More About Tax Levies

Tax levies are incurred when a taxpayer fails to pay federal or local income taxes in a timely manner. When payroll receives a tax levy it means that the government has tried other collection methods with the employee. Those efforts have failed and the last recourse is to collect the amount due via a payroll deduction.

The tax levy includes not only the amount of the tax due, but the penalties and interest incurred on the outstanding balance. The deduction is sent directly to the government agency submitting the levy. Tax levies take priority over all other garnishments or attachments, except child support, that were in effect prior to the tax levy. If one or more tax levies from different jurisdictions have been received for an employee and the employee does not have enough non-exempt funds to satisfy them, levies are implemented in the order received unless otherwise instructed by the IRS.

When the levy is received in the payroll department there are a couple of determinations that need to be made:

The amount of the wages subject to the levy
Other garnishments in effect that take priority over the tax levy

Basically, all wages paid to the employee are subject to the levy, unless specifically exempt under the IRS or IRC regulations. The Consumer Credit Protection Act does not apply in the case of a tax levy. The following list is wage payments that are typically exempt from tax levies:

Worker's compensation payments
Railroad Retirement Tax Act pension and annuity payments and certain armed forces personnel
Child Support orders already in effect
Welfare and supplemental social security payments
Unemployment compensation payments
Armed forces disability payments

The Taxpayer Relief Act of 1997 states that all of these payments other than child support can now be subject to a 15% tax levy if the IRS authorizes the levy. So this does not apply to state income tax levies.

A six part Form 668-W Notice of Levy on Wages, Salary, and Other Income is mailed from the IRS to the employee's employer to attach or garnish the employee's wages. The six parts consist of:

Part 1. Employer's copy - information on the amount of the levy and employers obligation to withhold

Part 2. Employee's copy of the levy

Part 3 - 5 Employees' information to company and IRS on filing status and dependents. Employees need to return Parts 3 and 4 to the employer within 3 days of receipt. The employer remits Part 3 to the IRS with the first payment and keeps Part 4. Part 5 is employee's copy to keep.

Part 6. IRS keeps this one. If the employee does not return Parts 3 and 4, the employer must figure the exempt amount as if the employee's filing status was married filling separately with one personal exemption. Do not use the employee's Form W-4 to determine the filing status and number of exemptions.

Publication 1494 is included in each tax levy and sets the guidelines as to how much to pay the employee each pay period. The rest of the employees pay is sent to the IRS to apply against the outstanding amount due. To view this publication, go to www.irs.gov.

In addition to the filing status, the payroll professional needs to determine which deductions can be taken before subtracting the levy. In 1994, the IRS ruled the following items might be subtracted from an employee's gross wages when calculating take-home pay:

Federal, state and local taxes
Involuntary and voluntary deductions in effect prior to receipt of the levy
Increases in deductions that are beyond the employee's control, for example - life insurance premiums, medical premiums, etc.
Deductions made after the levy if they are a condition of employment, for example - Union dues.

After these deductions are made form the employees gross pay, the remaining amount, or non-exempt funds, are subject to the federal tax levy. Any deductions requested by the employee after the tax levy has been received is deducted from the exempt amount.

Withholding monies for the tax levy should start the first pay day after the levy was received, regardless of when the wages were earned. The Form 668-W gives instructions on where to mail the withheld amounts. The first payment should be sent with Part 3 of the form and mailed to the address shown on Part 1 with the check made payable to the IRS.

The IRS will notify the employer to stop withholding with Form 668-D, Release of Levy/Release of Property from Levy, the withholding should not be stopped prior, even if the amount withheld equals the amount due on Part 1. Penalties and Interest continue to accrue as deductions are made to satisfy the levy. Usually, Form 668-D provides the final deduction amount to withhold and remit.

If the employee leaves the company prior to satisfying the levy, it is the employer's obligation to notify the IRS. If known, the new employers name and address should also be provided to the IRS. If there is severance, dismissal or vacation pay paid at termination, the IRS levy must be applied to those payments too.

If a company fails to withhold and pay amounts not exempt from the levy, the company is liable for the full amount required to be withheld plus interest from the date the wages were paid. Additionally, the employer is liable for a penalty equal to 50% of the amount recoverable by the IRS.

To avoid a tax levy, the employee can request voluntary withholding with Form 2159, Payroll Deductions Agreement. This is an agreement between the taxpayer and the IRS that voluntary deductions will be made to the IRS. With the friendlier IRS, more taxpayers have been given this option.