Sgro v. U.S.

• Citation: 609 F.2d 1259
• Decision Date: 15 January 1980
• Docket Number: No. 79-1236,79-1236
• Parties: 79-2 USTC P 9733 Sam P. SGRO, Plaintiff-Appellee, v. UNITED STATES of America, Defendant-Appellant.
• Court: United States Courts of Appeals. United States Court of Appeals (7th Circuit)

Page 1259

609 F.2d 1259

79-2 USTC P 9733

Sam P. SGRO, Plaintiff-Appellee, v. UNITED STATES of America, Defendant-Appellant.

No. 79-1236.

United States Court of Appeals,

Seventh Circuit.

Argued Sept. 18, 1979.

Decided Dec. 3, 1979.

Rehearing Denied Jan. 15, 1980.

R. Russell Mather, U.S. Dept. of Justice, Washington, D.C., for defendant-appellant.

Craig A. Randle, Springfield, Ill., for plaintiff-appellee.

Before CUMMINGS and WOOD, Circuit Judges, and CAMPBELL, Senior District Judge. ^**

HARLINGTON WOOD, Jr., Circuit Judge.

We address the question whether a security agreement that grants a sole shareholder a lien on the assets of a close corporation to secure a note made by the purchasers of his interest is a "commercial transactions financing agreement" within the meaning of section 6323(c) of the Internal Revenue Code, 26 U.S.C. § 6323(c) (1976). The relative priority of that lien and a federal tax lien, upon which the Internal Revenue Service (IRS) has levied, depends on the resolution of this issue.

State law governs the vast majority of conflicts between lienholders competing for the same property. However, when one of the competitors, as here, is the United States Government holding a lien for unpaid taxes, ¹ federal law governs. United States v. Pioneer American Insurance Co., 374 U.S. 84, 83 S.Ct. 1651, 10 L.Ed.2d 770 (1963); United States v. City of New Britain, 347 U.S. 81, 74 S.Ct. 367, 98 L.Ed. 520 (1954); Avco Delta Corporation Canada Ltd. v. United States, 484 F.2d 692 (7th Cir. 1973), Cert. denied, 415 U.S. 931, 94 S.Ct. 1444, 39 L.Ed.2d 490 (1974). Specifically, the Federal Tax Lien Act of 1966, 26 U.S.C. §§ 6321-6326 (1976), outlines the rights of private creditors with respect to a federal tax lien.

Although the Act generally conforms to the notion that a lien first in time is first in right, a plethora of particularized rules govern the determination of priorities and consequently the resolution of this case. See generally Overman, Federal Tax Liens: A Guide to the Priority System of Section 6323 of the Internal Revenue Code, 16 B.C.Indus. & Com.L.Rev. 729 (1975). Our analysis begins with the rule that a federal tax lien arises "at the time the assessment is made." 26 U.S.C. § 6322 (1976). That the Government might not file notice until some future date, if at all, does not affect the immediate attachment of a tax lien when liability is admitted or assessed. Seemingly unencumbered property may therefore in fact be subject to a "secret" tax lien, which remains undisclosed until the Government files notice. The resulting uncertainty for those engaged in secured credit transactions is obvious.

Subsection (a) of section 6323 provides a measure of protection for the holders of certain interests. Notwithstanding the attachment of a tax lien upon assessment, this subsection provides that purchasers, holders of security interests, mechanics lienors, and judgment lien creditors will prevail if their interest attaches before the Government files appropriate notice. Attachment occurs at the moment the interest becomes choate, which is a question of federal law. Texas Oil & Gas Corp. v. United States, 466 F.2d 1040, 1051 (5th Cir. 1972), Cert. denied, 410 U.S. 929, 93 S.Ct. 1367, 35 L.Ed.2d 591 (1973). If "the identity of the lienor, the property subject to the lien, and the amount of the lien are established" before the Government files notice, those falling within the statutory class will prevail over a prior tax lien. 347 U.S. at 84, 74 S.Ct. at 369; See Plumb, Federal Tax Liens 149-50 (3d ed. 1972 & Supp.1974). Consequently, when a complete record search does not disclose a tax lien, holders of the interests listed above can rest assured that as of that date their interest, if choate, is not compromised by a prior tax lien.

Subsection (c) recognizes that some regular business transactions require the holders of the interests enumerated in subsection (a) to take inchoate liens on secured property. For example, a common way to secure a line of credit is to use one's accounts receivable as collateral. Such a loan may be secured by the outstanding balances in the debtor's accounts receivable at the time the loan is made and by further balances as they become due. See S.Rep.No.1708, 89th Cong., 2d Sess., Reprinted in (1966) U.S.Code Cong. & Admin.News, pp. 3722, 3729. Since a subsequently arising balance is not in existence at the time the loan is made, the resulting lien remains inchoate until the underlying debt becomes due. Similarly, the further advancement of funds on the same secured line of credit does not give rise to a choate lien until the funds are actually advanced and the amount of the lien can be established. In both instances, the resulting lien remains unprotected by subsection (a) until it becomes choate and therefore would be subject to a tax lien filed in the interim. A lender seeking assurances that his loans are secured by accounts receivable that are not subject to prior tax liens would have to examine the records each time the underlying debts change or he makes further advances secured by the same accounts receivable a task most lenders are unable or unwilling to undertake.

"(T)o keep this obligation within practical bounds," Id., Congress provided in subsection (c) for relief in certain very narrow circumstances:

(c) Protection for certain commercial transactions financing agreements, etc.

(1) In general. To the extent provided in this subsection, even though notice of a lien imposed by section 6321 has been filed, such lien shall not be valid with respect to a security interest which came into existence after tax lien filing but which

(A) is in qualified property covered by the terms of a written agreement entered into before tax lien filing and constituting

(i) a commercial transactions financing agreement,

(ii) a real property construction or improvement financing agreement, or

(iii) an obligatory disbursement agreement, and

(B) is protected under local law against a judgment lien arising, as of the time of tax lien filing, out of an unsecured obligation.

26 U.S.C. § 6323(c)(1) (1976). Congress, however, limited the relief provided therein to loans extended within forty-five days of the filing of notice or, if earlier, when the lender has actual notice of the filing. Id. § 6323(c)(2) (A). With the enactment of subsection (c), lenders engaging in accounts receivable financing and similar transactions that meet the statutory requirements need only perform a records search every forty-five days to be assured that the accounts receivable on which they hold a lien are unencumbered by a prior tax lien.

Since the priority accorded security interests that arise from the enumerated transactions abrogates the "first in time" rule, the requirements of subsection (c) are exceedingly strict. The plaintiff-appellee, Sgro, nevertheless contends his lien arose from a prior "commercial transactions financing agreement" and therefore has priority regardless of when it became choate. ² To prevail, Sgro must show that he took his lien pursuant to an agreement that meets the Code's strict requirements:

(2) Commercial transactions financing agreement. For purposes of this subsection

(A) Definition. The term "commercial transactions financing agreement" means an agreement (entered into by a person in the course of his trade or business)

(i) to make loans to the taxpayer to be secured by commercial financing security acquired by the taxpayer in the ordinary course of his trade or business, or

(ii) to purchase commercial financing security (other than inventory) acquired by the taxpayer in the ordinary course of his trade or business;

but such an agreement shall be treated as coming within the term only to the extent that such loan or purchase is made before the 46th day after the date of tax lien filing or (if earlier) before the lender or purchaser had actual notice or knowledge of such tax lien filing.

Id. Judge Ackerman, in an order dated December 19, 1978, found that "the security agreement and financing statement here fall within the ambit of this section." ³ The court accordingly entered judgment for Sgro in the amount of $15,071.04, which represents the product of Government levies on the taxpayer's accounts receivable and a seizure of funds from its cash register and safe. The Government appeals from that judgment. We reverse.

Until July 1, 1975, Sgro was the sole shareholder of Sgro Construction, Inc. (the Corporation). On that date, Sgro sold his interest in the Corporation to a syndicate of three purchasers in exchange for a cash payment of $25,000 and a $400,000 note executed jointly by the purchasers and the Corporation. To secure payment of the note, the same parties entered into a security agreement naming as collateral the assets of the Corporation including its accounts receivable. ⁴ On the following day Sgro perfected his lien by filing an appropriate financing statement with the Illinois Secretary of State and the Sangamon County Recorder of Deeds.

On January 15, 1976, the IRS assessed the Corporation $22,231.21 for unpaid employment and withholding taxes. On February 2, 1976, the IRS filed notice of a tax lien for the unpaid balance, $18,460.54, and promptly served notices of levy upon various businesses whose accounts contained outstanding balances owed to the Corporation. After recovering $10,429.27 on these levies, IRS agents, on February 6, 1976, seized the contents of the Corporation's cash register and safe, which together yielded $4,641.77.

When the syndicate defaulted in its payments on the note, Sgro took possession of the Corporation's tangible assets and instituted appropriate foreclosure proceedings. At those proceedings (Sgro I ), ⁵ Judge Ackerman entered summary judgment in favor of Sgro and against the United States on the ground that Sgro perfected his security interest in the tangible assets before the IRS filed notice of its tax...