Can I factor invoices with an IRS or state tax lien?

Why does a tax lien matter so much to a factoring company?

A tax lien matters because it can give a taxing authority a claim on the exact asset the factor is buying: your receivables. When the IRS assesses a tax and you don’t pay after demand, a lien arises by law on all of your property and rights to property. Once the IRS files a Notice of Federal Tax Lien, that claim becomes visible to everyone and can compete with a funder’s security interest.

The worst case for a funder is not the lien itself. It is a levy. If the IRS or a state agency sends a levy notice to your customers, those customers may be required to pay the government instead of the factor. The funder has advanced 80% or more against invoices that now go somewhere else. That single risk is why many factors decline tax lien files without reading further.

Your job is to show the funder that the lien is contained: the balance is known, returns are filed, payments are current, and there is a written path to subordination or payoff.

Never hide a tax lien. Funders run federal and state lien searches during diligence, and payroll tax problems often surface in bank statements. A lien discovered in week three usually kills the deal or reprices it sharply.

Who has priority on my receivables: the IRS or the factor?

Priority usually turns on timing. Under the federal tax lien rules in Internal Revenue Code section 6323, a federal tax lien generally is not valid against a holder of a perfected security interest until the IRS files its notice. A factor that bought receivables and filed its UCC financing statement before the IRS filed generally stands ahead on those receivables.

Receivables created after the notice is filed are harder. Section 6323(c) gives limited protection to certain commercial financing arrangements, which can include factoring, for receivables the business acquires before the 46th day after the IRS files, if a written agreement was in place before the filing and the statute’s other conditions are met, including limits tied to the funder’s actual knowledge of the filing. After that window, new invoices are generally exposed to the IRS lien. Section 6323(d) has a related 45-day rule for disbursements. These rules are technical and fact-specific, which is why funders rely on their own counsel rather than assume they apply.

In plain terms: a lien filed before the factoring starts is a problem to solve up front, and a lien filed during a facility is a problem with a short clock. Either way, the practical fix is the same: subordination, payoff or a release.

How does a certificate of subordination work?

A certificate of subordination is an IRS document that lets another creditor move ahead of the federal tax lien on specific property. You apply with Form 14134, Application for Certificate of Subordination of Federal Tax Lien, and IRS Publication 784 explains the process. The argument you make is simple: subordinating to the factor will help the IRS get paid, because the funding keeps the business operating and producing cash for the installment agreement.

Expect the IRS to ask for the proposed factoring agreement, a description of the receivables, the lien amount, and how the funding improves collection. Processing time varies, and it is reasonable to plan for several weeks. Some funders will start with a smaller facility while the application is pending, holding a larger reserve until the certificate arrives.

Subordination is not a discharge. The lien stays on record and still attaches to your other property. It simply steps behind the factor on the receivables named in the certificate.

Can the first funding pay off the tax lien?

Yes, a payoff from proceeds is one of the cleanest ways to handle a smaller lien. The funder wires part of the first advance directly to the IRS or state agency, obtains a payoff letter in advance, and requires a release once the balance is paid. For a federal lien, the IRS generally issues a Certificate of Release within about 30 days after the liability is satisfied.

This works when the lien is modest relative to your eligible receivables. If you have $400K of good invoices and a $35K state sales tax lien, paying it from the first advance is straightforward. If the lien is $300K, a payoff would consume most of your availability, and subordination or a structured paydown makes more sense.

For businesses on a direct debit installment agreement, the IRS may allow withdrawal of the filed notice in some circumstances using Form 12277. Withdrawal removes the public notice, which helps with funders, but ask a tax professional whether you qualify.

What about state tax liens and payroll taxes?

State tax liens follow state law, and the rules vary widely. Sales tax, unemployment insurance and state withholding liens are the most common. Many states will issue a payoff letter, a partial release or a subordination, but processes and timelines differ. A funder will usually want the payoff amount in writing from the agency before closing.

Unpaid payroll taxes get the hardest look. Withheld employee taxes are trust fund taxes, and the IRS can assess responsible owners and officers personally through the trust fund recovery penalty. Funders read an unpaid 941 balance as a sign that cash flow has already broken. To be workable, you need returns filed, current-quarter deposits being made on time, and an agreement in place for the back balance.

What makes a tax lien file workable?

A tax lien file becomes workable when the funder can see the whole liability, confirm it is not growing, and control the cash once it advances. Most declines come from uncertainty, not from the lien amount.

• All returns filed. Unfiled returns mean the true liability is unknown. This is the most common hard stop.
• Current deposits. Proof that payroll and sales tax deposits for the current period are being made on time.
• A signed installment agreement with payment history showing it is current, or a written payoff amount.
• Strong customers. Commercial or government account debtors with good payment history make funders more patient with the rest of the file.
• No active levy. If customers have received levy notices, resolve that first.
• A tax professional on the file. A CPA, enrolled agent or tax attorney who can talk to the funder about the subordination request speeds everything up.

What documents should I bring to a funder?

Bring the tax documents up front with the normal factoring package. Our team reviews the full file before routing it, and a complete package is the difference between a quick no and a structured yes. Start with the qualification checklist and add the items below.

• Copies of every Notice of Federal Tax Lien and state lien, with filing dates.
• Current IRS account transcripts and any state balance statements.
• The installment agreement and 6 to 12 months of payment confirmations.
• Proof that all required federal and state returns are filed.
• Recent payroll tax deposit confirmations.
• A draft Form 14134, if subordination is the plan.
• Your AR aging, customer list and sample invoices with proof of delivery.

Why do many factors decline tax lien files, and who says yes?

Many factors decline tax lien files because the work is slow and the downside is severe. A small-ticket factor built to fund in days does not want to wait weeks for an IRS certificate. Bank-owned factors often have policy rules that exclude any open federal lien.

The funders who say yes tend to be specialists who also handle bank declines, MCA consolidations and factor buyouts. They price the extra work into fees and reserves. Expect a lower advance rate at first, perhaps 70% to 80% instead of 85% to 90%, plus a reserve that steps down once the lien is subordinated or paid. Fees commonly run roughly 1% to 5% of invoice value per 30 days depending on volume, customer credit and terms; lien files tend to sit higher in that range.

Step by step

1. Get the full numberPull IRS account transcripts and state balances so you know every lien, period and amount.
2. File and stay currentFile any missing returns and make current-period tax deposits on time.
3. Lock in a planSign an installment agreement or get written payoff letters from each agency.
4. Disclose on the first callShare the lien details with your AR aging so the funder can structure around them.
5. Choose subordination or payoffApply with Form 14134, or have the funder wire a payoff from the first advance.
6. Fund and step down reservesStart factoring with a higher reserve that drops once the lien is subordinated or released.