Glossary

Tax Lien Subordination

What is Tax Lien Subordination and When Does it Matter?

Tax lien subordination is when a tax lien, which is typically a high-priority debt against a property, is voluntarily moved lower in the order of payment priority. This means another lender or lienholder can get paid before the government for the tax debt. It usually happens when a property owner needs to refinance or take out another loan.

Understanding Tax Lien Subordination

Tax liens can be a real headache for property owners, especially when they’re looking to refinance or sell their homes. But what happens when you have a tax lien and want to take out a new mortgage or a home equity loan? That’s where tax lien subordination comes into play.

Why Tax Liens Have Priority

Before we dive into subordination, let’s quickly understand why tax liens usually have such a high position in the payment pecking order. When you don’t pay your property taxes, the government can place a tax lien on your property. This lien acts like a claim on your property. Think of it as a legal “I Owe You” note. It’s secured by your property. Because these are government debts (local or federal), they typically get paid before most other debts, including mortgages and other loans. This is called a priority position. This priority ensures the government gets the funds it needs to operate.

The Need for Subordination

So, where does subordination fit in? Imagine this scenario: You have a tax lien on your home, and you want to refinance your mortgage to get a better interest rate. The lender might be hesitant. They know that if they loan you money, the existing tax lien would have to be paid off first before they see any of their money back in the event of a foreclosure. In many cases, lenders require a “first position” lien. This is where tax lien subordination can help. It’s like telling the government, “Hey, can you go down the line a little so that the new lender has a better chance of getting paid?”

Subordination is not automatic. The government (or relevant taxing authority) must agree to lower the priority of its lien. This is done by a subordination agreement, a legal document that states the change in the priority of liens.

How Tax Lien Subordination Works

The Request: The property owner (or more often, the lender) requests the taxing authority to subordinate their lien. This is done in writing. The request will usually explain why subordination is necessary.
Review: The taxing authority will review the request to determine if subordination makes sense. They will consider various factors, such as the value of the property, the amount of the existing tax lien, and the amount of the new loan. There’s no obligation to grant a subordination, so it’s important to present a strong case.
Agreement: If the taxing authority agrees, they will sign a subordination agreement. This agreement legally states that the government’s lien will take a lower priority. It’s like a contractual swap in the payment pecking order.
Recording: The subordination agreement is typically recorded in public records, making the change of priority official. This is very important. It makes sure everyone is aware of the change of lien position.
Priority Shift: After the subordination agreement is in place, the new lender is in a higher priority position. In the event of a foreclosure, they would get paid before the government for the tax lien.

Scenarios Where Tax Lien Subordination is Used

Refinancing: As mentioned, this is one of the most common uses. It allows homeowners to refinance their mortgage, possibly saving a lot of money in the long run. It’s also important because many lenders will not give mortgages unless they are in a first lien position.
Home Equity Loans: When a homeowner needs a home equity loan, lenders will typically want their new loan to have a priority position. If there’s an existing tax lien, subordination may be needed.
New Construction or Renovation Loans: Sometimes, property owners take out loans for large construction projects. Again, lenders want the security of a first-priority position, so the existing tax lien may need to be subordinated.
Selling a Property: It’s unlikely that a buyer will be willing to purchase a property with a tax lien if it’s in a priority position. So subordination might be part of the sale process to allow the transaction to close, and the tax lien will then be paid off from the sales proceeds.

Who is Affected by Tax Lien Subordination?

Property Owners: Homeowners who have tax liens and need to refinance or obtain other financing are directly affected by this.
Lenders: Banks and other financial institutions involved in mortgage refinancing or home equity loans need this process to secure their loans. They will often initiate the request for subordination.
Government/Taxing Authorities: Local and federal governments are involved because it’s their tax lien that is being moved down the priority ladder.
Real Estate Professionals: Agents and attorneys who assist in real estate transactions involving tax liens need to understand this concept.

Related Concepts

Tax Lien: A legal claim against your property for unpaid taxes.
Lien Priority: The order in which debts are paid in the case of foreclosure. Tax liens usually have a high priority.
Subordination Agreement: The legal document that outlines the change in lien priority.
Refinance: Replacing an existing loan with a new one that has more favorable terms.
Home Equity Loan: Borrowing money using the equity you’ve built up in your home.

Tips and Strategies

Be Proactive: If you know you owe property taxes, try to resolve the matter before a lien is filed.
Seek Expert Help: If you have a tax lien, and you need to obtain a mortgage, it’s wise to consult with a tax advisor or real estate attorney to help you navigate this process.
Understand the Terms: Carefully review any subordination agreement before signing it. Ensure that you and the lender understand the implications of changing the lien priority.
Negotiate: While not guaranteed, you may have some negotiating power. Talk to the taxing authority about the specific circumstances. They might be willing to work with you, especially if you can show that refinancing will help you better manage your financial situation.
Provide Transparency: Be upfront with the taxing authority about your reasons for needing the subordination and provide supporting documentation.

Common Mistakes and Misconceptions

Subordination is Automatic: It’s not automatic. You must have the taxing authority’s agreement.
All Subordination Requests are Approved: Taxing authorities don’t have to approve every request. They might decline if they feel the risk is too high.
Subordination Eliminates the Tax Lien: It does not erase your obligation to pay your taxes; it just changes the order in which the debt gets paid. You still owe the debt.
Subordination is Always Beneficial: It can be beneficial in the right situation, but it can also make the lender less secure. So it’s not without its drawbacks for everyone involved.

Tax lien subordination may seem complex, but it is often a necessary procedure for individuals looking to improve their financial situation. Understanding how it works can be beneficial to homeowners, lenders, and anyone involved in real estate transactions. The main takeaway is that tax liens usually have high priority, and subordination is a process to temporarily lower their position. It is usually required to obtain other forms of financing.

Recommended for You

Website Performance Monitoring Tools Deduction

Website Performance Monitoring Tools Deduction refers to the tax deduction businesses can claim when they use specific software to monitor website performance.

Form 1040-X – Amended U.S. Individual Income Tax Return

Form 1040-X is used to correct errors or make changes to an individual's previously filed U.S. income tax return.

Workforce Green Energy Job Development Credit

The Workforce Green Energy Job Development Credit offers tax incentives to employers investing in green energy job training, promoting clean energy employment.

Form 8332 – Release/Revocation of Release of Claim to Exemption for Child by Custodial Parent

Form 8332 is a crucial IRS document used by divorced or separated parents to determine which parent can claim a child as a dependent for tax purposes. It helps avoid confusion and ensures both parents don't claim the same child.

Form 433-A – Collection Information Statement for Wage Earners and Self-Employed Individuals (highlighted under collection strategies)

Form 433-A - Collection Information Statement for Wage Earners and Self-Employed Individuals is a vital document for tax compliance.

Form 4136 – Credit for Federal Tax Paid on Fuels (previously noted but now expanded for excise categories)

Form 4136, the Credit for Federal Tax Paid on Fuels, allows certain taxpayers to claim a credit for excise taxes paid on specific fuels used for specific purposes. This credit helps reduce your overall tax liability.

Renewable Aviation Fuel Credit

The Renewable Aviation Fuel Credit is a tax incentive designed to promote the use of sustainable aviation fuels. It supports the reduction of carbon emissions in the aviation sector.

Form 2553 – Election by a Small Business Corporation (S-Corp Election)

Form 2553 - Election by a Small Business Corporation (S-Corp Election) allows businesses to elect S-Corp status for tax purposes.

Statewide Affordable Workforce Renewable Credit

The Statewide Affordable Workforce Renewable Credit is a tax incentive designed to support affordable housing for workforce communities, encouraging sustainable development.

Penalty Adjustment

Penalty Adjustment refers to modifications made to fines imposed for tax-related infractions, aimed at ensuring compliance and equitable treatment of taxpayers.

Letter 3276: Offer in Compromise Partial Payment Request

Letter 3276 from the IRS is a request for a partial payment when you've submitted an Offer in Compromise (OIC). It indicates the IRS is considering your OIC but wants to see some money upfront.

Business Hardship Plan

A Business Hardship Plan offers tax relief options for businesses experiencing financial challenges, helping them manage tax obligations more effectively.

Team Skills Assessment Workshops Deduction

The Team Skills Assessment Workshops Deduction allows businesses to claim tax deductions for expenses incurred in organizing workshops that enhance team skills.

Automated Notice Correction

Automated Notice Correction involves the IRS's systematic adjustment of tax returns to address identified errors. This process helps ensure accurate tax records.

Tax Credit

A tax credit is a direct reduction of your tax liability, meaning it lowers the amount of tax you owe dollar-for-dollar. It’s a valuable tool to help taxpayers save money.

Municipal Energy Workforce Training Credit

The Municipal Energy Workforce Training Credit is a tax incentive designed to support the development of a skilled workforce in the municipal energy sector.

Renewable Workforce Modernization Electrification Credit

The Renewable Workforce Modernization Electrification Credit is a tax incentive designed to promote and support workforce training and infrastructure enhancement for renewable energy initiatives.

Business Domain Name Renewal Deduction

Business domain name renewal fees are tax-deductible expenses, essential for maintaining online business presence. Learn about key requirements and compliance for deductions.

Data Storage Hardware Deduction

The Data Storage Hardware Deduction allows businesses to claim expenses related to data storage devices as a tax deduction, reducing taxable income and encouraging technology investments.

Teacher Supply Purchase Credit

The Teacher Supply Purchase Credit provides tax relief for educators by allowing deductions for classroom expenses. This credit incentivizes teachers to invest in educational resources.