70.49, pages 1410 et seq.; Remington on Bankruptcy, 1957 ed., Vol. 3, pages 557, 558, 559; Seligson, Creditors' Rights (1957) 32 N. Y. U. L. R. 708, 31 J. of Nat'l Ass'n of Ref. 113.

The majority apparently has been impelled to its view that a bankruptcy trustee is not a "judgment creditor" under Section 70c, irrespective of the powers therein vested in him because the section has not appended the definitive label "judgment creditor" to the trustee's statutory vestments.

It says that the "language" used in United States v. Gilbert Associates, 345 U. S. 361 (1953) [53-1 USTC ¶9291] "is decisive" and quotes in that connection this statement (p. 364):

"In this instance, we think Congress used the words 'judgment creditor' in 3672 in the usual, conventional sense of a judgment of a court of record, since all states have such courts."

The statement quoted must be considered in the light of the two sentences which preceded it. They read as follows:

"A cardinal principle of Congress in its tax scheme is uniformity, as far as may be. Therefore, a 'judgment creditor' should have the same application in all the states. . . ."

A reading of the Supreme Court's opinion in the Gilbert Associates case discloses that the reason for its decision was the Court's desire to assure uniformity in the collection of federal taxes and its apprehension that such uniformity would be imperiled if the various states or their subdivisions applied their own standards or criteria in determining what constitutes a "judgment creditor".

It became necessary for the Supreme Court to construe "judgment creditor" as used in Section 3672 because the statute did not define the terms or spell out its elements.

However, as it was earlier pointed out, Section 70c, as amended, clearly and concisely spells out in unmistakable language the elements which constitute the bankruptcy trustee a "judgment creditor".

The United States takes the position (in its brief) that the amended Section 70c makes a bankruptcy trustee a "constructive or statutory judgment creditor" but says that such a creditor "is not a creditor in the usual, conventional sense of a judgment of a court of record" and that "only the creditor in this conventional sense of a judgment of a court of record is within the meaning of" Section 3672. It adds the rather unique statement that "The terms of the Bankruptcy Act state that the trustee in bankruptcy does occupy the fictitious position of a judgment creditor." (Italics supplied)

All that need be said with respect to that contention is that if Section 70c makes a bankruptcy trustee a "statutory judgment creditor" such a status more than meets the requirement of a `judgment creditor' in the usual conventional sense of a judgment of a court of record" as specified in United States v. Gilbert Associates, supra.

[Committee Report]

Significant to this discussion is the following excerpt from the "Statement" in H. R. Rep. No. 1293, 81st Cong. 1st Sess. 4 (1949) in connection with the 1950 amendment to Section 70c:

"Traditionally, it is the primary office of the Bankruptcy Act to protect creditors, both secured and unsecured; to marshal the bankrupt's assets; and to distribute them among his creditors equitably and ratably, in accordance with their respective rights and interests. It follows from these broad general principles, as well as from the basic provisions of the Bankruptcy Act itself, that--

(A) a trustee in bankruptcy occupies the position of a 'universal' judgment or lien creditor, with all such a creditor's remedies (Bankruptcy Act, sec. 70. . . ." (Italics supplied)

Prefacing the "Statement", the House Report, under the caption, "Purposes Of The Bill" said in part:

"(b) Section 2 of the bill amends section 70c of the Bankruptcy Act, dealing with the general rights of a trustee in bankruptcy, and is essentially correlative to the amendment to section 60a, effected by section 1 of the bill. Under existing law, a trustee, as to all property in the possession or under the control of the bankrupt at the date of bankruptcy, is deemed vested, as of the date of bankruptcy, with all the rights of a creditor then holding a lien by legal or equitable proceedings, and, as to all other property, with the rights of a judgment creditor then holding an unsatisfied execution. In view of the amendment made to 60a as well as intrinsically, it is deemed wise to place the trustee in bankruptcy in the position of a lien creditor with respect to all of the bankrupt's property, and section 2 of the bill so amends section 70c. . . ." (Italics supplied)

In the "Committee Amendment" section of the House Report it is said:

"(5) . . . Section 2 is the amendment to section 70c of the act above referred to, which has been placed in the bill for the protection of trustee in bankruptcy as correlative to the amendment to section 60, and also to simplify, and to some extent expand, the general expression of the rights of trustees in bankruptcy." (Italics supplied)

The legislative history cited makes clear the Congressional intent to vest the bankruptcy trustee with all of the rights and remedies of a "judgment creditor" armed with execution liens as of the date of the bankruptcy. As was said by Professor Seligson in Creditors' Rights, supra:

"It is immaterial that the trustee is not described as a 'judgment creditor' in the statute if Congress intended to give him that status with all the rights, remedies and powers flowing therefrom. The trustee is the ideal judicial lien 'creditor' and he enjoys that status whether or not such a creditor exists. The greater includes the lesser. Hence, the ideal judicial lien creditor must necessarily be a 'judgment creditor.'

"That Congress intended to give the trustee the status of a 'judgment creditor' is prefectly plain. . . ."

For the reasons stated I would reverse the judgment of the District Court on the ground that it erred in holding that "A trustee in bankruptcy is not a judgment creditor within the purview" of Section 3672 of the Internal Revenue Code of 1939.

[Post-Bankruptcy Demand for Payment]

Apart from the foregoing, I further disagree with the majority's holding that the United States has a lien status with respect to the claims in the second category ⁶ even though no demand for payment had been made prior to bankruptcy.

Section 3670 of the Internal Revenue Code of 1939 provides in part:

"If any person liable to pay any tax neglects to or refuses to pay the same after demand, the amount . . . shall be in a lien in favor of the United States . . . ." (Italics supplied)

Cognizant of the statutory requirement that a "demand" for payment must be made in order to confer a lien status on the assessment on which it is based, the majority, despite the intervention of bankruptcy before any demand was made, holds that the mere filing of a "claim" subsequent thereto, with the Referee in Bankruptcy, satisfied the statutory "demand" requirement.

Says the majority:

"In view of the provisions of Section 3671 an inchoate lien seems to arise at the time of the assessment which is perfected by a demand and when the demand is made the lien relates back to the date of the assessment, in the case at bar to a time prior to bankruptcy." (Italics supplied)

The sum of the majority's position is that the courts may, via a "nunc pro tunc", "relate back" a post-bankruptcy "demand" to a pre-bankruptcy "demand".

I disagree.

The majority's disposition does violence to the distribution concept and plan of the Bankruptcy Act.

As was said in United States v. Sampsell, 153 F. 2d 731, (9 Cir. 1946) [46-1 USTC ¶9186], later reversed on other grounds, United States v. Sampsell, supra, at page 735:

"The Act was intended to set up a particular scheme of distribution not to be varied by exceptions found outside the Act, since to do so would interfere with a well-ordered and efficient working Act. . . . [T]he Bankruptcy Act has its own schedule of priorities intended to cover all situations within its terms and jurisdiction."

The Second Circuit expressed the same view in United States v. Sands, 174 F. 2d 384 (1949) [49-1 USTC ¶9264], where the impact of the Bankruptcy Act on the lien provisions of the Internal Revenue Code of 1939 was concerned. Said the Court (pp. 385-86):

". . . The Statutory provisions [Section 67 of the Bankruptcy Act] for the collection of unpaid taxes show a complete scheme for the protection of the government revenues of the very kind which the bankruptcy provision is designed to uphold, even though bankruptcy ensues. . . .

"Sec. 67, sub.b, of the Bankruptcy Act preserves certain statutory liens, including those for taxes and debts owing to the United States, even though arising or perfected while the debtor is involvent and within four months of bankruptcy; indeed, it goes further and allows the perfecting of such liens as have arisen, but have not been perfected, before bankruptcy. By §67, sub.c, however, such liens for taxes 'on personal property not accompanied by possession of such property' are postponed to the first two priorities of §64, sub.a, supra, even though valid under §67, sub.b, unless they have been enforced by sale before bankruptcy. . . ." (Italics supplied)

In In re Lustron Corp., supra it was said (p. 794):

"The various provisions of the Act reflect a well coordinated general plan for the accomplishment of equal distribution of the bankrupt's property amongst the bankrupt's creditors. The trustee, as the hand of the court, collects the assets, protects them, and brings them before the court for final distribution; he is trustee for all who have interests, according to those interests . . . Once a petition has been filed, the court's exclusive and paramount jurisdiction extends to all the bankrupt's property, except as otherwise provided in the Act. . . . Upon the filing of a petition the custody of the bankruptcy court attaches over all the property in its actual or constructive possession. . . ." (Italics supplied)

This Court has held with reference to another provision of the revenue laws--the predecessor to Section 3672 of the 1939 Internal Revenue Code--that it must be construed according to its terms. In United States v. Beaver Run Coal Co., 99 F. 2d 610 (1938) [38-2 USTC ¶9540], ⁷ where the United States had not filed notice of its lien in accordance with the requirements of the statute, we said with respect to the failure to do so (pp. 612-613):

"Notwithstanding its failure to comply with the requirements of the very act creating its lien, the United States contends its lien is entitled to priority in this case.

"This contention cannot be sustained. Whether a statute creating a lien is to be given a liberal or a strict construction, it is well established that "the character, operation and extent of the lien must be ascertained from the terms of the statute which creates and defines it, and the lien will extend only to persons or conditions provided for by statute, and then only where there has been at least a substantial compliance with all the statutory requirements.' . . . Positive legislative enactments prescribing conditions essential to the existence and preservation of a statutory lien cannot be disregarded. . . .

"It is a well established doctrine that a clear, unambiguous statute must be literally construed. . . ." (Italics supplied) ⁸

The majority's holding here that a "demand" made subsequent to bankruptcy "relates back to the date of assessment" and thus meets the requirements of Section 3670 which requires that a "demand" must be made in order for a tax lien to accure is in direct conflict with our express ruling in In re Lambertville Rubber Co., 111 F. 2d 45 (1940). We there held that there must be, ab initio, a compliance with the provisions of the revenue statutes creating tax liens in order for the latter to inure.

In that case the Commissioner had made an assessment for taxes due the United States but it was not received by the Collector of the district in which the taxpayer maintained its office or place of business. Later an involuntary petition in bankruptcy was filed against the taxpayer and a trustee was appointed. He paid the amount due the United States ⁹ and it later developed that the assets of the bankrupt estate were insufficient to meet expenses of administration. The court below refused to surcharge the trustee with the tax payment stated. We reversed. In doing so Chief Judge Biggs, speaking for the Court, stated (p. 48):

". . . Nor may it be contended that the claim of the United States was a lien upon the property of the debtor. R. S. §3186, May 29, 1928, c. 852, Sec. 613, 45 Stat. 875, 26 U. S. C. A. Int. Rev. Code §3671, provides that the lien of a tax due the United States shall arise when the assessment list is received by the collector. The record of the case at bar is devoid of any evidence that an assessment list including this item of tax was ever received by the collector of the district in which the debtor maintained its office or place of business. It follows that the claim of the United States was entitled to priority simply as provided by Section 64. . . ."

With respect to the district court's citation of Section 67b of the Bankruptcy Act as permitting tax claims of the United States to be "perfected" after bankruptcy, it was said (p. 49):

". . . The District Court refused the surcharge because it was of the opinion that since the United States and the State of New Jersey could have perfected their liens their claims must be treated as if they had done so. We cannot approve such a principle. A tax lien is created by doing certain acts provided by statute. If those acts are not accomplished, no lien comes into being." (Italics supplied)

We adhered to the doctrine expressed in Freeman v. Mayer, 253 F. 2d 295 (1958) where we held that proceeds of collection of tax obligations by the Collector of Internal Revenue were subject to priorities of the Bankruptcy Act. In this case, following the filing of a bankruptcy petition, the Collector collected from certain of the bankrupt's creditors sums due the bankrupt at the time of bankruptcy "and not paid for at the time the Collector levied upon all of Brokol's [bankrupt's] personal property and closed its establishment." The question presented was "whether the taxing authorities may keep this money or whether they must surrender it to the trustee in bankruptcy." Our answer was that the trustee in bankruptcy, under Section 67, sub.c, of the Bankruptcy Act, was entitled to the funds so collected by the Collector because of his failure to give notice to the bankrupt's creditors from whom collection was made that "a levy is being made upon that which he [bankrupt] owes, or the service of appropriate notice upon the debtor purporting to appropriate the debt to the satisfaction of the tax lien."

The majority's holding in the instant case that "demand" made after bankruptcy may be antedated to such bankruptcy nullifies Section 64a(4) of the Bankruptcy Act. Under that Section, when bankruptcy proceedings have been instituted, tax claims of the United States which do not have a lien status at the time the bankruptcy petition is filed are not eligible to any recovery other than that granted by the Bankruptcy Act which specifies a fourth priority among general creditors after the payment of any liens which are valid against the trustee.

There the government's claims in the second category--assessments made prior to bankruptcy but as to which no "demand" was made prior to bankruptcy--did not have a lien status under the plain terms of Section 3670 of the Internal Revenue Code of 1939 which provide that in order to confer a lien status upon an assessment there must be a "demand" for payment of the assessment and a "neglect or refusal to pay" such assessment.

The majority, it may be noted parenthetically, has given no consideration to the statutory requirement of "neglect or refusal" to pay, and here it is obvious that since no "demand" was made for payment of the assessment prior to bankruptcy there was no "neglect or refusal" to pay on the part of the bankrupt taxpayer.

[Summary of Dissent]

The sum of my view may be stated as follows:

Section 3670 of the Internal Revenue Code of 1939 specifically provides that a lien for taxes accrues to the United States only after a "demand" for payment is made on the "person liable to pay" and he "neglects or refuses to pay", and further, that the lien when it accrues "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."; in the instant case there was no "demand" for payment on the taxpayer, the "person liable to pay", prior to bankruptcy, nor any neglect or refusal on his part to pay, and consequently a tax lien did not accrue against property "belonging" to him and on the filing of the petition in bankruptcy the exclusive custody of the bankruptcy court attached to all of the bankrupt taxpayer's property and it being in "custodia legis" the property no longer "belonged" to the bankrupt taxpayer and accordingly there could no longer be a compliance with the provision of Section 3670 that the tax lien accrued "upon all property . . . belonging to such person."

Otherwise stated, bankruptcy acts as a "cut-off" to the making of a "demand" for payment on the "person liable to pay"; or the accrual of a tax lien against property "belonging to such person", and further, since the terms of Section 3670 are "clear and unambiguous" and its provisions extend only to the "person liable to pay" and "property belonging" to him, the notice of claims filed with the Referee, even if they can be regarded as a "demand", could not retroactively accord the status of a tax lien to the assessment on which they were based.

In Goggin v. California Labor Div., 336 U. S. 118, 125-126 (1949) [49-1 USTC ¶9142] it was explicitly held that the government's rights against the bankrupt estate are "determined at the time of bankruptcy". In doing so it cited Everett v. Judson, 228 U. S. 474, 479 (1913) where it was said:

"We think that the purpose of the law was to fix the line of cleavage with reference to the condition of the bankrupt estate as of the time at which the petition was filed, and that the property which vests in the trustee at the time of adjudication is that which the bankrupt owned at the time of the filing of the petition."

As stated in Collier on Bankruptcy, 14th ed. (1958) Vol. 4, para. 67.26, page 277:

"The general rule in bankruptcy is that the filing of the petition freezes the rights of all parties interested in the bankrupt estate."

United States v. Ettelson, 159 F. 2d 193 (7 Cir. 1947) [47-1 USTC ¶9137], cited by the majority, where a claim for unpaid taxes filed with a state Probate Court against the estate of a deceased taxpayer, was treated as the equivalent of the "demand" required by Section 3670, is totally inapposite. In that case bankruptcy had not intervened prior to the "demand".

[Priority of Claims in Bankruptcy]

Assuming that I am in error in my view that the United States, for the reasons aforementioned, did not have any lien status with respect to its claim in the second category, it seems to me incontrovertible that these claims, for a further reason, would be subordinated to expenses of administration and preferred wage claims in accordance with the provisions of Section 64(a) pursuant to Section 67c of the Bankruptcy Act.

Section 67c(1) provides that ". . . statutory liens, including liens for taxes or debts owing to the United States or to any State or subdivision thereof, on personal property not accompanied by possession of such property . . . shall be postponed in payment to the debts specified in clauses (1) and (2) of subdivision (a) of section 64. . . ." (Italics supplied).

Section 64(a)(1) relates to expenses of administration and Section 64(a)(2) relates to preferred wage claims.

In view of the fact that in the case at bar the schedules filed by the bankrupt disclosed that all its assets were "personal property" and the United States makes no contention that it had "possession" of such property at the time the bankruptcy petition was filed, the provisions of Section 67c(1) and Section 64(a)(1)(2) are applicable.

We specifically so held in In re Pennsylvania Central Brewing Co., 114 F. 2d 1010 (1940), cert. den. 312 U. S. 685. Speaking for the Court, Chief Judge Biggs there said (p. 1012):

"We are of the opinion that Congress has elected to treat personal property and real estate upon different bases. This is clearly one of the purposes of Section 67, sub. c. If there is a statutory lien upon personal property not accompanied by possession . . . such liens are postponed in payment to expenses of administration and wage claims. If however, the statutory lien is upon real estate, it is not postponed but is payable strictly pursuant to the provisions of Section 67, sub. b." ¹⁰ (Italics supplied)

In accord is the following statement in Plump, Federal Tax Collection and Lien Problems (Second Installment), 13 Tax L. Rev. 459, 488 (1958):

"As against personal property, however, a federal tax lien not enforced by seizure or sale before bankruptcy is subordinated to administration expenses and preferred wage claims."

What has been said on this score also applies to the claims of the United States in the first category, where assessment and demand were made prior to bankruptcy, since assuming arguendo, that these claims had a lien status as held by the majority, such lien merely attached to cpersonal property not accompanied by possession", and consequently must be subordinated to the payment of expenses of administration and preferred wage claims.

It is true that what has been said as to the subordination of the government's claims in the first and second categories to expenses of administration and preferred wage claims may be considered academic in view of the circumstance here that the administration expenses and preferred wage claims were actually paid prior to the government's claims, but the fact remains that the majority's opinion accorded to the government's claims a top priority over the expenses of administration and preferred wage claims, and its ruling in this respect may be cited as a precedent in other cases. That that is so is evident from the majority's holding "that the United States is entitled to previal against the trustee and the Borough of East Newark on the issues presented." (Italics supplied).

The District Court, as the majority points out, stated in its opinion, 167 F. Supp. at p. 403 that "Its [the United States'] lien is valid and is entitled to payment out of available proceeds prior to a distribution to priority claimants." Further, the District Court expressly stated: "The liens of the Government are valid as against the trustee in each case." (Italics supplied). The Order of the District Court, under appeal, is in consonance with its opinion, and the majority has expressly affirmed it.

There remains this to be said.

The majority's holding gives a priority to the government's tax claims in categories 1 and 2 over the tax claims of the Borough of East Newark. Since in my view both the government's claims and the Borough's tax claims come within the fourth priority as established by Section 64(a)(4) they must share pro rata in the funds available for distribution.

That that is so was settled in Missouri v. Ross, 299 U. S. 72 (1936) where it was said (pp. 74-75):

"The intention clearly was to put these various governmental units in respect of their taxes upon terms of equality with one another. Since Congress was at pains to set forth the order of priority in distinct paragraphs under separate numerals, we are unable to reach any other conclusion. If it had been intended to establish priorities as among the governmental units named in the order in which they appear in the 6th paragraph [now 64a(4)], the very structure of §64 b plainly suggests that each would have appeared under a separate numeral instead of all being grouped under a single numeral."

As Collier on Bankruptcy para. 64.401 puts it:

"General Analysis of §64a(4).

"All tax claims are placed on an equal footing within §64, and no preference may be given to federal over state taxes, or to state over municipal taxes; if the estate is insufficient to pay all taxes in full, a pro rata distribution is contemplated."

For the reasons stated I would reverse the Order of the District Court and remand with directions to affirm the Order of the Referee.

Circuit Judge Hastie joins in this dissent.

¹ Act of July 7, 1952 c 579, 66 Stat. 429. 11 U. S. C. A. §110(c).

² The precessor of Section 70c of the 1952 Act.

³ Sitting by special designation.

⁴ In Re Sayre Village Manor, 120 F. Supp. 215 (D. C. N. J. 1954) it was held that a bankruptcy trustee is a "judgment creditor holding a lien," under Section 70c as amended in 1952.

⁵ In Hoffman v. Cream-O-Products, which incidentally, construed Section 70c prior to its 1950 amendment, the court said at page 650:

"That section [70c], as has been repeatedly held, confers the status of an ideal lien creditor on the trustee, whether such a creditor exists or not . . .."

⁶ As the majority put it:

"The second category consisted of claims in respect to which assessments had been made prior to bankruptcy but as to which demands, if any, were made after the adjudication."

⁷ The spokesman for the majority, Chief Judge Biggs, was a member of the panel in this case.

⁸ To the same effect see Miller v. Bank of America, N. T. & S. A., 166 F. 2d 415, 417 (9 Cir. 1948) [48-1 USTC ¶9185] where it was held that Sections 3670 and the related Sections 3671 and 3672 are "clear and unambiguous" and must be "literally construed."

⁹ The trustee also paid certain unemployment compensation tax claims of the State of New Jersey .

¹⁰ See also California State Department of Employment v. United States, 210 F. 2d 242 (9th Cir. 1954) [54-1 USTC ¶9218].

 

 

71-1 USTC ¶9492]Robert Adams, Plaintiff v. United States of America , Defendant

U. S. District Court, Dist. Neb., Civil 03280, 38 FSupp 228, 6/11/71

[Code Secs. 761 and 6321--Result unchanged by '69 Tax Reform Act]

Lien for taxes: Withholding and social security taxes: Partnership: Demand for payment on individual partner.--The Court, after determining that a partnership existed to operate an automobile body shop, held that the Government's lien for unpaid withholding and security taxes against the partnership attached to a bank account in the name of the partnership but which was the personal assets of the partners. The demand on the partnership was a demand upon all the partners and the lien arose on the personal property of the individual partner.

James P. Costello, Aquila Ct. Bldg., Omaha , Neb. , for plaintiff. Robert Becker, Assistant United States Attorney, Dist. of Neb., John Mullenholz, Department of Justice, Washington, D. C. 20530, for defendant.

Memorandum

ROBINSON, Chief Judge:

THIS MATTER comes before the Court after the trial of the action and its submission to this Court.

Respective counsel had requested a delay in a ruling in this matter in order to have transcript prepared and to submit briefs in accordance therewith. The transcript of the trial has been submitted to the Court and briefs have been requested of the parties by the Court and the time for their submission has long passed. The Court is now ready to render its decision and in so doing announce its finding of fact and conclusions of law in accordance with Rule 52 of the Federal Rules of Civil Procedure.

Jurisdiction for the suit is founded upon 28 U. S. C. A. 1340 and Section 7426 of the Internal Revenue Code of 1954.

On April 18, 1969, the defendant levied upon a bank account located in the First West Side Bank, Omaha , Nebraska , and as a result of this levy obtained $5,747.28. Said levy was pursuant to 26 U. S. C. A. §6331. ¹ This bank account was in the name of Ralph's Body Shop and was levied upon in order to satisfy a tax lien that had been levied against a business known as Ralph's Body Shop.

The tax liability for which the levy was made was for withholding and social security taxes and unemployment insurance that was withheld from Ralph's Body Shop's employees but not remitted to the Government. The lien arose pursuant to 26 U. S. C. A. §6321. ²

Prior to this levy plaintiff and a Ralph Wolff [hereinafter Wolff] had entered into a business arrangement. In accordance with this agreement plaintiff provided Wolff with a shop in which Wolff carried on a body shop business. Plaintiff paid all expenses except for the wages of employees and the monies that were left over after these expenses, were split between plaintiff and Wolff. Wolff was responsible for paying the wages of employees out of his percentage. Accordingly, it was the responsibility of Wolff to pay for the employees' taxes which were not remitted to the Government. Initially, the arrangement called for plaintiff to receive 30% of the monies left after expenses and Wolff to receive 70%. These percentages were periodically adjusted so that at the time of the levy plaintiff's cut was 15% and Wolff's was 85%.

The initial capital for this venture was put up by a Mr. Richard Rogers [hereinafter Rogers ]. He was referred to at the trial as a "silent partner" of plaintiff. Rogers put up $1000.00 which was used to set up the business. Rogers and plaintiff had an agreement whereby they would split fifty-fifty the monies realized from plaintiff's percentage of profits from Ralph's Body Shop.

Wolff, in addition to being responsible for the hiring of all help was also the shop foreman. He used the same tax numbers for this business as he had previously used in a similar venture.

The business was in operation from June 19, 1967, until February of 1969. During this period of time the total profit credited to Adams and his partner Rogers was $6,911.42, or $3,455.76 each. Of this amount they withdrew a total of $1600-$800 apiece. The rest was allowed to remain with the First West Side Bank account for use in the business. Both plaintiff and Rogers reported on their 1968 federal income tax returns the $3,455.76 credited to them. Rogers , however, had another silent partner--his brother-in-law and thus Rogers reported one-half of his share of the Adams ' percentage.

At the time of the levy there was $5,747.28 in the First West Side account. On the basis of the aforesaid, I have concluded that this sum levied on by the Government was not money of the deficient taxpayer, Ralph's Body Shop, but was the personal assets of the plaintiff, Robert Adams. ³ Adams held this amount on behalf of himself and his silent partner, Rogers.

I have further concluded that plaintiff and Ralph Wolff were partners in the business known as Ralph's Body Shop. In reaching this conclusion I have carefully examined the relationship between plaintiff and Wolff and have considered the many cases in this Circuit and in other courts in determining the tests used by courts in determining the existence of a partnership.

It has been frequently stated that the existence of a partnership is matter of contract, and that no particular form of contract is necessary to create the entity known as a partnership. See James L. Robertson v. U. S. [CCH Dec. 6143] 20 B. T. A. 112.

The statutory definition of a partnership has frequently been given. As far as it goes it is controlling, but, beyond it, one must look to general law. For tax purposes, local law is not controlling. ⁴

Although no one test is controlling, the tests that have been found indicative of the existence of a partnership are set forth in Volume 6 of Mertens, §35.03 p. 21. Therein the tests are stated as follows:

1. Mutual interest in profits,

2. Mutual liability, joint and several, for debts and loss of capital,

3. Mutual agency and responsibility in the conduct of the business,

4. Common contribution and ownership of the partnership property,

5. The rendition of services by all partners,

6. The nonalienability of an interest in the business.

The plaintiff and Ralph Wolff had an agreement to share in the profits of the business. Also said men were mutually liable for the debts of the enterprise. Here the liability was several. Plaintiff was responsible for the rent of the building and for equipment and Wolff was liable for the wages of any employees of the venture. There was also mutual responsibility and rendition of services by plaintiff and Wolff in the conduct of the business. Plaintiff testified that he recruited business for several months and was paid by Wolff from monies from Wolff's percentage cut of the business. Plaintiff was responsible for collecting all monies for services rendered by the business. Further his purchasing of equipment and supplies was a dividing of the services. Wolff was responsible for all repairs performed in the shop. There was also common contribution to and ownership of partnership property. Wolff testified that he used his own mechanics tools in the business and as previously pointed, plaintiff furnished all supplies and equipment.

Wolff testified at trial that he believed he was in a partnership with the plaintiff.

During his examination by the Government Wolff testified as follows:

"Q. Did you consider yourself a parner with Bob Adams?

A. Yes.

Q. Why did you consider yourself a partner?

A. On a verbal agreement that we had made, and also introduced me to--

BY THE COURT: Let's get back to the verbal agreement. When and where and who was present, if anyone, other than you and Mr. Adams were present, when the agreement, if there was a verbal agreement, was made. About when, I don't mean the precise or exact date, but how it came about? Who was present? What conversation was had, and if you can remember what the substance of the conversation was, let's have it.

THE WITNESS: It was just a mutual agreement between the both of us.

BY THE COURT: What did he say and what did you say?

THE WITNESS: He asked me if I would like to go to work and run a shop, and I said yes, and he says okay, he had a place rented, so this is the way it went about, and there was only two in the conversation. That is all.

BY THE COURT: Very well. You may proceed."

When plaintiff reported the income from this business on his 1968 tax return, he reported it as "undistributed share of profit" under the heading "INCOME OR LOSSES FROM PARTNERSHIP, ESTATES OR TRUSTS, ETC." I realize of course that this reporting of income as partnership profits is not controlling, but simply evidence of the intention of the parties. See Millender v. U. S. [61-1 USTC ¶9234].

Further plaintiff carried the bank account upon which the Government levied in the name of Ralph's Body Shop. Here it is obvious to me that the plaintiff and Wolff set up a business venture, wherein plaintiff provided everything but labor, and provided for this expense by allowing Wolff a large percentage of the monies left over after paying for supplies, equipment and rent.

No doubt, the employees hired by Wolff looked to all the assets as security for payment of their salaries. If I were to hold that the arrangement here under consideration did not constitute a partnership then businessmen would be limited only by their imagination in setting up liability-free arrangements. ⁵

It is now necessary to determine whether a lien filed against the property of a partnership is also a lien on the personal property of an individual partner and whether the Government may levy on said property. In Underwood v. U. S. [41-1 USTC ¶9296] 118 F. 2d 760 [5th Cir. 1941] the Government filed notices of tax liens for gasoline taxes owing by a partnership. The court held that the tax liens attached not only to the partnership property but attached also to the property individually owned by the partners.

Further, in American Surety Co. of N. Y. v. Sundberg [61-2 USTC ¶9574], 363 P. 2d 99 [S. C. Wash. 1961] the court held that demand on a partnership was demand upon all of the partners and was sufficient compliance with 26 U. S. C. §6321 for purposes of making taxes assessed a lien on property of individual partners. I have reached the same conclusion here and find that the demand made by the United States on the taxpayers Ralph's Body Shop was demand upon all the partners of that business and that a lien arose on the personal property of plaintiff when the deficiency was assessed. Accordingly, the levy made pursuant to 26 U. S. C. A. §6331 was proper.

I am aware that one partner is not liable for the tax liability of another partner. However, I have concluded that the tax liability that was owed was the joint responsibility of plaintiff and Wolff notwithstanding the involved arrangement that existed between said parties.

The foregoing shall constitute findings of fact and conclusions of law in accordance with Rule 52 of the Federal Rules of Civil Procedure.

In accordance with the views expressed herein [and Rule 58 of the Federal Rules of Civil Procedure] defendant will submit a proposed order of judgment within fifteen [15] days from the date of this Memorandum.

¹ This section provides in pertinent part:

§6331. Levy and distraint. [a] Authority of Secretary or delegate.--If any person liable to pay any tax neglects or refuses to pay the same within 10 days after notice and demand, it shall be lawful for the Secretary or his delegate to collect such tax [and such further sum as shall be sufficient to cover the expenses of the levy] by levy upon all property and rights to property [except such property as is exempt under section 6334] belonging to such person or on which there is a lien provided in this chapter for the payment of such tax. Levy may be made upon the accrued salary or wages of any officer, employee, or elected official, of the United States, the District of Columbia, or any agency or instrumentality of the United States or the District of Columbia, by serving a notice of levy on the employer [as defined in section 3401[d] of such officer, employee, or elected official. If the Secretary or his delegate makes a finding that the collection of such tax is in jeopardy, notice and demand for immediate payment of such tax may be made by the Secretary or his delegate and, upon failure or refusal to pay such tax, collection thereof by levy shall be lawful without regard to the 10-day period provided in this section.

² This section provides:

§6321. Lien for taxes.

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.

³ Thus plaintiff and Rogers withdrew a total of $1600 from the business. Plaintiff was credited with a total of $6911.42 for his percentage of profits. Thus $5311.42 was the personal assets of the plaintiff and $435.82 belonged to the business. However, on the basis of the business balance sheet and the day book, $435.82 would have also been distributed to the plaintiff as his share of the company's profits.

⁴ See Wholesalers Adjustment Co. v. Commissioner [37-1 USTC ¶9109], 88 F. 2d 156 [8th Cir. 1937].

⁵ For instance, a grocery store could be set up so that A would provide the building and fixtures and would receive all income; B, for a percentage, would be responsible for the purchase of all supplies the store sold, and C, for a percentage, would be responsible for the employment of all help. If this arrangement was not considered a partnership, B could purchase a large quantity of goods on credit, stock the store and supervise their sale; A could receive all receipts and give B and C their percentages; if the percentages were insufficient to cover the cost of supplies and the wages of employees, said creditors would be powerless to proceed against A, who may have realized a substantial profit. See Adler v. Nicholas [48-1 USTC ¶9205], 166 F. 2d 674 [10th Cir. 1948].

 

 

[61-2 USTC ¶9574]American Surety Company of New York , Respondent v. Oscar Sundberg et al., Defendants, The United States of America , Appellant

Wash. Supreme Court, No. 35582, Department One, 363 P2d 99, 6/22/61

[1954 Code Secs. 6321, 6322, and 6323]

Liens: Priority: Mortgages to secure future advances: Demand for payment on individual partners.--A surety's recorded mortgage which also secured future advances to the delinquent taxpayer was superior to Federal tax liens only to the extent of the advances made before the filing of the notice of the Federal tax liens. The Federal law, which requires that a competing lien must be perfect and choate as to amount, governs, not the law of the state of Washington , which would relate all advances back to the date of the mortgage. Federal tax liens were not invalid as to the individual partners because the demand for payment of the taxes was made on the partnership and not the individual partners.

Charles P. Moriarty (Charles K. Rice, Lee A. Jackson, A. F. Prescott, and Harold M. Seidel, Department of Justice, Washington 25, D. C., of counsel), for appellant. Lewis L. Stedman, 503 Hoge Bldg., Seattle 4, Wash. , for respondent.

HILL, Judge:

The issue here is whether a mortgage was made to secure future advances and, if it was, whether United States tax liens take priority over the mortgage lien as to advances made subsequent to the filing of the United States tax liens. There are also questions raised as to the validity of the United States tax liens and the effectiveness of the notice given.

In February, 1955, Oscar Sundberg, Thor Sundberg, and Carl Sundberg (doing business as Oscar Sundberg and Sons, a partnership) entered into a contract with the Boeing Airplane Company to do certain painting for the sum of $341,569. The Sundbergs, as principals, entered into a performance bond with the American Surety Company, hereinafter referred to as the surety, by the terms of which, if the Sundbergs were unable to perform the contract, the surety was required to complete it or cause it to be done.

July 14, 1955, the Sundbergs being without sufficient funds to meet labor expenses, the surety advanced $9,000 to them, it being agreed that this sum would be secured by a mortgage.

July 19, 1955, the Sundbergs obtained another advance of $3,077.74; Thor Sundberg, on behalf of himself and the other partners, assigned to the surety all of their claims against Boeing; and each of the Sundbergs executed mortgages in favor of the surety on real property which they individually owned. Three of the mortgages were recorded in King County on July 20, and the fourth in Island County on July 21. The mortgages, which were practically identical except for the mortgagor's name and the property described, stated that they were made in consideration of the $9,000 advanced July the 14th:

". . . and in further consideration of the advance at this time of Three Thousand and Seventy-Seven and 74/100 ($3,077.74) Dollars, and in consideration of further advances to be made, and to secure the total sum now advanced amounting to Twelve Thousand and Seventy-Seven and 74/100 ($12,077.74) Dollars, according to the temrs of promissory note bearing date of July 19, 1955, . . ." (Italics ours.)

July 21, the Sundbergs received a further advance of $10,863.37. A promissory note was given on that date to the surety in the sum of $22,941.11 (the sum of the advances made July 14, 19, and 21).

Additional advances were made to the Sundbergs on July 26, August 2 and 9; the amounts being $7,254.14, $3,314.58, and $2,208.45 respectively. A separate note was given for each of these advances. No other notes were given to the surety and no further advances were made direct to the Sundbergs. Each of these notes, together with the earlier note for $22,941.11, was signed by all of the partners. Each note provided for interest at five and one-half per cent until maturity and six per cent thereafter, and for a reasonable attorney's fee in the event of suit thereon. Each note also stated that it was "secured by mortgages on real estate and a chattel mortgage on personal property." (The record in this case is silent as to any chattel mortgage. The notes have no significance except as they bear on the question as to whether the mortgages were to secure future advances, as the action brought by the surety is clearly not an action on the notes.)

The surety made payments after August 9 (totalling $127,598.47), most of them directly to material men (the last payment for material being on April 5, 1956, from which date the interest allowed by the judgment is computed). This included also payments in the sum of $11,175.31 to attorneys (made during 1957 and 1958 ¹) and $130 for title reports made November 28, 1958, less than a month before these foreclosure proceedings were commenced. However, no specific items is questioned and the total amount which the surety had to pay to complete the contract is conceded to be $163,316.75.

The surety brought this action, asking for a judgment for the difference between the sum total of the payments made to complete the contract and the credits and payments it received on account of the contract (mostly from the Boeing Airplane Company), totaling $106,747.23.

The amount thus received by the surety must be credited on the first $106,747.23 advanced by the surety to complete the contract. ² The judgment against the Sundbergs is for the portion remaining unpaid, $56,569.52. This amount was all advanced by the surety on or after December 6, 1955, as shown by the schedule of payments (exhibit No. 11), conceded to be correct.

Prior to December 6, 1955, the United States had assessed withholding taxes ³ against Oscar Sundberg and Sons in the sum of $22,626.20, payment of which was not made although notice and demand was made therefor. A notice of this tax lien was filed in the auditor's office of King County October 26, 1955, and in the auditor's office of Island County on February 17, 1959.

The United States claimed priority in the proceeds of the sale of the mortgaged property in King County , not only for this tax lien which was assessed and notice thereof filed in King County prior to the payment of any portion of the $56,569.52, for which the surety has judgment, but for other tax liens listed as follows:

                              Outstanding                            Notice of tax         Notice of tax

                                   amount         Assessment         lien filed in         lien filed in

TAX                                of tax               date           King County         Island County

Withholding .........          $16,105.99           11-30-55                1-4-56               2-17-59

Withholding .........            3,045.08             3-8-56               3-21-56               2-17-59

Unemployment  4  ....            1,380.35            3-23-56               4-18-56               2-17-59

Unemployment ........              756.99            7-15-57                                     2-17-59

[Trial Court's Action]

The trial court, after entering judgment for the surety against the Sundbergs in the sum of $56,569.52, entered a decree foreclosing the mortgages and ordered that the property covered by the mortgages be sold and that the proceeds of the sale of the King County property be applied in the following order of priority: (1) The surety's judgment, together with interest and a $5,600 attorney fee; (2) a United States tax lien for $22,626.20, with interest, notice of which was filed in King County October 26, 1955; (3) a United States tax lien for $16,105.99, with interest, notice of which was filed in King County January 4, 1956; (4) B. F. Tilley's judgment for $4,649.88, with interest, entered in King County March 6, 1956; (5) the remaining tax liens of the United States for $3,045.08 and $1,380.35, with interest, notice of which was filed in King County March 21, 1956, and April 18, 1956, respectively; and a tax assessed July 15, 1957, in the amount of $756.99 with interest, no notice of which was filed in King County.

The United States appeals, so far as the priorities to the proceeds of the mortgaged property in King County are concerned, urging that the mortgages given by the Sundbergs to the surety were not effective to secure future advances as against the claim of its intervening liens and that, in any even, its lien for $22,626.20 had first priority on the proceeds of the sale.

We will, however, first consider the contentions made by the surety as to the validity of the tax lien and the effect of the notice filed. It was urged at the trial court level that since the tax lien notices, which were filed as required by §6323 of the Interanl Revenue Code of 1954 (26 U. S. C. A. (1958 ed.), §6323), used the name of Oscar Sundberg and Sons, they were not effective as notice of the government's liens on property belonging to the individual partners.

This issue was disposed of adversely to the surety by the trial court. It appears to raise the same issue in this court under the heading in its brief "Tax Lien Notices Were Invalid," and then argues an entirely different proposition, i.e., that there was no lien on the individual property of the partners because the demand for payment of the taxes (required by §§ 6303 and 6321 of Internal Revenue Code of 1954) was not made on the individual partners.

The letter point seems never to have been brought to the attention of the trial court, and, hence, is not properly before this court. However, neither contention has any merit.

Section 6321 of the Internal Revenue Code of 1954 provides for a lien for the taxes under consideration:

"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 the United States upon all property and rights to property, whether real or personal, belonging to such person."

Section 6322 of the Internal Revenue Code of 1954 provides for the period of the lien:

"Unless another date is specifically fixed by law, the lien imposed by section 6321 shall arise at the time the assessment is made and shall continue until the liability for the amount so assessed is satisfied or becomes unenforceable by reason of lapse of time."

[1] The surety emphasized the first part of §6321, i.e., a refusal to pay after demand, as being a prerequisite to a lien, and urges that no demand was made upon the individual partners.

There is no question but that general partners are individually liable for the taxes due the United States from the partnership. 26 U. S. C. A., §701. Underwood v. United States (C. C. A. 5th, 1941) [41-1 USTC ¶9296], 118 F. (2d) 760.

A demand on the partnership is a demand upon all of the partners and is a sufficient compliance with the terms of both §6321 and §6303 of the Internal Revenue Code of 1954, ⁵ for the purpose of making the taxes assessed a lien on the property of the individual partners.

[2, 3] Such liens are secret liens, but were good under Federal law even as against a subsequent bona fide purchaser or an encumbrancer in good faith (United States v. Snyder (1893), 149 U. S. 210, 37 L. Ed. 705, 13 S. Ct. 846) until in 1913 when Congress acted to protect a mortgagee, purchaser, or judgment creditor (and a pledgee was added in 1939) against such secret liens. See §6323 of the Internal Revenue Code of 1954, 26 U. S. C. A., §6323. ⁶ A notice of the United States liens, using the name of the partnership (Oscar Sundberg and Sons) was notice not only to anyone dealing with Oscar Sundberg, but also to those dealing with Carl and Thor Sundberg or their property, as mortgagee, pledgee, purchaser, or encumbrancer. Richter's Loan Co. v. United States (C. A. 5th, 1956) [56-2 USTC ¶9706], 235 F. (2d) 753; United States v. Jane B. Corp. (D. C. Mass., 1958) [58-2 USTC ¶9924], 167 F. Supp. 352. The rule is that the existence, effectiveness, and relative priority of Federal tax liens represent Federal questions. United States v. Rasmuson (C. A. 8th, 1958) [58-1 USTC ¶9399], 253 F. (2d) 944; United States v. Acri (1955) [55-1 USTC ¶9138], 348 U. S. 211, 99 L. Ed. 264, 75 S. Ct. 239; United States v. Gilbert Associates, Inc. (1953) [53-1 USTC ¶9291], 345 U. S. 361, 97 L. Ed. 1071, 73 S. Ct. 701; United States v. Security Trust & Savings Bank (1950) [50-2 USTC ¶9492], 340 U. S. 47, 95 L. Ed. 53, 71 S. Ct. 111.

While not relevent here, it would seem that such notices were probably adequate under Washington law, since notice sufficient to excite attention and put a person on guard, or to call for an inquiry is notice of everything to which such inquiry might lead. First Nat. Bank of Kelso v. Hart (1925), 137 Wash. 110, 118, 241 Pac. 675; Tjosevig v. Butler (1934), 180 Wash. 151, 38 P. (2d) 1022.

[Mortgages Covered Future Advances]

Passing from the question of the validity of the tax liens, and the sufficiency of notice thereof, we must, before we take up any consideration of priorities between the tax liens of the United States and the mortgages, first consider the primary issue raised by the United States: Were these actually mortgages to cover future advantages?

The trial court concluded that they were mortgages to secure future advances and, relying on Home Sav. & Loan Ass'n v. Burton (1899), 20 Wash. 688, 56 Pac. 940; Eltopia Finance Co. v. Colley (1923), 126 Wash. 554, 219 Pac. 24, and Carey v. Herrick (1928), 146 Wash. 283, 263 Pac. 190, held that the priority related back to the date of the mortgage since the payments made were obligatory rather than optional. Elmendorf-Anthony Co. v. Dunn (1941), 10 Wn. (2d) 29, 116 P. (2d) 253, 138 A. L. R. 558.

The United States urges that the rule of relation back should be limited, and in some state it is, to situations where the mortgage fixes a limit to the amount of the advances to be secured or states a definite purpose that is to be accomplished, such as the completion of a building or a contract. One authority says:

"If the limit be not defined in any way, it can be good only for the advances made at the time, and such others as may afterward be made before any other incumbrances are made upon the property mortgaged. . . ." 1 Jones on Mortgages (8th ed.) 595, §458.

In the present case, the amount of the advances already made at the time the mortgage was signed was $12,077.74, and while the mortgages stated that they were made "in consideration of further advances to be made," they did not say that they were to secure such advances, but only that they were:

". . . to secure the payment of Twelve Thousand and Seventy-Seven and 74/100 ($12,077.74) Dollars so advanced according to the terms of promissory note bearing date of July 19, 1955. ⁷ . . ."

There was no specific limitation, no mention of the surety contract, or the painting contract, or anything else which would put a searcher of the record on notice that the mortgage might cover advances of over $160,000.

[4, 5] However, we cannot agree with the United States that these mortgages were not made to secure the advances made and to be made by the surety in the completion of the contract. The mortgages were made on the same day (July 19, 1955) that the partnership assigned ⁸ all of their claims against Boeing to the surety. The four notes made by the Sundbergs, to which we have referred, were all subsequent to the mortgage and all recited that they were "secured by mortgages on real estate and a chattel mortgage on personal property"; and the mortgages being foreclosed were the only mortgages executed, insofar as the record discloses. As between the parties, these were mortgages to secure future advances, and we think that the statement in the mortgages--that they were made in consideration of advances thereafter to be made--is sufficient notice to subsequent encumbrancers that they were intended to secure future advances.

We come now to the consideration of whether the lien of the mortgages for future advances was prior or subordinate to the lien for United States taxes, the notices of which were filed after the mortgages but before certain future advances were made.

[State Law]

There can be no question but that under Washington law, if the mortgages were made to secure future advances, the trial court was eminently justified in its determination that all advances under the mortgages related back, so far as the lien was concerned, to the date of the mortgage. This position is supported by substantial authority as pointed out in 4 Pomeroy's Equity Jurisprudence (5th ed.), §1199, p. 596:

"Finally, there are decisions by most able courts which give the prior mortgage to secure future advances an absolute preference; which maintain the mortgagee's supremacy, and preserve the lien of his mortgage against intervening subsequent encumbrances, even for advances made after receiving actual notice of such encumbrances. This conclusion is based upon the doctrines that the executory agreement of the mortgagee creates a full and perfect lien in equity, effectual against all persons who are charged with notice thereof, and that the record of the mortgage furnishes such a notice affecting all subsequent encumbrances."

However, "most able courts" must bow to the reality that the United States is not to be frustrated in the collection of revenue by the tax priority laws of fifty different states. The relative priority of the tax liens of the United States presents a Federal question to be determined by the Federal courts. United States v. Security Trust & Sav. Bank, supra; United States v. Acri, supra; Illinois ex rel. Gordon v. Campbell (1946), 329 U. S. 362, 371, 91 L. Ed. 3488 67 S. Ct. 340.

[6] For a competing lien to take precedence over a Federal tax lien, it must not only be prior in point of time but it must also be perfected and choate.

It was in a case from this state ⁹ that the United States Supreme Court "launched the doctrine of the inchoate and general lien." ¹⁰ The competing lien must be definite (and not merely ascertainable in the future) in at least three respects as of the crucial time (the filing of the notice of the lien for United States taxes required by §6323): identity of lienor, amount of the lien, and the property to which it attaches. Illinois ex rel. Gordon v. Campbell, supra.

As pointed out in United States v. Ringler (N. D. Ohio, 1958) [58-2 USTC ¶9878], 166 F. Supp. 544, the United States Supreme Court has not, as yet, passed upon the question involving the relative priority of a tax lien and a mortgage to secure future advances, where the tax lien was filed subsequent to the recording of a mortgage given to secure future advances but prior to advances for which a lien is claimed.

In the Ringler case, the mortgage was limited in amount to $20,000 and was to secure the payment of attorney's fees for services to be thereafter rendered. The mortgage was recorded June 18, 1953, and the notice of lien for United States taxes filed August 5, 1953. In an action to foreclose the tax lien (the taxes amounting to more than the value of the mortgaged property), the evidence was that the value of the legal services rendered the mortgagor, after the mortgage, was about $10,000 and that the value of the services rendered between June 18, 1953, and August 5, 1953, was $1,600. The court, after stating the rule (applied by the trial court in this case) that a mortgage to secure future advances which the mortgagee is obligated to make, takes priority over a subsequent lien recorded before the future advances were made, said (p. 548):

". . . However, whenever a question involving the relative priority of United States tax liens and other liens arises, courts are required to apply the test of choateness to the competing liens. Applying that test here, it must be held that as to the indefinite future advances (in the form of legal services) which were to be made after August 5, 1953, the mortgage lien is subordinate to the tax lien of the United States . The lien of the mortgage securing the value of services rendered between June 18, 1953 and August 5, 1953 stands on a different footing. As shown by the record, on August 5, 1953, legal services of the value of $1,600 had been rendered by the mortgagees in reliance upon the security of the mortgage. To that extent, therefore, the mortgage lien was not inchoate or imperfect. I am of the opinion that as to the amount of the mortgage lien securing such indebtedness the rule of first in time--first in right, applies. . . ."

Because of the lack of certainty as to whether future advances would be made and, if so, the amount thereof, the lien priority cases from this court relied upon by the trial court are inapplicable insofar as the liens of the United States for taxes are concerned.

[Federal Law]

Priority here is governed, so far as the United States tax liens are concerned, by the rationale of those Federal cases which hold that the lien of a prior mortgage must be subordinated to Federal tax liens where the mortgage lien is inchoate at the time the notice of the Federal tax lien is filed. United States v. Bond (C. A. 4th, 1960) [60-2 USTC ¶9532], 279 F. (2d) 837; United States v. Christensen (C. A. 9th, 1959) [59-2 USTC ¶9621], 269 F. (2d) 624; United States v. Ringler, supra; see also Metropolitan Life Ins. Co. v. United States (1959), 9 App. Div. (2d) 356, 194 N. Y. S. (2d) 168, applying the Federal law.

Thus the priorities, as they relate to the property in King County covered by the mortgages foreclosed in this action, would be:

(1) The 

United States

 tax lien, notice

of which was filed for record on

October 26, 1955, prior to the advancement

of any portion of the

last $56,569.52 advanced by the

surety .........................................         $22,626.20

(2) The lien of the mortgage for that

portion of the last $56,569.52 advanced

by the surety, which was

advanced between October 26,

1955, and January 4, 1956, when

notice of the second of the United

States tax liens was filed for record ..........          25,376.35

(3) The 

United States

 tax lien, notice

of which was filed for record January

4, 1956 ........................................          16,105.99

(4) The lien of the mortgage for that

portion of the advances made by

the surety between January 4,

1956 and March 21, 1956, when

notice of the third of the United

States tax liens was filed for record ..........           9,775.57

(5) The 

United States

 tax lien, notice

of which was filed for record

March 21, 1956 .................................           3,045.08

(6) The 

United States

 tax lien, notice

of which was filed for record

April 18, 1956 .................................           1,380.35

(7) The lien of the mortgage for the

remainder of the advances made

by the surety after the notice of

the 

United States

 tax lien was

filed for record April 18, 1956 ................          21,417.60

(8) Lien of the B. F. Tilley judgment,  11 

entered March 6, 1956,

together with interest and costs ...............           4,649.88

(9) The unrecorded 

United States

 tax

lien assessed July 15, 1957, but

not filed for record in King

County .........................................             756.99

 

Each of the government's liens would carry with it the penalties and accrued interest; each segment of the mortgage lien would carry with it accrued interest, as would the B. F. Tilley judgment.

The order of priority with reference to the proceeds of the sale of the Island County property is quite different, as all of the advances under the mortgage were made prior to the filing of the Federal tax liens in that county, February 17, 1959. Hence, the lien of the mortgages in the sum of $56,569.52 was a choate lien before notice of any United States tax lien was filed, and would, therefore, come first--followed by the United States tax liens. The B. F. Tilley judgment was not filed in that county. The trial court is affirmed as to order of priority, so far as the proceeds of the sale of the Island County property are concerned.

[Attorney's Fees]

There is a further question, perhaps academic, as to the status of the $5,600 attorney fee, made a part of the judgment. The United States contends that an attorney's fee for the foreclosure of a prior mortgage, although provided for in the mortgage, cannot come ahead of its liens. We do not have to reach that question, as there is no provision in the mortgages for an attorney's fee.

As we have pointed out, almost $12,000 in attorney's fees was included in the cost of completing the contract and is not questioned. The additional $5,600 had nothing to do with the completion of the contract, but was for securing the present judgment against the Sundbergs and establishing the priority of the various liens against the mortgaged property. The four promissory notes each refer to an attorney's fee, but, as we have already pointed out, this action is not on the notes but to recover the difference between $163,316.75, expended in completing the contract, and $106,747.23 received on account of the contract, i.e., $56,569.52. The basis, if any, for a contractual attorney's fee in this action is found in the application for the bond, which is not in the record.

The pre-trial order stated, and the trial court found, that Oscar Sundberg, and Sons by their application for a bond agreed to pay, in the event of action, reasonable attorney's fees. Not being provided for in the mortgages, this attorney's fee became a charge on the mortgaged property solely by reason of the judgment of January 15, 1960, and is subsequent to all other liens so far as the mortgaged property is concerned, except possibly the tax lien for $756.99, of which, so far as the record discloses, no notice has yet been recorded in King County.

The trial court is directed to modify the judgment in the respects herein indicated.

The United States , having secured very substantial relief on this appeal, will recover its costs herein to be taxed.

FINLEY, Circuit Judge, WEAVER, ROSELLINI, and FOSTER, Judges, concur.

¹ This general statement is subject to the exception that $650 of the attorney's fees was paid December 13, 1955.

² Bellingham Securities Syndicate v. Bellingham Coal Mines (1942), 13 Wn. (2d) 370, 125 P. (2d) 668; Whiting v. Rubinstein (1941), 10 Wn. (2d) 5, 116 P. (2d) 305; Diettrich Bros., Inc. v. Anderson (1935), 183 Wash. 574, 48 P. (2d) 921; Restatement, Contracts, 743, §394.

³ "Withholding" taxes are imposed on wages pursuant to §§ 3401-3404 of the Internal Revenue Code of 1954. 26 U. S. C. A. (1958 ed.) 3401-3404.

⁴ "Unemployment" taxes are imposed by the Federal Unemployment Tax Act, §§ 3301-3308 of Internal Revenue Code of 1954. 26 U. S. C. A. (1958 ed.), §§ 3301-3308.

⁵ Section 6303 of the Internal Revenue Code of 1954, so far as material, reads:

"(a) General rule.--Where it is not otherwise provided by this title, the Secretary or his delegate shall, as soon as practicable, and within 60 days, after the making of an assessment of a tax pursuant to section 6203, give notice to each person liable for the unpaid tax, stating the amount and demanding payment thereof. Such notice shall be left at the dwelling or usual place of business of such person, or shall be sent by mail to such person's last known address."

⁶ "(a) Invalidity of lien without notice.--Except as otherwise provided in subsection (c), the lien imposed by section 6321 shall not be valid as against any mortgagee, pledgee, purchaser, or judgment creditor until notice thereof has been filed by the Secretary or his delegate--

"(1) Under state or territorial laws.--In the office designated by the law of the State or Territory in which the property subject to the lien is situated, whenever the State or Territory has by law designated an office within the State or Territory for the filing of such notice; . . ."

(It is conceded that the office of the county auditor is the proper place for the filing of such notices in this state; and that the filings of the notices in that office were on the dates indicated in the opinion.)

⁷ There was no note bearing date of July 19th. See page 337 for description of the notes delivered by the Sundbergs to the surety.

⁸ It was strenuously urged that such an assignment itself constituted a mortgage (under §6323) in United States v. R. F. Ball Constr. Co. (1958) [58-1 USTC ¶9327], 355 U. S. 587, 2 L. Ed. (2d) 510, 78 S. Ct. 442, and a United States District Court and Circuit Court so held. The Supreme Court of the United States , with four judges dissenting, held that the assignment was not a mortgage.

⁹ Spokane County v. United States (1929) [1 USTC ¶387], 279 U. S. 80, 73 L. Ed. 621, 49 S. Ct. 321.

¹⁰ 63 Yale Law Journal 911 (1954).

¹¹ The lien of this judgment would, under the Federal rule, take precedence over United States tax liens, of which notice was not recorded, until after its entry; however, under our decisions it would be subordinate to the lien of the mortgage. Our decisions control the priorities between the mortgage and the judgment.

 

 

[71-1 USTC ¶9441] United States of America , Plaintiff-Appellee v. Marvin Guon, Defendant-Appellant

(CA-9), U. S. Court of Appeals, 9th Circuit, No. 26,668, 442 F2d 1021, 5/19/71, Affirming unreported District Court decision

[Code Sec. 6321--Result unchanged by '69 Tax Reform Act]

Collection: Lien for taxes: Defenses against lien: Failure to demand taxes.--The defendant was convicted of failing to disclose The a tax lien for unpaid income taxes on an application for a bank loan that was insured by the Department of Housing and Urban Development. On appeal, the court ruled that the government did not have a tax lien because it did not demand payment of the income taxes from the defendant. However, the court affirmed the conviction because the defendant indicated that he did not have any "fixed liabilities" on the application.

John A. Pickard (argument), of Dardano & Mowry, Portland , Ore. , defendant-appellant. Michael Morehouse (argument), Assistant United States Attorney, and Sidney I. Lezak, United States Attorney, Portland , Ore. , for plaintiff-appellee.

Before CHAMBERS, Circuit Judge, MADDEN, Judge , United States Court of Claims, and DUNIWAY, Circuit Judge.

PER CURIAM:

Guon was convicted under both counts of an indictment charging violation of 18 U. S. C. §1010.

The only point raised that merits consideration arises under Count I. That count charges that Guon, in an application for a bank loan to be insured by the Department of Housing and Urban Development, failed to list, as required, "an Internal Revenue Service tax lien in the sum of $2,037.68, entered against . . . Guon on or about August 23, 1967." The application form required answers to two pertinent questions: (1) "Do you have any past-due obligations owed to . . . any agency of the Federal government?" and (2) "Debts: list all fixed obligations . . .." Guon answered the first question "No" and did not list a Federal tax obligation in response to the second.

The evidence is that on August 23, 1967, Guon and his accountant filed income tax returns of Guon for the years 1962, 1963, 1964 and 1966, disclosing liabilities of over $2,000 which were unpaid when Guon signed the loan application on November 15, 1967. There is no question that Guon knew that he owed the money. His claim is that there was no tax lien, and in this he is correct. The record discloses no demand (26 U. S. C. §6321) and no filing of a lien before November 15, 1967.

The variance, however, is harmless. Rule 52(a), F. R. Crim. P. The indictment did describe a past due obligation to an agency of the Federal Government; it did describe a fixed liability. Use of the word "lien" was unnecessary; Guon knew what was involved; at trial he never mentioned the variance of which he now complains. He admitted that he knew that he owed the taxes, but claimed that he did not know the precise amount.

Guon's attack on the court's instructions is foreclosed by Rule 30, F. R. Crim. P.

No other point merits discussion.

Affirmed.

 

[86-1 USTC ¶9176] Macey & Sikes v. United States of America

U.S. District Court, No. Dist. Ga., Atlanta Div., C85-3420, 12/20/85, 628 FSupp 52

[Code Sec. 6331 ]

Levy and distraint.--A law firm's lien on 90 items of artwork, which it took as collateral security for legal services it was to render to the taxpayers, was inferior to the IRS's lien because the taxpayers had an abundant opportunity to pay the IRS or challenge its claim before the levy date. However, the law firm was allowed to amend its complaint in an action to quash the notice of levy because its amendment was filed in good faith, with no dilatory motive or undue delay, and would not unduly prejudice the IRS. The court rejected the law firm's argument, that the federal tax lien was void because the IRS's demand for payment coincided with or post-dated the filing of the lien notice. According to the court, the validity of the federal tax lien, insofar as validity depended on the adequacy of the taxpayer's opportunity to pay, was to be judged as of the date when enforcement of the tax lien was sought. Therefore, the day after the IRS agents placed the demand for payment and notice of jeopardy assessment in a sealed envelope taped to the taxpayers' mailbox and filed a notice of federal tax lien with respect to that assessment the IRS's position was clearly valid as against the taxpayers and was perfected as against third parties. Summary judgment was granted in favor of the IRS.

ORDER

EVANS, District Judge:

This action to quash a notice of levy issued by the Internal Revenue Service is before the court on Plaintiff's motion for leave to amend their complaint, Defendant's motion for partial summary judgment, and Plaintiff's cross motion for summary judgment.

Motion to Amend the Complaint. Plaintiff has moved to amend its complaint in order to add allegations in paragraph 6 that the filing of Defendant's lien against the property of taxpayers John E. and Cheryl S. Hayes was without "notice and demand" on them. The amendment would also add allegations of events that occurred subsequent to the filing of the complaint, but prior to Defendant's filing of its answer. It appears to the court that Plaintiff's amendment is filed in good faith, with no dilatory motive or undue delay, and would not unduly prejudice Defendant. See Bamm, Inc. v. GAF Corp., 651 F.2d 389 (5th Cir. Unit B, 1981). Plaintiff's motion to amend is thus granted.

Motions for Summary Judgment. The following undisputed facts are before the court. On May 16, 1985, Plaintiff, a law firm, took possession of 15 items of artwork as collateral security for legal services ¹ to be rendered to John E. and Cheryl S. Hayes. On the same date, Plaintiff and Mr. and Mrs. Hayes signed a security agreement with respect to these 15 pieces of artwork.

On June 3, 1985, the Internal Revenue Service made an assessment for unpaid 1979 and 1980 federal income taxes against Mr. and Mrs. Hayes, in the amount of $3,947,792.26.

On June 4, 1985, at approximately 1:20 p.m., IRS agents went to the Hayeses' residence in Fulton County , Georgia , to serve formal demand for payment of the allegedly unpaid taxes and a notice of jeopardy assessment. ² The security gates of the premises were locked, and efforts to reach the Hayeses through an intercom system were unsuccessful. The agents placed the demand for payment and notice of jeopardy assessment in a sealed envelope taped to the mailbox. An hour or so later, IRS filed a notice of federal tax lien with respect to the assessment in the Superior Court of Fulton County . This was the correct place to file the lien notice.

At approximately 2:30-3:00 p.m. ³ that same day, the Hayeses returned home and opened the envelope from IRS. Mr. Hayes contacted the Plaintiff law firm at 3:00 p.m. concerning this development.

On June 7 and 11, 1985, Plaintiff received possession of 75 additional items of artwork from Mr. and Mrs. Hayes, for the same security uses and purposes (hereinafter referred to as the "Exhibit C artwork"). On June 19, 1985, Plaintiff filed and recorded a "UCC-1 Financing Statement," covering all 90 artworks, in the office of the Clerk of the Superior Court of Fulton County, Georgia.

On June 26, 1985, the IRS delivered a notice of levy to Plaintiff, in an attempt to seize the 90 works of art belonging to Mr. and Mrs. Hayes which were in Plaintiff's possession. On July 2, 1985, Plaintiff filed this action, challenging Defendant's right to levy. On August 22, 1985, IRS filed a second notice of federal tax lien in the Superior Court of Fulton County .

Defendant's motion for partial summary judgment pertains solely to the Exhibit C artworks, i.e., the artworks turned over to Plaintiff on June 7 and 11, 1985. Defendant contends that it has a valid and enforceable statutory lien on this art which has priority over Plaintiff's lien. Plaintiff argues that Defendant's June 4, 1985 tax lien was invalid because it was not preceded by the Hayeses' receipt of IRS's demand for payment. Instead, the lien was filed (so far as the instant record reflects) contemporaneously with the Hayeses' receipt of the written notice which had been taped to their mailbox. ⁴ Because the Hayeses had no opportunity to pay the taxes before the lien was filed, Plaintiff argues that the June 4 tax lien was invalid and that Defendant did not obtain a valid lien against the Hayeses' property until August 22, 1985, when it filed a second lien claim with the Clerk of the Superior Court of Fulton County, Georgia.

The court agrees with the general thrust of Plaintiff's argument that in order for a federal tax lien to be enforceable in the face of a third party claim, it must be valid as against the taxpayers themselves. Further, it is clear that in order for a federal tax lien to be enforceable as against a taxpayer, IRS must make a demand for payment. Myrick v. United States [62-1 USTC ¶9112 ], 296 F.2d 312, 314 (5th Cir. 1961) (no tax lien will arise until there is a demand for payment); Phillips & Jacobs, Inc. v. Color-Art, Inc. [82-2 USTC ¶9489 ], 553 F.Supp. 14 (N.D. Ga. 1982) (tax lien arises upon assessment and demand); Goldstein v. Bankers Commercial Corp. [57-1 USTC ¶9596 ], 152 F.Supp. 856 (S.D.N.Y 1957). The court finds no authority, however, supporting Plaintiff's argument that if IRS's demand for payment coincides with or post dates the filing of the lien notice, that the tax lien is void. Instead, the correct rule is that the validity of the federal tax lien, insofar as validity depends on the adequacy of the taxpayer's opportunity to pay, is to be judged as of the date when enforcement of the tax lien is sought. In this case, that date is June 26, 1985, when IRS served the notice of levy on Plaintiff.

None of the relevant statutes expressly support Plaintiff's position. 26 U.S.C. §6321 provides in pertinent part:

If any person liable to pay any tax neglects or refuses to pay the same after demand, the amount . . . shall be a lien in favor of the United States upon all property . . . belonging to such person.

26 U.S.C. §6322 provides in pertinent part:

Unless another date is specifically fixed by law, the lien imposed by section 6321 shall arise at the time the assessment is made and shall continue until the liability for the amount so assessed . . . is satisfied or becomes unenforceable by reason of lapse of time.

26 U.S.C. §6323 then provides that the lien imposed by §6321 is not valid as against certain third parties until a notice of tax lien has been properly filed.

The only case cited by Plaintiff which provides any possible support for its position is L.O.C. Industries v. United States [76-2 USTC ¶9573 ], 423 F.Supp. 265 (M.D. Tenn. 1976), and cases cited therein. In that case, the taxpayer sought an injunction against the government, which had levied on the taxpayer's bank account. The government had levied and obtained the bank account proceeds before the taxpayer had received any demand for payment from IRS. The court held that the taxpayer was entitled to an opportunity to pay the tax prior to any levy, and that in the absence of such opportunity, there had been no "neglect or refusal to pay after demand" as required by §6321 . It required that the money seized from the taxpayer's bank account be returned pursuant to an injunctive order.

The court finds that L.O.C. Industries is not factually similar to the instant case. In L.O.C., the problem was the timing of the levy in relation to notice of assessment to the taxpayer, not the timing of the assessment notice versus the timing of filing of the tax lien notice. It is clear that the court in L.O.C. was concerned about the possible damage to the taxpayer which might result from an improper levy, when the taxpayer had had no chance to dispute the government's claim. In essence, the government had taken the taxpayer's bank account without giving it notice and an opportunity to be heard. In the instant case, the contemporaneous service of the demand for payment and the filing of the notice of tax lien portended no such drastic possibilities. IRS was merely freezing the status quo, so that the Hayeses could not transfer property in avoidance of IRS's position. The Hayeses had an abundant opportunity to pay IRS or challenge its claim before the June 26 levy. Moreover, the Hayeses had an adequate opportunity to pay even before the Plaintiff obtained its lien position. For example, on June 5 and 6, 1985, IRS's position was clearly valid as against the Hayeses and was perfected as against third parties. ⁵ Accordingly, Plaintiff's lien in the Exhibit C artwork is inferior to Defendant's lien.

Accordingly, Plaintiff's motion to amend is GRANTED; Defendant's motion for partial summary judgment is GRANTED; Plaintiff's motion for summary judgment is DENIED.

¹ It is not clear from the record exactly what the parties anticipated these legal services would consist of.

² The notice of jeopardy assessment essentially advised the Hayeses that IRS was making an emergency tax assessment against them, with no prior notice, because IRS had determined that the Hayeses were liquidating their property in order to place it beyond the reach of the government.

³ It is not clear whether the filing of the tax lien came first, or the Hayeses' receipt of the demand notice. In any event, only a few minutes separated the two events.

⁴ The record does not disclose whether the Hayeses had reason to know of an impending tax assessment.

⁵ The parties' briefs hint that Plaintiff's possession of the Exhibit C artworks on June 7 and 11 might be significant to the perfection of Plaintiff's security interest, but the briefs do not directly address this matter. The court need not address this issue in light of its other findings.

 

 

[59-2 USTC ¶9678]Bessie A. Mrizek and John R. Mrizek, Plaintiffs v. H. Alan Long, District Director of Internal Revenue for the Chicago District, Chicago, Illinois, Defendant

U. S. District Court, No. Dist. Ill. , East. Div., No. 58 C 1633, 187 FSupp 830, 9/15/59

[1954 Code Sec. 6331]

Levy and distraint: Notice as prerequisite.--A notice of levy dated five days after the seizure of property does not comply with the provisions of Code Sec. 6331(a) authorizing levy upon property if the person liable to pay and tax "neglects or refuses to pay the same within 10 days after notice and demand."

[1954 Code Secs. 6321, 6671 and 6672]

Penalty for failure to pay over tax: Notice and demand as prerequisities: Lien for tax: Demand for payment as prerequisite.--A proposed assessment of penalties under Code Sec. 6672 for failure to pay over withheld taxes does not dispense with the necessity for the notice and demand required by Code Sec. 6671 as a prerequisite to assessment of the penalties. No demand having been made for the penalty, no lien attached. The court did not decide whether the Government can collect more than 100% of the tax as a penalty under Code Sec. 6672, which provides for "assessment" of a 100% penalty against "any person" who willfully fails to pay over a tax, but did not agree that Sec. 6672 permits "but one, and no more than one, penalty assessment equal to the amount of the tax."

[1954 Code Sec. 6212]

Deficiency notice: Withholding taxes.--The requirements of Code Sec. 6212 for mailing a notice of deficiency do not apply to a deficiency in withheld employment taxes.
[1954 Code Sec. 7421]

Injunction against collection of tax: Extraordinary circumstances: Notice not given before collection.--Failure of the authorities to comply with the statutory conditions precedent to collection of a tax presents such exceptional circumstances and so affects the legality of the tax that the District Courts may enjoin its collection.

Sydney E. Foster, 407 South Cicero Avenue , Anna R. Lavin, 1 North LaSalle Street , Chicago , Illinois , for plaintiffs. Robert Tieken, United States Attorney, for defendant.

Memorandum

MINER, District Judge:

Defendant has moved to dismiss plaintiffs' suit for injunctive relief and application for the calling of a three-judge court. The issues before the Court on this motion are:

(1) Do the allegation of the amended complaint state a good cause of action for restraining actions of the defendant which allegedly purport to have been taken pursuant to Sections 6331 and 6672 of the Internal Revenue Code (26 U. S. C. §§ 6331 and 6672)?

(2) Does the amend complaint set forth such substantial question as to the constitutionality of Section 6672 as to require the convening of the three-judge court as set forth in 28 U. S. C. §§ 2282 and 2284?

[Levy Before Notice and Demand]

The amended complaint is divisible into two parts. In the first, plaintiffs allege, in substance, that they are president and secretary, respectively, of the R. J. Mrizek Co., Inc.; that the corporation became delinquent in payment of withholding taxes due during 1955 or 1956; that arrangements for weekly installment payments on account of the delinquent and current taxes were made between the said president and defendant's authorized agents; that the agreed payments were made regularly up to and including March 6, 1958; that on March 13, 1958, defendant, without prior notice to plaintiffs, seized possession of the corporation's assets and demanded immediate payment of $32,474.48 from the corporation; that the said sum comprised the entire amount of delinquent taxes alleged by defendant to be due; that defendant's Notice of Seizure of the corporation's property "for nonpayment of delinquent internal revenue taxes due from R. J. Mrizek Co., Inc." in that amount is dated five days after the seizure; that on April 12, 1958, defendant advertised a public auction of the corporation's property, to be held on April 16, 1958; that by reason of defendant's said actions one of the corporation's creditors demanded immediate payment of its note; that because of defendant's actions neither the corporation nor the plaintiffs could comply with the demand; that because of the said failure to discharge the note the creditor filed foreclosure proceedings on a Trust Deed on April 10, 1958, which action is now pending; and that on April 14, 1958, an involuntary petition in bankruptcy was filed in this court against the corporation.

Plaintiffs argue that defendant's said actions in seizing possession of the corporation's property are violative of Section 6331 of the Internal Revenue Code (26 U. S. C. §6331), which reads, in pertinent part:

"(a) Authority of Secretary or delegate.--If any person liable to pay any tax neglects or refuses to pay the same within 10 days after notice and demand, it shall be lawful for the Secretary or his delegate to collect such tax (and such further sum as shall be sufficient to cover the expenses of the levy) by levy upon all property and rights to property (except such property as is exempt under section 6334) belonging to such person or on which there is a lien provided in this chapter for the payment of such tax. * * * If the Secretary or his delegate makes a finding that the collection of such tax is in jeopardy, notice and demand for immediate payment of such tax may be made by the Secretary or his delegate and, upon failure or refusal to pay such tax, collection thereof by levy shall be lawful without regard to the 10-day period provided in this section.

"(b) Seizure and sale of property.--The term 'levy' as used in this title includes the power of distraint and seizure by any means. In any case in which the Secretary or his delegate may levy upon property or rights to property, he may seize and sell such property or rights to property (whether real or personal, tangible or intangible.)

Specifically, plaintiffs contend (1) that the corporate taxpayer had neither neglected nor refused to pay the taxes owed and was, in fact, making payment pursuant to the alleged agreement with defendant, (2) that defendant failed to give the notice and demand required by the statute before a levy is authorized, and (3) that defendant's actions have deprived plaintiffs of their property and principal source of income without due process of law in violation of the Fifth Amendment.

[Penalties for Failure to Pay Over Tax]

In the second part of their amended complaint, plaintiffs allege, in substance, that on March 21, 1958, defendant sent letters to each of the plaintiffs proposing to assess penalties against each in the amount of $52,206.68 pursuant to the provisions of Sec. 6672 of the Internal Revenue Code (26 U. S. C. §6672); that on March 26, 1958, plaintiffs' attorney answered defendant's letters, advising that plaintiffs did not "consent to such penalty assessment" and requesting a conference; that defendant made no reply to the request; that no Notice of Deficiency has been sent by defendant to the plaintiffs in accordance with Sections 6212 and 6671 of the Internal Revenue Code (25 U. S. C. §§ 6212, 6671); that plaintiffs have unsuccessfully attempted to obtain information concerning defendant's proposed assessment of the 100% penalty; that on April 28, 1958, defendant recorded a lien against the plaintiffs in the amount of $52,206.68; that on June 13, 1958, defendant recorded a lien in the sum of $58,912.44 against the home owned by Bessie A. Mrizek in Illinois; that on May 2, 1958 and September 2, 1958, defendant filed liens against Florida real estate in which plaintiffs have an interest; that plaintiff Bessie A. Mrizek has exhausted her administrative remedies by reason of the fact that defendant has refused her formal request, filed July 1, 1958, pursuant to Internal Revenue Regulations §301.6861(F)(1), for abatement of the said liens; that except for her interest in the real estate encumbered by the said liens plaintiff Bessie A. Mrizek has total assets of the approximate value of $2,000; that except for his interest in the real estate encumbered by the said liens and his interest in the R. J. Mrizek Co., Inc., plaintiff John R. Mrizek is without assets; and that because of the said liens plaintiffs are unable to obtain funds from or make any disposition of the encumbered property.

Section 6672 reads as follows:

"Any person required to collect, truthfully account for, and pay over any tax imposed by this title who willfully fails to collect such tax, or truthfully account for and pay over such tax, or willfully attempts in any manner to evade or defeat any such tax or the payment thereof, shall, in addition to other penalties provided by law, be liable to a penalty equal to the total amount of the tax evaded, or not collected, or not accounted for and paid over. No penalty shall be imposed under section 6653 for any offense to which this section is applicable."

Plaintiffs claim that the said liens are void because (1) they are not based on a valid assessment, (2) they are patently without relation to the taxes allegedly due and unpaid, (3) they are speculatively separately applied to two individuals, aggregating $104,413.36, whereas the statute pursuant to which the liens were purportedly applied authorizes a penalty "equal to the tax evaded, or not collected, or not accounted for and paid over," (4) any purported assessment of penalties (upon which liens are predicated) is void as having no connection or relation to the outstanding tax deficiency claimed, and (5) notice of the imposition of penalty assessment has never been given.

[Constitutionality of Penalties]

Plaintiffs further raise issues which concern the constitutionality of Section 6672. Specifically, they argue that if penalty assessments are found to have been made pursuant to the statute (1) they are invalid as imposing punishment without the right to a jury trial, (2) the hearing referred to in the notice of proposed assessment "cannot, as a matter of discretion, be deemed a substantial substitute for the due process of law that the Constitution requires", and (3) since they have "punitive nature and purpose, must be preceded by opportunity to contest their validity".

[Inadequacy of Legal Remedy]

Plaintiffs allege that they are without an adequate remedy at law, in that (1) they are unable to seek relief under 28 U. S. C. §1346 ¹ for the reason that by the levy and seizure of the assets of the R. J. Mrizek Co., Inc., and the liens applied to their independent property, they have been rendered without means to pay the alleged penalties, (2) they are unable to obtain a bond in double the amount of the purportedly assessed penalties to stay collection pending determination of the validity thereof, (3) there is no provision made for review of the denial of the requested administrative abatement, and (4) if defendant is not restrained from enforcing the claimed liens, plaintiffs' properties will be sold at distress sale for less than their reasonable value, even though it may ultimately result that plaintiffs owe no money to defendant. Plaintiffs further urge the inadequacy of any legal remedy for an injury they characterize as "punishment without trial by jury and without prior opportunity to contest the validity of the punishment," which injury they allege has resulted from defendant's attempt to enforce 26 U. S. C. §6672.

Plaintiffs ask this Court to grant whatever relief may be appropriate, and particularly to issue its restraining order and then, pursuant to 28 U. S. C. §§ 2282 and 2284, ² convene a three-judge court to test the constitutionality of 26 U. S. C. §6672. But the Court is admonished by the authorities that before taking steps to convene a three-judge court it must be satisfied that a substantial question of constitutionality is presented. William Jameson & Co. v. Morgenthau, 307 U. S. 171 (1939); International Ladies' Garment Workers' Union v. Donnelly Garment Co., 304 U. S. 243 (1938). See Nye, The Three-Judge Federal District Court , 9 Decalogue, J., 6, 7 (Jan.-Feb., 1959).

The Court is of the opinion that plaintiffs' contention concerning the constitutionality of 26 U. S. C. §6672 cannot be of sufficient substance if the allegations of the amended complaint are sufficient per se to warrant relief from defendant's actions taken under the purported authority of that section. Otherwise stated, it is this Court's opinion that if plaintiffs have a right to relief from alleged unauthorized administrative activity, it is unnecessary to determine the constitutional question and no three-judge court need be convened.

The parties have filed extensive memoranda in support of their respective positions on the Motion to Dismiss. They have stipulated that the Court shall decide the motion on the briefs and have waived oral argument. The Court will not, therefore, examine questions not raised or argued by the parties, and will consider that such points must be resolved as the parties have assumed them to be. Further, the Court should note that counsel for the defendant has represented in open court that the status quo would be maintained and that no further action would be taken to enforce collection of the alleged assessments by the detendant until further order of this Court. Plaintiffs, too, through plaintiff Bessie A. Mrizek, in open court have represented that plaintiffs would maintain the status quo and take no action to dispose of any of their assets until further order of this Court.

[Unauthorized Seizure of Property]

I Defendant does not contend that plaintiffs have no standing to complain of defendant's seizure of the assets of the R. J. Mrizek Co., Inc., and the Court, therefore, concludes for purposes of this case that they have.

It requires no profound comparison of the allegations of the amended complaint with the purported enabling statutes to demonstrate that plaintiffs sufficiently allege unauthorized action by the defendant.

Section 6331(a). (a) Section 6331(a) requires a notice and demand before the Secretary of the Treasury or his delegate may collect a tax, from any person liable to pay it, by way of levy upon property and rights thereto. Plaintiffs aver that there has been no such notice and demand. Assuming this averment to be true, the Court cannot approve a plain disregard of congressional mandate. Still assuming the averment to be true, the Court can conceive of no theory which would warrant the defendant's failure to comply with this statutory requirement. A Notice of Seizure, prepared five days after the levy as alleged by plaintiffs, does not satisfy the requirement.

(b) A levy is authorized only when a taxpayer "neglects or refuses" (after 10-day notice and demand), or upon "failure or refusal" (after jeopardy finding, notice and demand), to pay any tax for which he is liable. The amended complaint sufficiently alleges that the R. J. Mrizek Co., Inc. has never neglected, failed or refused to pay any tax liability, both because it was making payments pursuant to an agreement with defendant until defendant by his own actions cut off the means of payment, and because no neglect, failure or refusal to pay within the meaning of Section 6331 can occur prior to notice and demand.

(c) Plaintiffs' allegation that defendant's levy on the property of the R. J. Mrizek Co., Inc. has deprived them of their property, is unchallenged in defendant's Motion to Dismiss and supporting briefs. The Court holds that if plaintiffs are being thus deprived of their property by administrative action purporting to conform, but failing to conform, to the requirements of Section 6331, the plaintiffs have sufficiently alleged deprivation of property without due process of law in violation of the Fifth Amendment.

[No Demand for Penalties]

Section 6672. Plaintiffs do not allege that they are not required by law "to collect, truthfully account for, and pay over any tax imposed by this title" and the Court assumes that they are so required.

(a) Section 6671(a) reads:

"(a) Penalty assessed as tax.--The penalties and liabilities provided by this subchapter shall be paid upon notice and demand by the Secretary or his delegate, and shall be assessed and collected in the same manner as taxes. Except as otherwise provided, any reference in this title to 'tax' imposed by this title shall be deemed also to refer to the penalties and liabilities provided by this subchapter."

The amended complaint avers that the "notice and demand" specified in Section 6671(a) has never been given or made upon them. A notice of proposed assessment of the penalty prescribed by Section 6672 does not dispense with the necessity for the notice and demand prescribed by Section 6671(a) and referred to as forthcoming in the notice of proposed assessment. Assuming the averment to be true, the Court is obliged to conclude that this requirement of the statute has been disregarded by the defendant.

(b) According to the plaintiffs, the agreement described in the amended complaint has been breached, if breached, at all, by the defendant's alleged actions. But even if the agreement and the plaintiffs' actions pursuant to it are as alleged, this Court could not conclude, as plaintiffs urge, that plaintiffs did not "willfully [fail] to collect such tax, or truthfully account for and pay over such tax, or willfully [attempt] in any manner to evade or defeat any such tax or the payment thereof." Their good faith in the performance of the agreement does not wipe the slate clean of their actions prior to the agreement. Plaintiffs have not alleged that those prior actions were not willful, and therefore the Court will not sustain their allegation that defendant could not impose the sanction of Section 6672 penalties for lack of willfulness.

(c) According to the amended complaint, the tax which plaintiffs were required to pay over to defendant amounts to $32,474.48, while the assessment against each is $52,206.68. Although the pleading does not explain an apparent discrepancy between (i) plaintiffs' allegation of the amount of tax due and (ii) the statement in the exhibits (the itemization page of each of Exhibits B and C to the complaint) that "the following penalties, equal to the amount of taxes required to be withheld and not paid over to the District Director of Internal Revenue" "Total $52,206.68," the Court will disregard the discrepancy and read the complaint in the light most favorable to plaintiffs. Thus, if, as alleged, the assessed penalty is $19,732.20 more than authorized by Section 6672, the Court would have to hold the assessment excessive.

(d) Section 6321 reads as follows:

"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."

Plaintiffs, having alleged that no demand was ever made upon them for the penalty which has apparently been assessed in accordance with Regulation §301.6203-1, ³ have sufficiently claimed that the lien described in Section 6321 has not attached to their property.

(e) Plaintiffs claim that the purported assessments are speculative because they are assessed cumulatively against them severally rather than in the alternative. Assuming that the amount of each assessment is correct, the Court does not agree that Section 6672 permits but one, and no more than one, penalty assessment equal to the amount of the tax. The section permits assessment of the penalty against "any person" who does the illegal act. The Court does not now decide whether, in reliance on Section 6672, the Government can collect more than 100% of a tax. Plaintiffs' said claim is, therefore, insufficient in law.

[Deficiency Notice Not Required]

Section 6212. Plaintiffs complain that the "Notice of Deficiency" required by Section 6212 was not sent them. Paragraph (a) of that Section reads:

"(a) In General.--If the Secretary or his delegate determines that there is a deficiency in respect of any tax imposed by subtitles A or B, he is authorized to send notice of such deficiency to the taxpayer by registered mail."

Withholding taxes are imposed by Subtitle C of the Internal Revenue Code. Since no notice of deficiency was required to be sent the plaintiffs by Section 6212(a), plaintiffs cannot complain of its omission.

Disregarding, then, the proscription of Section 7421(a), ⁴ the Court holds that the amended complaint states a cause of action for relief against the alleged actions of the defendant which we have here concluded are contrary to statutory mandate. Those allegations which we have indicated are insufficient to warrant relief will be stricken.

[Injunction Against Collection of Taxes]

II The crux question is whether Section 7421(a) prohibits this Court from granting equitable relief from defendant's alleged illegal actions.

Notwithstanding the apparent breadth of the statutory withdrawal of jurisdiction in Section 7421(a), the courts have been presented with a number of situations to which the section does not apply. One District Judge, in Communist Party USA v. Moysey, 141 Fed. Supp. 332 (S. D. N. Y., 1956) [56-2 USTC ¶9625], has attempted to categorize these situations (at 338):

"(a) Suits to enjoin collection of taxes which are not due from the plaintiff but, in fact, are due from others. For example, Raffaele v. Granger, 3 Cir., 1952, 196 Fed. 2d 620, 622 [52-1 USTC ¶9321], in which the Court enjoined the distraint against a bank account in the joint names of husband and wife 'as tenants by the entireties' when the tax was due solely from the husband.

"(b) Cases in which plaintiff definitely showed that the taxes sought to be collected were 'probably' not validly due. For example, Midwest Haulers, Inc. v. Brady, 6 Cir., 1942, 128 F. 2d 496 [42-2 USTC ¶9550], and John M. Hirst & Co. v. Gentsch, 6 Cir., 1943, 133 F. 2d 247 [43-1 USTC ¶9356].

"(c) Cases in which a penalty was involved. For example, Hill v. Wallace; 259 U. S. 44, 42 S. Ct. 453, 66 L. Ed. 822 [1 USTC ¶65]; Lipke v. Lederer, 259 U. S. 557, 42 S. Ct. 549, 66 L. Ed. 1061 [1 USTC ¶67]; Regal Drug Corporation v. Wardell, 260 U. S. 386, 43 S. Ct. 152, 67 L. Ed. 318 [1922 CCH ¶2074]; Allen v. Regents of the University System of Georgia, 304 U. S. 439, 58 S. Ct. 980, 82 L. Ed. 1448 [38-2 USTC ¶9321].

"(d) Cases in which it was definitely demonstrated that it was not proper to levy the tax on the commodity in question, such as Miller v. Standard Nut Margarine Company of Florida, 284 U. S. 498, 52 S. Ct. 260, 78 L. Ed. 422 [3 USTC ¶878].

"(e) Cases based upon tax assessments fraudulently obtained by the tax collector by coercion. For example, Mitsukiyo Yoshimura v. Alsup, 9 Cir., 1948, 167 F. 2d 104 [48-1 USTC ¶9234]."

Our Court of Appeals has considered the scope of this section or its predecessor a number of times. Homan Mfg. Co., Inc. v. Long, 264 F. 2d 158 (1959) [59-1 USTC ¶9269]; Melvin Building Corp. v. Long, 262 F. 2d 920 (1959) [59-1 USTC ¶9126]; Mensik v. Long, 261 F. 2d 45 (1958) [58-2 USTC ¶9943]; Steiner v. Nelson, 259 F. 2d 853 (1958) [58-2 USTC ¶9871]; Homan Mfg. Co., Inc. v. Long, 242 F. 2d 645 (1957) [57-1 USTC ¶9372]; Tovar v. Jarecki, 173 F. 2d 449 (1949) [49-1 USTC ¶9218]; Tomlinson v. Smith, 128 F. 2d 808 (1942) [42-2 USTC ¶9540]. The more recent decisions consistently refer to Homan Mfg. Co., Inc. v. Long, 242 F. 2d 645 (1957) [57-1 USTC ¶9372] as declarative of the proper interpretation to be given the prohibition and the Supreme Court decisions construing it.

It is clear that in order for this Court to declare Section 7421(a) inapplicable, `special and extraordinary circumstances' must combine with illegality" of the tax, the collection of which is sought to be restrained. ⁵ 242 F. 2d at 653.

The decision in Steiner v. Nelson, supra, applies the rule to a factual circumstance which is substantially similar to ours. There the Court said (at 858):

"[T]he taxing officials [were not relieved] of their statutory obligation to give plaintiffs notice before assessment and collection. From that it follows that the district court could, and properly did, bring its equity powers into play despite §7421. [Citing the Homan case] Such notice is a condition precedent, and its absence invalidates the assessment."

Thus, our Court of Appeals has declared that failure of the authorities to comply with the statutory conditions precedent to collection of a tax presents such exceptional circumstance and so affects the legality of the attempted tax that the district courts may enjoin its collection.

It is the opinion of this Court that the allegations of the amended complaint, described above as "(a)" and "(d)" under the heading entitled "Section 6672," state a cause of action to which Section 7421(a) is inapplicable. The allegation described as "(c)" under that heading, which merely attacks the amount of the alleged assessment, is insufficient to require equitable intervention notwithstanding 7421(a).

In view of our opinion that Section 7421 does not preclude us from granting equitable relief from defendant's alleged disregard of statutory notice and demand requirements, we find it unnecessary to examine plaintiffs' further contention that the Section 6672 penalty is not a tax and is, therefore, without the Section 7421(a) prohibition.

[ Three-Judge Court Not Warranted]

III Accordingly, the Court concludes that the constitutional question raised by the plaintiffs is of insufficient substantiality on the record thus far to require the convention of a three-judge court pursuant to 28 U. S. C. §§ 2282 and 2284. However, should the question become pertinent as the case proceeds to issue or trial, the Court may reconsider it.

The Motion to Dismiss will be denied. The parties will prepare draft orders in accordance with this memorandum.

¹ (a) The district courts shall have original jurisdiction, concurrent with the Court of Claim, of

(1) Any civil action against the United States for the recovery of any internal-revenue tax alleged to have been erroneously or illegally assessed or collected, or any penalty claimed to have been collected without authority or any sum alleged to have been excessive or in any manner wrongfully collected under the internal-revenue laws, (i) if the claim does not exceed $10.000 or (ii) even if the claim exceeds $10.000 if the collector of internal revenue by whom such tax, penalty or sum was collected is dead or is not in office as collector of internal revenue when such action is commenced.

² §2282 reads: "An interlocutory or permanent injunction restraining the enforcement, operation or execution of any Act of Congress for repugnance to the Constitution of the United States shall not be granted by any district court or judge thereof unless the application therefor is heard and determined by a district court of three judges under section 2284 of this title. June 25, 1948, c. 646, 62 Stat. 968."

§2284 reads: "In any action or proceeding required by Act of Congress to be heard and determined by a district court of three judges the composition and procedure of the court, except as otherwise provided by law, shall be as follows:

"(1) The district judge to whom the application for injunction or other relief is presented shall constitute one member of such court. On the filing of the application, he shall immediately notify the chief judge of the circuit, who shall designate two other judges, at least one of whom shall be a circuit judge. Such judges shall serve as members of the court to hear and determine the action or proceeding. * * *

"(3) In any such case in which an application for an interlocutory injunction is made, the district judge to whom the application is made may, at any time, grant a temporary restraining order to prevent irreparable damage. The order, unless previously revoked by the district judge, shall remain in force only until the hearing and determination by the full court. It shall contain a specific finding, based upon evidence submitted to such judge and identified by reference thereto, that specified irreparable damage will result if the order is not granted." * * *

³ §301.6203-1 reads:

"The district director shall appoint one or more assessment officers, and the assessment shall be made by an assessment officer signing the summary record of assessment. The summary record, through supporting records, shall provide identification of the taxpayer, the character of the liability assessed, the taxable period if applicable, and the amount of the assessment. The amount of the assessment shall in the case of tax shown on a return by the taxpayer, be the amount so shown, and in all other cases the amount of the assessment shall be the amount shown on the supporting list or record. The date of the assessment is the date the summary record is signed by an assessment officer. If the taxpayer requests a copy of the record of assessment, the district director shall furnish the taxpayer a copy of the pertinent parts of the assessment which set forth the name of the taxpayer, the date of assessment, the character of the liability assessed, the taxable period, if applicable, and the amounts assessed."

⁴ §7421(a) reads:

"Except as provided in sections 6212(a) and (c), and 6213(a), no suit for the purpose of restraining the assessment or collection of any tax shall be maintained in any court."

⁵ The Court might here note that plaintiffs do not seek to restrain the "assessment" of the penalties prescribed in Section 6672. They allege no impropriety in the method of assessment or lack of power to follow the internal procedures described in Internal Revenue Regulation §301.6203-1.