Every so often we encounter a factoring prospect with a tax lien against their company. Usually, the lien is related to delinquent payroll taxes — one of the reasons that factoring companies ask for tax documents in their applications.
Unfortunately, a tax lien usually impacts your ability to get invoice factoring quickly, so we want to explain how tax liens affect factoring arrangements.
What is a lien?
A lien is a security interest over assets used as collateral for a debt. Filing a lien against a company’s assets is a technique that the IRS uses to collect past-due taxes. Because this lien usually encumbers company assets, including accounts receivable (invoices), the lien can prevent you from factoring – unless you get a “workaround” with the IRS (more on this later).
Here is an example
Assume that you want to buy a house and that you seek a mortgage through a bank. Once you buy the house using the mortgage, the bank files a lien on the house, listing it as collateral for the loan. That way, if you sell the house, the bank gets paid first. Similarly, a factoring transaction can be considered as the sale of your invoices to a finance company. If the IRS has a lien that encumbers your invoices, the factor won’t be able to buy your invoices because the IRS is claiming them as collateral for the tax debt — just as the bank claims your house as collateral for the mortgage.
Working around tax problems
Working around this problem is difficult; however, it can be done in some instances. To be able to factor your invoices, you need the IRS to issue a subordination to the factoring company. In other words, the IRS must agree to take a second position on those invoices and let the factoring company have first position.
Why would the IRS issue a subordination? The IRS often considers subordination if you can do three things:
- Work out a payment plan with the IRS
- Show them how receivables financing benefits your business and INCREASES your chances of satisfying your tax debt
- Have the factoring company make payments on your behalf (from factoring advances/rebates)
Although it requires more work, factoring can finance companies with tax problems. The best way to increase your chances of success is to work with a tax professional early in the process.
Get more information
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Disclaimer: We are not attorneys and this article should not be considered legal advice. Please consult an attorney or tax professional if you need advice.