Annotations- Reasonable Cause

---

 

 

6332 Annotations: Reasonable Cause- Levy

 

Penalty for Failure to Surrender Property: Reasonable Cause

 

[60-1 USTC ¶9365]Dan O. Hoye, as Controller of the City of Los Angeles, and Dan O. Hoye, Appellants v. United States of America and Robert A. Riddell, Director of Internal Revenue, Appellees Dan O. Hoye, as Controller of the City of Los Angeles, Dan O. Hoye and The City of Los Angeles, Appellants v. United States of America and Robert A. Riddell, Director of Internal Revenue, Appellees

(CA-9), U. S. Court of Appeals, 9th Circuit, Nos. 15,964, 16,553, 277 F2d 116, 3/17/60, District Court's decision affirmed, 59-1 USTC ¶9148, 169 F. Supp. 474 and 59-1 USTC ¶9416, 172 F. Supp. 532. Cause in No. 15,964 dismissed

[1954 Code Sec. 6332]

Tax lien: Surrender of property: Municipal controller.--A municipal controller was required to surrender wages accrued to a delinquent taxpayer upon notice of levy in accordance with Code Sec. 6332, regardless of the procedures prescribed by state law concerning creditors. Payment to the Government pursuant to levy is a complete defense against any action which the taxpayer might bring against the controller to recover the withheld wages and interest thereon, or to recover damages because of such withholding. While the controller was not personally liable for a penalty because of his actions in seeking to resolve a conflict between federal and state law, it was proper for the court to retain jurisdiction to enter a personal judgment against him should the city fail to make prompt payment to the District Director.

Roger Arnebergh, City Attorney, and Bourke Jones, Alfred E. Rogers, T. Paul Moody and Ralph J. Eubank, Assistant City Attorneys, Los Angeles, Calif., for appellants. Charles K. Rice, Assistant Attorney General, Davis W. Morton, Lee A. Jackson, I. Henry Kutz and Joseph Kovner, Department of Justice, Washington, D. C., and Laughlin E. Waters, United States Attorney, and Edward R. McHale and Robert H. Wyshak, Assistant United States Attorneys, Los Angeles, Calif., for appellees.

Before BARNES, HAMLEY, and JERTBERG, Circuit Judges.

HAMLEY, Circuit Judge:

These appeals bring into question the duties and obligations of a city controller who has received from a director of internal revenue a notice of levy upon unpaid wages of a city employee to secure payment of federal taxes and a demand for payment of the sum levied upon.

[Levy Against City Employee's Wages]

On March 19, 1957, Robert A. Riddell, District Director of Internal Revenue for the Los Angeles District, California, served upon Dan O. Hoye, Controller of the City of Los Angeles a notice of levy for unpaid income taxes in the amount of $155.93 owing and unpaid by an employee of the city for the year 1955. In this notice the Controller was advised that pursuant to section 6321, Internal Revenue Code of 1954, 26 U. S. C. A. §6321, all sums of money or other obligations owing from the city to the named taxpayer were thereby levied upon and seized for satisfaction of the unpaid tax. The notice also contained a demand for the amount necessary to satisfy the tax liability or such lesser sum for which the city might then be indebted to the taxpayer.

On the day such notice was received by the Controller the city was indebted to the taxpayer in the sum of $158.78 for wages. The Controller failed to pay over this sum or any part of it to the United States pursuant to the notice of levy described above. On June 25, 1957, the District Director served upon the Controller a "final demand" giving notice that failure to comply would result in enforcement proceedings as provided in section 6332 of the Internal Revenue Code of 1954, 26 U. S. C. A. §6332.

[City Controller Sues to Quash Notice of Levy]

On September 10, 1957, the controller filed in the United States District Court for the Southern District of California, Central Division, a complaint to quash a notice of levy and final demand served on a municipal corporation by the Director of Internal Revenue. The defendants named in this complaint were the United States , Riddell as Director of Internal Revenue, and the taxpayer. The taxpayer was never served and did not otherwise appear in the action.

In this complaint the Controller disclaimed any interest in the sum owing to the taxpayer other than for the purpose of paying it to the parties legally entitled thereto. The Controller asked that in addition to quashing the levy and final demand the court determine that he was bound to pay the money over to the Director only in accordance with California law which would exempt him from personal liability.

[State Law Governing Judgment Creditors]

It is alleged in the complaint as the sole reason for nonpayment that the United States had not complied with the requirements of section 710, California Code of Civil Procedure. This section provides in part that a judgment creditor may garnish the salary of a municipal employee by filing with the official whose duty corresponds to that of auditor an authenticated abstract or transcript of the judgment together with an affidavit stating the exact amount then due. The official is then required to pay into court the sum levied upon, less certain deductions not here material.

[Judgment Sought Against Controller]

On November 8, 1957, the United States filed a motion to intervene. Appended thereto was a proposed complaint in intervention to recover a penalty under section 6332(b) of the 1954 Internal Revenue Code. On the same day the United States filed a motion to dismiss and a supporting memorandum. The motion to dismiss was made on the ground that the court lacked jurisdiction over the United States and over the subject matter, and because the District Director was not a proper party.

On February 6, 1958, the district court granted the government's motion to intervene.

On the 24th day of the same month the United States filed an amended complaint in intervention. In the amended complaint the government sought not only a foreclosure of its tax lien but also a personal judgment against the Controller, Dan O. Hoye, in the amount of $155.93 and interest. The amended complaint in intervention also named the City of Los Angeles as a defendant in intervention.

On March 10, 1958, the district court granted the government's motion to dismiss the Controller's complaint. The motion was granted on the ground that in his complaint the Controller sought certain injunctive relief which is specifically prohibited by 26 U. S. C. A. §7421(a), and sought declaratory relief which is specifically prohibited by 28 U. S. C. A. §2201.

It was recited in the order of dismissal that "this is not a final order under Fed. R. Civ. P. 54(b), since the United States of America has filed its complaint in intervention." Seven days later the Controller appealed to this court from the order of March 10, 1958, the cause being docketed here as No. 15964.

The appeal came on for argument before this court on December 3, 1958. On March 2, 1959, an order was entered therein vacating the order of submission. It was further provided in such order that the determination of that appeal would be held in abeyance pending disposition in the trial court of the government's complaint in intervention, and until such time as either an appeal were taken from the judgment in intervention or the time for taking such an appeal had expired.

The government's complaint in intervention thereafter came on for trial, the facts being established by stipulation. The Controller had theretofore voluntarily deposited with the clerk of the court a payroll check payable to the taxpayer.

[Federal Collection Procedures Enforced Uniformly]

The basic question dealt with at this trial was whether the collection procedures of the Internal Revenue Service in the collection of monies past due under the internal revenue laws are to be enforced uniformly without regard to conditions prescribed by a state legislature for judgment creditors. Answering this question in the affirmative, the trial court concluded that section 710, California Code of Civil Procedure, is not relevant or applicable. The court held that federal internal revenue statutes are supreme and that levies thereunder are self-executing. In addition, the court stated, section 710 is not applicable because it relates only to a "judgment for the payment of money."

Consistent with this and other findings and conclusions, a judgment was entered on April 22, 1959 [59-1 USTC ¶9148, 59-1 USTC ¶9416], dismissing the Controller's complaint, denying the government personal recovery against the Controller, and granting judgment in favor of the United States against the City of Los Angeles enforcing its tax lien with costs. The Controller was ordered to issue and deliver a check in the sum of $178.78 to the District Director of Internal Revenue. The district court retained jurisdiction to enter a personal judgment against Hoye should the judgment against the city be not promptly paid upon its becoming final.

[Protection Sought for Controller Individually]

The defendants in intervention have appealed from the judgment of April 22, 1959, this appeal being docketed as No. 16553. In this second appeal the correctness of the district court ruling that the levy made by the Director of Internal Revenue is to be honored without regard to section 710, California Code of Civil Procedure, or other state statutes is not seriously challenged. It is urged, however, that because of the asserted conflict between section 710, California Code of Civil Procedure, and 26 U. S. C. A. §6332, a decision of this court is necessary to protect Hoye individually "and all other public officials similarly situated." Appellants also argue that the action of the district court in dismissing the Controller's original complaint was error.

[Payment to Government Pursuant to Levy is Defense Against Taxpayer]

Section 6331(a) of the Internal Revenue Code of 1954, 26 U. S. C. A. §6331(a), authorizes the Secretary or his delegate (District Director of Internal Revenue) to levy upon all property and rights to property (with certain exceptions not here material) belonging to any taxpayer who has neglected or refused to pay a tax for which he is liable. Section 6332(a) of the same code, 26 U. S. C. A. §6332(a), provides that any person in possession of or obligated with respect to property or rights to property subject to levy upon which a levy has been made shall upon demand by the Secretary or his delegate surrender such property or rights to the Secretary or his delegate, with exceptions not here material. Paragraph (b) of the same section provides that any person who fails or refuses to surrender such property or rights when demand is made shall be personally liable in a sum equal to the value of the property or rights not so surrendered. Paragraph (c) of the same section defines "person" as used in that section to include "an officer or employee of a corporation . . .."

Since section 6332(c) makes no distinction in its applicability to different classes of corporations, it includes municipal corporations such as the City of Los Angeles . See Sims v. United States, 359 U. S. 108 [59-1 USTC ¶9338], holding that a state is a "person" within the meaning of section 6332. Being a federal statute, it controls over any state statute prescribing procedures to be followed by city officials in connection with levies and garnishments. Florida v. Mellon, 273 U. S. 12, 17 [1 USTC ¶205].

It follows that the Controller was obliged to proceed as provided in section 6332, whether or not section 710, California Code of Civil Procedure specifies a different course. The judgment of April 22, 1959, correctly so provides, requiring the City of Los Angeles to pay $178.78 to the Director of Internal Revenue. We need not decide whether section 710 was intended to apply with regard to a levy made under the Internal Revenue Code.

Payment to the government pursuant to such levy is a complete defense against any action which the taxpayer might bring against the Controller to recover the withheld wages and interest thereon, or to recover damages because of such withholding. United States v. Eiland, 4 Cir., 223 F. 2d 118, 121-122 [55-1 USTC ¶9487]. The trial court correctly so ruled in its memorandum opinion of December 11, 1958 [59-1 USTC ¶9148].

Had the Controller surrendered the accumulated wages to the taxpayer after notice of the tax levy, he would have been personally liable to the government under section 6332(b). Sims v. United States, 359 U. S. 108, 114 [59-1 USTC ¶9338]. He did not do so, however, but sought only a judicial determination of his obligation in regard to the levy. The trial court was therefore correct in concluding that Hoye is not personally liable for a penalty because of his actions taken up to now. It was also proper to retain jurisdiction to enter a personal judgment against Hoye should the City of Los Engeles fail to make prompt payment to the Director of Internal Revenue.

It is not necessary to decide whether the trial court erred in dismissing the Controller's complaint on jurisdictional grounds. If it was error it was not prejudicial, since every issue of substance which was raised by way of that complaint was also raised by the complaint in intervention, and has been disposed of in the manner which has not prejudiced Hoye.

The judgment under review in docket No. 16553 is affirmed. The appeal in No. 15964 is dismissed as moot.

 

[74-2 USTC ¶9632] United States of America , Plaintiff v. Trans-World Bank, Defendant

U. S. District Court, Central Dist. Calif., No. 73-1829-HP Civil, 382 FSupp 1100, 7/17/74

[Code Sec. 6332]

Tax levy: Failure to surrender property: Personal liability: Bank.--A bank that was entitled to set off all of the taxpayer-depositor's account in order to satisfy the depositor's outstanding loan was held to be personally liable for its refusal to honor an IRS levy on the funds in the account since at the time of the levy the bank had not exercised its right of set-off. Also, since the taxpayer acted without reasonable cause it was liable for a penalty equal to fifty percent of the amount recoverable under the levy.

William D. Keller, United States Attorney, Arthur M. Greenwald, Assistant United States Attorney, Los Angeles, Calif., for U. S. Morris L. Davidson, 9200 Sunset Blvd., Los Angeles, Calif., for defendant.

Findings of Fact and Conclusions of Law

PREGURSON, District Judge:

Plaintiff , United States of America , filed suit seeking to have this Court declare Defendant, Trans-World Bank (hereafter "Defendant-Bank") personally liable for its refusal to honor an Internal Revenue Service levy served upon it on November 1, 1971. ¹ In addition, Plaintiff requested that a penalty equal to fifty percent (50%) of the amount recoverable under the levy be imposed against Defendant-Bank, since it acted without "reasonable cause" in failing to honor the levy. ²

On May 3, 1974, Plaintiff filed its motion for summary judgment supported by a memorandum of points and authorities and attached exhibits. Therefore, on May 20, 1974, Defendant-Bank filed its points and authorities in opposition to Plaintiff's motion. The matter was heard by this Court on June 10, 1974. Assistant United States Attorney Arthur M. Greenwald appeared for Plaintiff and Attorney Morris L. Davidson appeared for Defendant-Bank.

Defendant-Bank, through its attorney, Morris L. Davidson, represented to the Court at the June 10, 1974 hearing that there were no genuine issues of material fact to be resolved. Prior to the hearing, Defendant-Bank did not file a "statement of genuine issues" setting forth all material facts as to which it contended there existed a genuine issue to be litigated. ³ Moreover, Defendant-Bank did not file any affidavit controverting the facts claimed by Plaintiff in its motion; therefore, the facts claimed by Plaintiff are deemed admitted. ⁴

In its motion, Plaintiff contended that the sum of $1,260.35 on deposit in a checking account maintained at Defendant-Bank by taxpayer, Arnold A. Winter (hereafter referred to as "Taxpayer Winter") was "property or rights to property subject to levy," as that term is used in Section 6332(a) of Title 26, United States Code. ⁵ Moreover, since Defendant-Bank refused to turn over this sum to Plaintiff, as required by the levy, Defendant-Bank, under the provisions of Section 6332(c)(1), became personally liable to Plaintiff for the sum of $1,260.35. Furthermore, because its refusal was without reasonable cause, Defendant-Bank became liable for the fifty percent (50%) penalty imposed by Section 6332(c)(2).

In opposing Plaintiff's motion, Defendant-Bank contended that on the date the levy was served, it did not hold any property belonging to Taxpayer Winter which was subject to levy because on that date, it was entitled to set off against the sum of $1,260.35 in Taxpayer Winter's checking account debts in excess of that amount then owed it by Taxpayer Winter. At the June 10, 1974 hearing, Defendant-Bank acknowledged that it had not exercised any right of setoff before the levy was served.

Defendant-Bank also contended that it should not be subjected to the penalty imposed by Section 6332(c)(2) because it had reasonable cause to refuse to honor the levy, since this action was to be a test case in this Circuit.

In response to Defendant-Bank's arguments, Plaintiff contended that it is the exercise of the right of setoff that determines whether the property in question is subject to levy, not the existence of that right.

Further, Plaintiff contended that in the light of long standing judicial recognition of the importance of the government's ability to collect revenue expeditiously, it is essential that reasonable cause not encompass a clearly erroneous view of the law. In this regard, Plaintiff referred to the dissent of Circuit Judge Friendly in the case of United States v. Sterling National Bank & Trust Co. of New York [74-1 USTC ¶9336], 494 F. 2d 919, 923 (2d Cir. 1974).

This Court, having considered the pleadings, exhibits, memoranda, and arguments of counsel, and being fully advised, now makes the following findings of fact and conclusions of law:

I

Findings of Fact

1. This action was commenced by Plaintiff pursuant to Section 7401 of Title 26, United States Code, at the direction of the Attorney General and at the request of and with the authorization of the Chief Counsel, Internal Revenue Service, a delegate of the Secretary of the Treasury.

2. On September 30, 1970, Taxpayer Winter and his wife, Betty L. Winter, borrowed $2,710.62 from Defendant-Bank. This loan was secured by certain personal property, as more particularly described in a financial statement filed with the California Secretary of State on October 21, 1970. ⁶

3. On May 14, 1971, for the taxable year 1968, Plaintiff assessed Taxpayer Winter the sum of $10,296.82. This assessment consisted of unpaid income taxes in the amount of $7,265.59, together with the penalty provided by Section 6651(a)(1) of Title 26, United States Code in the amount of $1,791.40, plus the penalty provided by Section 6653(a) of Title 26, United States Code in the amount of $358.28, together with interest thereon as provided by law in the amount of $881.55. Moreover, on May 14, 1971, notice of the assessment and demand for payment of the sum of $10,296.82 were made upon Taxpayer Winter by Plaintiff.

4. In connection with this 1968 assessment of $10,296.82, Taxpayer Winter has made payments to Plaintiff totaling $912.90. To date, there is due and owing to Plaintiff from Taxpayer Winter for unpaid 1968 income taxes the sum of $9,383.92 plus interest thereon as provided by law.

5. On August 11, 1971, Taxpayer Winter borrowed the additional sum of $1,845.96 from Defendant-Bank. This second loan also was secured by certain personal property, as more particularly described in a security agreement dated August 11, 1971, signed by Taxpayer Winter. ⁷

6. On September 29, 1971, Plaintiff filed a notice of tax lien with the Los Angeles County Recorder's Office regarding its May 14, 1971 assessment.

[Notice of Levy]

7. On November 1, 1971, Plaintiff served a notice of levy upon Defendant-Bank. The notice declared that, as of November 1, 1971, Taxpayer Winter was indebted to Plaintiff in the amount of $10,579.48, that demand had been made upon him for this amount, and that he had neglected and refused to pay that sum. In addition, the notice told Defendant-Bank that all property, rights to property, monies, credits and bank deposits in its possession on November 1, 1971 which belonged to Taxpayer Winter were levied upon and seized to satisfy his tax liability, and furthermore, that demand was being made on Defendant-Bank to surrender these properties to Plaintiff to be applied against Taxpayer Winter's tax liability.

8. On November 1, 1971, the loans of September 30, 1970 and August 11, 1971 were in default in the amounts of $1,064.73 and $1,697.13, respectively.

9. On November 1, 1971, the date the levy was served, Taxpayer Winter maintained at Defendant-Bank a checking account (Account Number 01-010-206) in the name of Arnold A. Winter, d/b/a Winter's Building Maintenance. On that date, the checking account had a balance of $1,260.35. The checking account had not been pledged as security for either the September 30, 1970 or August 11, 1971 loans.

10. Because Defendant-Bank failed to surrender to Plaintiff the funds maintained by Taxpayer Winter in this checking account, Plaintiff, on November 30, 1971, served upon Defendant-Bank a final demand, which directed Defendant-Bank to honor the levy as required by Section 6332(a) of Title 26, United States Code. To date, Defendant-Bank has failed to honor the levy.

11. Before Defendant-Bank was served with notice of levy, it had not exercised any right of setoff on Taxpayer Winter's checking account in connection with any loans owed it by Taxpayer Winter.

12. On November 29, 1971, Morris L. Davidson, attorney for Defendant-Bank, wrote a letter to Revenue Officer R. D. Leslie of the Internal Revenue Service stating that Defendant-Bank would surrender the sum of $1,260.35, if the Internal Revenue Service would execute a "hold harmless" agreement indemnifying Defendant-Bank from any claim asserted by Taxpayer Winter in connection with this sum.

13. No November 30, 1971, Revenue Officer R. D. Leslie replied to Mr. Davidson's letter and advised him of the protection afforded by Section 6332(d) of Title 26, United States Code. ⁸

[Security Interest]

14. On December 6, 1971, Mr. Davidson wrote another letter to Revenue Officer R. D. Leslie stating that Defendant-Bank would not honor the levy because it had a security interest relating to certain obligations owed by Taxpayer Winter to Defendant-Bank which had priority over Plaintiff's tax claims against Taxpayer Winter. The nature of the security interest and the legal basis upon which the alleged priority was asserted were not set forth in Mr. Davidson's letter.

15. The following Conclusions of Law, insofar as they may be considered Findings of Fact, are so found by this Court to be true in all respects.

From the foregoing facts, the Court concludes:

II

Conclusions of Law

1. This Court has jurisdiction by virtue of Section 7402(a) of Title 26, United States Code and Sections 1340 and 1345 of Title 28, United States Code.

2. On November 1, 1971, the sum of $1,260.35 in Taxpayer Winter's checking account, Number 01-010-206, at Defendant-Bank was "property or rights to property subject to levy," within the purview of Section 6332(a) of Title 26, United States Code, because Defendant-Bank had not exercised any right of setoff on this checking account before it was served with the notice of levy on November 1, 1971. See United States v. First National Bank of Arizona [72-2 USTC ¶9654], 348 F. Supp. 388 (D. Ariz., 1970), affirmed per curiam, [72-2 USTC ¶9655] 458 F. 2d 513 (9th Cir. 1972); and United States v. Sterling National Bank & Trust Co. of New York, (S. D. N. Y., 1973), [74-1 USTC ¶9336] affirmed in part and reversed in part, 494 F. 2d 919 (2d Cir. 1974).

3. The defense of lien priority is not appropriate in a suit to enforce a levy under Section 6323(c) because a person served with a tax levy has only two defenses for a failure to comply; these are: (1) that the person is not in possession of taxpayer's property or (2) that the taxpayer's property is subject to a prior judicial attachment or execution. United States v. Manufacturers Trust Co. [52-2 USTC ¶9417], 198 F. 2d 366, 369 (2d Cir. 1952). See also Bank of Nevada v. United States [58-1 USTC ¶9228], 251 F. 2d 820, 824 (9th Cir. 1957), cert. denied, 356 U. S. 938 (1958); United States v. Bank of America National Trust & Savings Association [64-2 USTC ¶9533], 229 F. Supp. 906, 909 (S. D. Cal. 1964), aff'd per curiam, 345 F. 2d 624 (9th Cir. 1965), cert. denied, 382 U. S. 927; United States v. Sterling National Bank & Trust Co. of New York, supra.

Other means were available to Defendant-Bank to determine the question of lien priority. First, pursuant to Section 7426 of Title 26, United States Code, Defendant-Bank could have honored the levy and instituted an action against Plaintiff to recover a money judgment based upon Defendant-Bank's claim of lien priority. Second, pursuant to Section 2410 of Title 28, United States Code, and Section 386 of the California Code of Civil Procedure, Defendant-Bank could have instituted an interpleader action in state court asserting its claim to lien priority. Third, pursuant to Section 2410 of Title 26, United States Code and Rule 22 of the Federal Rules of Civil Procedure, Defendant-Bank could have instituted an interpleader action in federal court asserting its claim of lien priority. Finally, other procedural means may have been available in accordance with Section 1346 of Title 28, United States Code. ⁹

4. Under the terms of Section 6332(c)(2) of Title 26, United States Code, Defendant-Bank, having dishonored the levy of November 1, 1971, is personally liable to Plaintiff for the sum of $1,260.35.

5. Defendant-Bank did not act with reasonable cause when it refused to surrender the sum of $1,260.35 to Plaintiff.

¹ Section 6332(c)(1) of Title 26, United States Code provides:

"(c) ENFORCEMENT OF LEVY.

(1) EXTENT OF PERSONAL LIABILITY. Any person who fails or refuses to surrender any property or rights to property, subject to levy, upon demand by the Secretary or his delegate, shall be liable in his own person and estate to the United States in a sum equal to the value of the property or rights not so surrendered, but not exceeding the amount of taxes for the collection of which such levy has been made, together with costs and interest on such sum at the rate of 6 percent per annum from the date of such levy. Any amount (other than costs) recovered under this paragraph shall be credited against the tax liability for the collection of which such levy was made."

² Section 6332(c)(2) of Title 26, United States Code provides:

"(c) ENFORCEMENT OF LEVY.

(1) EXTENT OF PERSONAL LIABILITY. * * *

(2) PENALTY FOR VIOLATION. In addition to the personal liability imposed by paragraph (1), if any person required to surrender property or rights to property fails or refuses to surrender such property or rights to property without reasonable cause, such person shall be liable for a penalty equal to 50 percent of the amount recoverable under paragraph (1). No part of such penalty shall be credited against the tax liability for the collection of which such levy was made."

³ Local Rule 3(g)(2) provides:

"Any party who opposes the motion [for summary judgment] shall, not later than five (5) days after service of the notice of motion upon him, serve and file a concise 'statement of genuine issues' setting forth all material facts as to which it is contended there exists a genuine issue necessary to be litigated."

⁴ Rule 56(e) of the Federal Rules of Civil Procedure provides:

"(e) FORM OF AFFIDAVITS; FURTHER TESTIMONY; DEFENSE REQUIRED. Supporting and opposing affidavits shall be made on personal knowledge, set forth such facts as would be admissible in evidence, and shall show affirmatively that the affiant is competent to testify to the matters stated therein. Sworn or certified copies of all papers or parts thereof referred to in an affidavit shall be attached thereto or served therewith. The court may permit affidavits to be supplemented or opposed by deposition, answers to interrogatories, or further affidavits. When a motion for summary judgment is made and supported as provided in this rule, an adverse party may not rest upon the mere allegations or denials of his pleading, but his response, by affidavits or as otherwise provided in this rule, must set forth specific facts showing that there is a genuine issue for trial. If he does not so respond, summary judgment, if appropriate, shall be entered against him."

Local Rule 3(g)(3) provides:

"In determining any motion for summary judgment, the Court may assume that the facts as claimed by the moving party are admitted to exist without controversy except as and to the extent that such facts are controverted by affidavit filed in opposition to the motion."

⁵ Section 6332(a) of Title 26, United States Code provides:

"SEC. 6332. SURRENDER OF PROPERTY SUBJECT TO LEVY.

(a) REQUIREMENT.

Except as otherwise provided in subsection (b), any person in possession of (or obligated with respect to) property or rights to property subject to levy upon which a levy has been made shall, upon demand of the Secretary or his delegate, surrender such property or rights (or discharge such obligation) to the Secretary or his delegate, except such part of the property or rights as is, at the time of such demand, subject to an attachment or execution under any judicial process."

⁶ Section 9302(1) of the California Commercial Code requires the filing of a financial statement by the Defendant-Bank to perfect a security interest in the property pledged as collateral for the loan. Section 6401(1) of the California Commercial Code required the filing of the instant financial statement with the California Secretary of State.

⁷ Section 9203(1)(b) of the California Commercial Code provides, in pertinent part, that a security interest is not enforceable against the debtor or third parties unless the debtor has signed a security agreement which contains a description of the collateral pledged.

⁸ Section 6332(d) of Title 26, United States Code provides:

"(d) EFFECT OF HONORING LEVY.

Any person in possession of (or obligated with respect to) property or rights to property subject to levy upon which a levy has been made who, upon demand by the Secretary or his delegate, surrenders such property or rights to property (or discharges such obligation) to the Secretary or his delegate (or who pays a liability under subsection (c)(1) shall be discharged from any obligation or liability to the delinquent taxpayer with respect to such property or rights to property arising from such surrender or payment. In the case of a levy which is satisfied pursuant to subsection (b), such organization shall also be discharged from any obligation or liability to any beneficiary arising from such surrender or payment."

⁹ Section 7426 of Title 26, United States Code, in pertinent part, provides:

"SEC. 7426. CIVIL ACTIONS BY PERSONS OTHER THAN TAXPAYERS.

(a) ACTIONS PERMITTED.

(1) WRONGFUL LEVY. If a levy has been made on property or property has been sold pursuant to a levy, any person (other than the person against whom is assessed the tax out of which such levy arose) who claims an interest in or lien on such property and that such property was wrongfully levied upon may bring a civil action against the United States in a distrct court of the United States. Such action may be brought without regard to whether such property has been surrendered to or sold by the Secretary or his delegate.

* * *

(b) ADJUDICATION. The district court shall have jurisdiction to grant only such of the following forms of relief as may be appropriate in the circumstances:

* * *

(2) RECOVERY OF PROPERTY. If the court determines that such property has been wrongfully levied upon, the court may--

* * *

(B) grant a judgment for the amount of money levied upon. . . ."

Section 2410 of Title 28, United States Code, in pertinent part, provides:

"SEC. 2410. ACTIONS AFFECTING PROPERTY ON WHICH UNITED STATES HAS LIEN.

(a) Under the conditions prescribed in this section . . . the United States may be named a party in any civil action or suit in any district court or in any State court having jurisdiction of the subject matter--

(1) to quiet title to,

(2) to foreclose a mortgage or other lien upon,

(3) to partition,

(4) to condemn, or

(5) of interpleader or in the nature of interpleader with respect to,

real or personal property on which the United States has or claims a mortgage or other lien."

* * *

Section 1346 of Title 28, United States Code, in pertinent part, provides:

"SEC. 1346. UNITED STATES AS DEFENDANT.

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

* * *

(c) The jurisdiction conferred by this section includes jurisdiction of any setoff, counterclaim, or other claim or demand whatever on the part of the United States against any plaintiff commencing an action under this section."

 

[74-1 USTC ¶9336] United States of America , Plaintiff-Appellee v. Sterling National Bank & Trust Company of New York , Defendant Third Party Plaintiff-Appellant v. Charles S. Smith, Third Party Defendant

(CA-2), U. S. Court of Appeals, 2nd Circuit, Docket Nos. 73-2300, 73-2301, 494 F2d 919, 3/27/74, Aff'g and rev'g District Court, 73-2 USTC ¶9494, 360 F. Supp. 917

[Code Sec. 6332(c)]

Levy: Property subject to: Failure to surrender: Penalty: Reasonable cause.--A bank was under a duty to comply with an IRS levy on funds in a depositor's account. Under state law, the entire amount of those funds was property of the bank. However, the penalty for failure to comply with the levy should not have been assessed. Prior decisions gave the bank reasonable cause to believe some of the money belonged to the customer.

One dissent.

Paul J. Curran, United States Attorney, David P. Land, Assistant United States Attorney, New York, N. Y., for plaintiff-appellee. Harry Gurahian, Sterling Nat'l Bank & Tr. Co., New York , N. Y., for defendant and third party plaintiff-appellant. David M. Huggin, H. Rodgin Cohen, Sullivan & Cromwell, 48 Wall St., New York, N. Y., for third party defendant.

Before LUMBARD, FRIENDLY, and TIMBERS, Circuit Judges.

LUMBARD, Circuit Judge:

This appeal concerns the duty of a bank to comply with a levy upon the checking account of one of its customers imposed by the Internal Revenue Service (IRS) under the authority given it by the Internal Revenue Code of 1954, as amended by the Federal Tax Lien Act of 1966, Pub. L. No. 89-719, 80 Stat. 1125. The Sterling National Bank and Trust Company of New York appeals from an order entered on June 5, 1973, in the Southern District of New York which granted the United States ' motion for summary judgment and imposed a penalty of $1,889.82 on the bank for not complying with a tax levy of the Internal Revenue Service. [73-2 USTC ¶9494] 360 F. Supp. 917 (S. D. N. Y. 1973).

[Background]

1. On February 13, 1970, the IRS made an income tax assessment and demand for payment against Charles S. Smith and his wife, jointly and severally, in the amount of $8,211.38 for the year 1968. Thereafter, Smith borrowed $6,097.32 from the Sterling Bank of June 23, 1970, giving in turn a promissory note. Under the terms of the note, the bank had a "continuing lien and/or right to set-off" for the amount due on the note, whether matured or unmatured, against any balance that Smith had in his accounts at the bank, which the bank could exercise at its option without giving Smith any notice. Subsequently on August 14, 1970, the IRS made a second assessment and demand for $6,475.20 in back taxes due from the Smiths for the year 1969. Pursuant to Int. Rev. Code of 1954, §§ 6321-23, the IRS filed notices of its liens concerning the two assessments with the Register of New York County on November 5, 1970 and March 3, 1971, respectively.

On June 9, 1971, the IRS served the bank with a notice of levy which informed it that Smith was indebted to the United States in the amount of $15,531.25 in back taxes and statutory additions and which directed the bank to remit to IRS all of Smith's property which it held. At that time Smith's checking account had a balance of $5,132.36. Prior to the service of the levy, the bank had not restricted Smith's right to draw upon his account, and Smith had not fallen behind in his installment payments on the loan.

The bank did not remit the funds as requested and on June 18, 1971, the IRS served on the bank a final demand to turn over the funds in Smith's account. On July 2, the bank, exercising its alleged right of setoff under the terms of the June 23, 1970, loan, deducted from the funds in Smith's checking account the $3,779.64 which was still outstanding on the loan and turned over to the IRS the balance of $1,352.72. On August 5, the IRS wrote the bank a letter which stated that the IRS had a right to the entire amount in the account and demanded the remaining $3,779.64. When the bank did not comply with this demand, the United States instituted this action against the bank to recover the $3,779.64, a statutory penalty of 50% of that amount under Int. Rev. Code of 1954, §6332(c)(1), and interest and costs. The claim for the $3,779.64 was rendered moot when Smith died and his estate subsequently paid his tax indebtedness with interest in full. The government, however, continued its suit to recover the statutory penalty of $1,889.64 on the ground that the bank did not have reasonable cause when it refused to comply with the tax levy. Judge Palmieri granted judgment for the government, and the bank appeals.

[The Law]

II. Section 6332(a) of the Internal Revenue Code of 1954 provides (with an exception not relevant here) that "any person in possession of (or obligated with respect to) property or rights to property subject to levy upon which levy has been made" shall upon demand by the Internal Revenue Service surrender such properties and rights to the Service unless such property or rights is subject to attachment or execution under any judicial process at the time of the demand. Section 6332(c)(2) provides that any person who fails to surrender property to the IRS without reasonable cause is subject to a penalty of 50% of the amount demanded.

Three defenses are asserted here on the bank's behalf: (1) the bank held no property of Smith at the time of the levy other than the $1,352.72 it turned over; (2) the bank's right of setoff gave it a lien priority over the government's tax lien; (3) and, in any event, no penalty should be imposed because the bank was acting with reasonable cause. We have previously held that a person served with a tax levy has only two defenses for a failure to comply with the demand, which are either that the person is not in possession of the taxpayer's property or the property is subject to a prior judicial attachment or execution. United States v. Manufacturers Trust Co. [52-2 USTC ¶9417], 198 F. 2d 366, 369 (2d Cir. 1952). See also Bank of Nevada v. United States [58-1 USTC ¶9228], 251 F. 2d 820, 824 (9th Cir. 1957), cert. denied, 356 U. S. 938 (1958); United States v. Bank of America National Trust & Savings Association [64-2 USTC ¶9533], 229 F. Supp. 906, 909 (S. D. Cal. 1964), aff'd per curiam [65-1 USTC ¶9429] 345 F. 2d 624 (9th Cir.), cert. denied, 382 U. S. 927 (1965). Therefore, the defense of lien priority is not before us. ¹ Concerning the other two defenses, we hold that the bank did hold property of Smith's which it was obligated to turn over to the IRS, but that since the legal question was movel it should not have been penalized for its failure to comply.

The question of whether the bank held property or a right to property of Smith is one of state law, in this case New York 's. Aquilino v. United States [60-2 USTC ¶9538], 363 U. S. 509 (1960). It is maintained that the bank had no property of Smith other than the $1,352.72 turn over since the bank had a right to set off against the checking account any unpaid balance on the loan. Therefore, it is argued, at any one moment only the balance of the checking account funds over any unpaid obligations is property of the taxpayer held by the bank. In support of this proposition §151 of the New York Debtor and Creditor Law is cited. That provision provides in part that upon "the issuance of a warrant attachment against any property" of a creditor, the debtor may set off and apply the property against the creditor's indebtedness to him. Cases are also cited that have allowed banks to offset other obligations from account. See, e.g., Kress v. Central Trust Co. of Rochester, 246 App. Div. 76, 283 N. Y. S. 467 (1935), aff'd mem., 272 N. Y. 629, 5 N. E. 2d 365 (1936).

We are not convinced by this argument. The cases cited deal only with the right of setoff, and not with whether the full amount in the account is "property" of the bank's customer. The literal language of §151 quoted above would indicate that the full amount in the account is the customer's property. Under any realistic definition of "property" the full amount in Smith's account was his property or his right to property. Until the bank acted to restrict his right to draw on the funds, Smith was entitled to write checks up to the full amount in the account. Clearly then all the funds in Smith's checking account were his property at the time that the IRS served the bank with notice of levy. In similar circumstances, the Ninth Circuit has reached the same conclusion. Bank of Nevada v. United States, supra; United States v. Bank of America National Trust & Savings Association, supra.

To support the bank's position, two cases from the Southern District are cited. In United States v. Hampton Garment Co., 71-1 USTC ¶9357 (S. D. N. Y. 1971), Hampton Garment owed money to a contractor. Under the terms of a collective bargaining agreement, Hampton was obligated to pay the wages of the contractor's employees if the contractor defaulted in payment. The contractor did so default, but prior to notice of the default the IRS served notice of a tax levy on Hampton because of the contractor's unpaid taxes. Judge Mansfield held that, unless Hampton agreed to pay the contractor all that was due it regardless of whether Hampton was obliged to pay the contractor's workers, Hampton need only turn over the difference between the two obligations to the IRS.

The case before us is clearly distinguishable from Hampton Germent. The thrust of that case is that the government can stand in no better position that the taxpayer whose property or right to property is being levied upon. See also United States v. Winnett [48-1 USTC ¶9115], 165 F. 2d 149 (9th Cir. 1947); Karno-Smith Co. v. Maloney [40-2 USTC ¶9533], 112 F. 2d 690 (3d Cir. 1940). Here Smith had full freedom to use the funds in his checking account until the bank acted to restrict his use. At any time up to when the IRS served its notice of levy, Smith could have written a check payable to the IRS for the balance of his account. Here the IRS was asserting no right to the funds in the checking account that Smith did not already have.

The second case cited for the bank's position is United States v. Bank of the United States [1934 CCH ¶9099], 5 F. Supp. 942 (S. D. N. Y. 1934). There the bank's customer gave a demand note in return for a loan. The customer had a checking account at the bank which he regularly used for deposits and withdrawals. The government served notice of levy upon the customer's account and the bank refused to honor it. The district court held that the government was entitled to nothing because the amount outstanding on the loan was greater than the amount in the checking account. The court reasoned that since the bank could have demanded payment on the note at any time, the right of the customer to withdraw funds from his account was really a "revocable license" which the bank could withdraw even after notice of a tax levy was served. 5 F. Supp. at 945. We think this decision completely ignores the reality of the situation. Until the bank acts to restrict the right of its customer to withdraw funds from his account, the bank is holding the customer's property or his right to property. Therefore, we hold that Sterling Bank had a duty to honor the tax levy upon Smith's checking account. ² To the extent the Bank of United States is contrary to this holding, it is overruled.