Every so often, we encounter a prospective client with a tax lien against their company. Usually, the lien is related to delinquent payroll, state, or federal taxes. Having a tax lien is a serious matter that affects your ability to get factoring. This article explains how tax liens work and provides a strategy to secure financing. We cover:
1. What is a tax lien?
Liens record a security interest over assets used as collateral for a debt. Lenders use them to secure loans against your company’s assets. Taxing authorities use them as a tool to collect past-due taxes.
A lien’s priority is determined by its filing position. First-position lien holders have priority over second-position holders, and so on. Factoring companies cannot buy your accounts receivable if you have a tax lien. The factor isn’t able to secure a first-position lien against your A/R, which is a requirement for financing. Consequently, a tax lien can prevent you from getting business financing until the lien is resolved.
For this reason, factoring companies ask for tax information as part of their due diligence process. The factoring company needs to verify that your company is up to date with taxes or has a payment arrangement in place.
2. A tax lien example
Assume a company wants to get an invoice factoring line. The company has a tax problem and has not paid taxes for some time. Furthermore, taxing authorities have decided to file a tax lien that encumbers all assets.
The owner decides to get a factoring line to help improve the company’s cash flow. As part of the due diligence, the factoring company performs a UCC search and finds the tax lien. Consequently, the factoring company isn’t able to provide financing until the matter is addressed.
The factoring company must reject the transaction due to the risk. It could lose any funds sent to the customer and has limited options (if any) to recover losses. Fortunately, there is a possible solution to this problem.
3. Financing companies with tax liens
Working around this problem is challenging; however, it can be done in some instances. Consider the situation from the IRS or taxing authority’s point of view. They do not want a lien on your business, nor do they want to foreclose on any assets. The taxing authority just wants to be paid.
The IRS is flexible and is often willing to accommodate troubled companies that want to pay their taxes. The IRS can offer a payment plan that also allows the company to stay in business. Additionally, the IRS is often willing to subordinate its lien in favor of a factoring company if the factor agrees to submit payments on your behalf. Getting this subordination is essential for the transaction. It enables the factoring company to secure a first-position lien and finance your receivables.
Although the tax debt is your company’s responsibility, the factoring company usually handles the monthly payments. The payments come from the proceeds of your advances or rebates. This payment arrangement helps ensure that the payment plan stays current.
4. Consult an accountant
A tax lien clearly indicates that your company has financial problems. It’s a serious problem that should be handled with the help of professionals. Consider speaking with a CPA or tax attorney before you enter into any financing plans. These professionals can provide advice and strategies that are specific to your situation.
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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.