Tax Implications of Government Ownership in Criminal Forfeiture: IRS Ownership of Forfeited IRA Not Taxable as Income

Introduction

This commentary examines the Sixth Circuit’s decision in Lonnie Hubbard v. Commissioner of Internal Revenue (No. 24-1450), decided March 19, 2025. The central issue is whether the Internal Revenue Service (IRS) may treat the seizure and withdrawal of funds from an Individual Retirement Account (IRA) forfeited under criminal-forfeiture laws as taxable income to the defendant, Lonnie Hubbard. Hubbard, a convicted “pill mill” operator, argued that once the IRA was forfeited to the government, any later withdrawal of those funds by the IRS could not constitute his income. The Sixth Circuit reversed the Tax Court, establishing that when the government becomes the owner of specific property via forfeiture, subsequent distributions of that property belong to the government, not the former owner, and thus do not generate additional taxable income for the defendant.

Parties Involved:

• Petitioner-Appellant: Lonnie W. Hubbard, pro se
• Respondent-Appellee: Commissioner of Internal Revenue (the IRS)
• Court below: United States Tax Court (Judge Alina I. Marshall)
• Appellate Court: United States Court of Appeals for the Sixth Circuit (Judges Gibbons, Larsen, and Murphy)

Key Issues:

1. Nature of the forfeiture order (in rem asset‐forfeiture vs. in personam money judgment).
2. Whether transfer of IRA funds from a forfeited account constitutes “income” to the former owner under the Internal Revenue Code.
3. Proper identification of “payee or distributee” for IRA distributions under 26 U.S.C. § 408(d)(1).

Summary of the Judgment

The Sixth Circuit held that the Tax Court erred by treating the IRS’s seizure and withdrawal of over $400,000 from Hubbard’s IRA as taxable income to Hubbard. The panel clarified that:

• Criminal forfeiture of specified property (including an IRA) is an “in rem” proceeding awarding ownership of that property to the government.
• Once the IRS owned the IRA, it exercised full dominion and control—making the IRS the “payee or distributee” of any distributions.
• The tax code imposes income tax only on distributions received by the IRA participant or beneficiary; it does not tax a former owner on distributions that the government takes after forfeiture.

Therefore, Hubbard incurred no tax liability or penalty on the funds once removed from the account by the IRS. The Sixth Circuit reversed the Tax Court’s deficiency assessment and remanded for entry of judgment in Hubbard’s favor on that issue.

Analysis

Precedents Cited

The court’s reasoning drew extensively on both criminal-forfeiture and tax law precedents:

• Luis v. United States, 578 U.S. 5 (2016) – Distinction between in rem forfeiture (title in specific property) and in personam money judgments.
• Honeycutt v. United States, 581 U.S. 443 (2017) – Government’s acquisition of “specific assets” under forfeiture.
• Old Colony Trust Co. v. Commissioner, 279 U.S. 716 (1929) – Discharge of obligation can constitute taxable income.
• Helvering v. Bruun, 309 U.S. 461 (1940) and Commissioner v. Banks, 543 U.S. 426 (2005) – Broad definition of “gross income” includes relief from liability and unlawful gains.
• Chambers v. Commissioner, 80 T.C.M. 73 (2000) – Garnished wages to pay child support may generate taxable income.
• Tax Court decisions (e.g., Schroeder, Larotonda, Roberts) addressing involuntary IRA distributions and the presumption that the named IRA participant is the distributee.

Legal Reasoning

The Sixth Circuit applied a two-step analysis:

1. Identify the Type of Forfeiture
   Under Rule 32.2 of the Federal Rules of Criminal Procedure and statutory forfeiture provisions (21 U.S.C. § 853; 18 U.S.C. § 982(a)(1)), the district court’s order named specific assets—including Hubbard’s IRA—and granted title in rem to the government. No in personam money judgment was entered.
2. Determine Who Receives the Distribution
   The tax code treats “any amount paid or distributed out of an individual retirement plan” as gross income to the “payee or distributee” (26 U.S.C. § 408(d)(1)). The ordinary meaning of “payee or distributee” refers to the entity that actually receives the funds. Since the IRS, not Hubbard, owned and controlled the IRA at the time of withdrawal, the IRS was the proper distributee—and thus only the IRS, not Hubbard, faced any income inclusion.

The court rejected the IRS’s argument that the forfeiture created a “debt” to the government such that relief from that debt would trigger income recognition. A debt-forfeiture scenario might arise under an in personam money judgment, but not here. Further, policy arguments about maintaining the forensic deterrent effect of forfeiture could not override the clear statutory text.

Impact

This decision clarifies the intersection of criminal-forfeiture law and tax law in several ways:

• It confirms that in rem forfeitures transferring ownership of specific assets to the government do not create taxable income events for the former owner when the assets are liquidated.
• It emphasizes the importance of distinguishing between asset‐based forfeiture and money judgments in criminal cases for subsequent tax consequences.
• It provides guidance for practitioners that IRA distributions taken by the government after forfeiture are taxable only if the former owner retains title or control at the time of distribution.
• It may limit IRS deficiency assessments against defendants who forfeit retirement accounts involuntarily.

Complex Concepts Simplified

In rem forfeiture vs. in personam money judgment:
An in rem forfeiture names specific property (e.g., a bank account or vehicle) and conveys title of that property to the government. An in personam money judgment orders the defendant to pay a sum of money, collectible from any assets.

Gross income and relief from liability:
Under the Sixteenth Amendment and the Internal Revenue Code, “gross income” includes all gains—whether cash, property, or even discharge of debt. When someone else pays your debt, you generally recognize income equal to the amount forgiven. But if you no longer owe the debt because you no longer own the asset, there is nothing to discharge in your favor.

Payee or distributee in IRA context:
The tax code taxes whoever actually receives money from an IRA withdrawal. Normally that is the account owner. But if the government owns the account at the time of withdrawal, the government is the distributee, not the former owner.

Conclusion

The Sixth Circuit’s ruling in Hubbard v. Commissioner sets a clear precedent: when a criminal court orders in rem forfeiture of an IRA, transferring ownership to the government, the subsequent distribution of those funds by the government does not create taxable income for the former account holder. This decision resolves ambiguity in the treatment of involuntary IRA distributions post-forfeiture and underscores the necessity of carefully distinguishing the type of forfeiture entered. The court’s strict adherence to statutory text ensures that defendants are not saddled with unexpected tax obligations beyond the intended scope of Congress’s tax statutes or the punitive goal of criminal forfeiture.