Is There Income Tax Debt?

2019 Connecticut Bankruptcy Conference

What You Need to Know about Paying and Discharging Taxes in Bankruptcy

October 3, 2019

Time: 11:20 a.m. – 12:20 p.m.

CT Bar Association

Saint Clements Castle, Portland, CT

CT Bar Institute, Inc.

CT: 6.5 CLE Credits (5.5 General; 1.0 Ethics) NY: 7.0 CLE Credits (6.0 AOP; 1.0 Ethics)

Materials Sponsors

No representation or warranty is made as to the accuracy of these materials. Readers should check primary sources where appropriate and use the traditional legal research techniques to make sure that the information has not been affected or changed by recent developments.

Page 1 of 187 Lawyers’ Principles of Professionalism

As a lawyer I must strive to make our system of justice work fairly and Where consistent with my client's interests, I will communicate with efficiently. In order to carry out that responsibility, not only will I comply opposing counsel in an effort to avoid litigation and to resolve litigation with the letter and spirit of the disciplinary standards applicable to all that has actually commenced; lawyers, but I will also conduct myself in accordance with the following Principles of Professionalism when dealing with my client, opposing I will withdraw voluntarily claims or defense when it becomes apparent parties, their counsel, the courts and the general public. that they do not have merit or are superfluous;

Civility and courtesy are the hallmarks of professionalism and should not I will not file frivolous motions; be equated with weakness;

I will endeavor to be courteous and civil, both in oral and in written I will make every effort to agree with other counsel, as early as possible, on communications; a voluntary exchange of information and on a plan for discovery;

I will not knowingly make statements of fact or of law that are untrue; I will attempt to resolve, by agreement, my objections to matters contained in my opponent's pleadings and discovery requests; I will agree to reasonable requests for extensions of time or for waiver of procedural formalities when the legitimate interests of my client will not be In civil matters, I will stipulate to facts as to which there is no genuine adversely affected; dispute;

I will refrain from causing unreasonable delays; I will endeavor to be punctual in attending court hearings, conferences, meetings and depositions; I will endeavor to consult with opposing counsel before scheduling depositions and meetings and before rescheduling hearings, and I will I will at all times be candid with the court and its personnel; cooperate with opposing counsel when scheduling changes are requested; I will remember that, in addition to commitment to my client's cause, my When scheduled hearings or depositions have to be canceled, I will notify responsibilities as a lawyer include a devotion to the public good; opposing counsel, and if appropriate, the court (or other tribunal) as early as possible; I will endeavor to keep myself current in the areas in which I practice and when necessary, will associate with, or refer my client to, counsel Before dates for hearings or trials are set, or if that is not feasible, knowledgeable in another field of practice; immediately after such dates have been set, I will attempt to verify the availability of key participants and witnesses so that I can promptly notify I will be mindful of the fact that, as a member of a self-regulating the court (or other tribunal) and opposing counsel of any likely problem in profession, it is incumbent on me to report violations by fellow lawyers as that regard; required by the Rules of Professional Conduct;

I will refrain from utilizing litigation or any other course of conduct to I will be mindful of the need to protect the image of the legal profession in harass the opposing party; the eyes of the public and will be so guided when considering methods and content of advertising; I will refrain from engaging in excessive and abusive discovery, and I will comply with all reasonable discovery requests; I will be mindful that the law is a learned profession and that among its desirable goals are devotion to public service, improvement of In depositions and other proceedings, and in negotiations, I will conduct administration of justice, and the contribution of uncompensated time and myself with dignity, avoid making groundless objections and refrain from civic influence on behalf of those persons who cannot afford adequate legal engaging I acts of rudeness or disrespect; assistance;

I will not serve motions and pleadings on the other party or counsel at such I will endeavor to ensure that all persons, regardless of race, age, gender, time or in such manner as will unfairly limit the other party’s opportunity disability, national origin, religion, sexual orientation, color, or creed to respond; receive fair and equal treatment under the law, and will always conduct myself in such a way as to promote equality and justice for all. In business transactions I will not quarrel over matters of form or style, but will concentrate on matters of substance and content; It is understood that nothing in these Principles shall be deemed to supersede, supplement or in any way amend the Rules of Professional Conduct, alter existing standards of conduct against which lawyer conduct I will be a vigorous and zealous advocate on behalf of my client, while might be judged or become a basis for the imposition of civil liability of recognizing, as an officer of the court, that excessive zeal may be any kind. detrimental to my client’s interests as well as to the proper functioning of our system of justice; --Adopted by the Connecticut Bar Association House of Delegates on June 6, 1994 While I must consider my client’s decision concerning the objectives of the representation, I nevertheless will counsel my client that a willingness to initiate or engage in settlement discussions is consistent with zealous and effective representation;

Page 2 of 187 Table of Contents Faculty Biographies ...... 4 Agenda ...... 9 Discharge ...... 10 Taxes in Chapter 13 and Late Filed Returns ...... 44 State of CT Department of Revenue Services Forms ...... 99 Bankruptcy Tax Discharge ...... 117 Bankruptcy Discharge Cheat Sheet ...... 142 Bankruptcy Evaluation Flow Chart ...... 143 Late-Filed Returns: Clarify the Bankruptcy Law Relating to Obtaining a Discharge ...... 144 Treasury Memo on SFRs ...... 150 Bankruptcy Tax Guide ...... 155

Page 3 of 187 Faculty Biographies

David F. Falvey, Action Advocacy PC

Providence College Suffolk Law School, Boston Board Certified Consumer Bankruptcy Attorney, since 1996 Admitted to Conn Bar, CT Federal District Court, 2nd Circuit Court of Appeals, U.S. Supreme Court Member of National Association of Consumer Advocates Member of Nation Association of Consumer Bankruptcy Attorneys Member of American Bankruptcy Institute Charter Member of Connecticut Consumer Bankruptcy Roundtable

Page 4 of 187 Kenneth E. Lenz, Lenz Law Firm LLC

KENNETH E. LENZ concentrates his practice on consumer and small business bankruptcy and bankruptcy litigation. After serving in the U.S. Army during the Vietnam War, Ken attended American International College, graduating cum laude in 1972. Ken received his law school education at Western New England University School of Law, graduating in 1976, where he then served as an adjunct faculty member for three years. He was first admitted to the bar of the Commonwealth of Massachusetts in 1977, then to the Conn. and New York bars. He attained Board-Certification in Consumer Bankruptcy Law in 1998, and was selected as a Superlawyer in 2007. He is the principal of Lenz Law Firm, LLC in Orange, and has served in leadership roles several attorney organizations, including NACBA, the CBA’s bankruptcy and commercial law section, and the New Haven County Bar Association. When not engaged in the practice of law, Ken is active in the Orange Lions Club, plays golf, sings in a church choir, and enjoys frolicking with his four young grandchildren.

Page 5 of 187 Denise S. Mondell, Office of the Attorney General

Denise Mondell joined the Connecticut Attorney General's Office in 1993 after working as an associate at an insurance defense firm in New York City and as a Clerk for the Connecticut Superior Court Legal Research Program. For the past 19 years, Denise has worked almost exclusively in the area bankruptcy. The majority of her work centers around representing and advising the Department of Revenue Services and the Department of Labor in connection with tax claims; however, she regularly represents and advises numerous other state agencies on bankruptcy-related matters. Denise received her J.D. from Hofstra University and she graduated from Boston College with a B.A. in English. She is a member of the American Bankruptcy Institute and the Connecticut Bar Association.

Page 6 of 187 Lauren M. Nash

Lauren M. Nash is an Assistant United States Attorney and is the Bankruptcy Coordinator for the U.S. Attorney’s Office in the District of Connecticut. AUSA Nash has worked in the U.S. Attorney’s Office for the past 30 years; during her tenure she has handled a wide variety of civil cases at the trial and appellate level. She received her BA from Manhattanville College and her JD from Quinnipiac University School of Law.

Page 7 of 187 Roger Nemeth started in the tax preparation industry in 2006 when he was hired as a General Manager of a Jackson Hewitt franchise in the suburbs of Atlanta. Over the next 9 years Roger managed a total of three Jackson Hewitt Franchisees ranging in size from 10 stores to over 60. During that time Roger became an Enrolled Agent and developed the Transcript Analyzer Software and the Transcript Retrieval Software. Roger started Audit Detective in 2010 and launched the Tax Help Software Transcript Management System in 2014. Roger worked for one of the largest tax resolution firms in the country integrating the Transcript Management System. In the first year over 30 million transcripts were downloaded and processed into over 15,000 reports. During that time Roger quickly became an expert in IRS transcripts researching the data that the IRS provided into meaningful logic queries. This significantly reduced the time it took for tax professionals to review their clients tax information. Tax Help Software has been used by over 3,000 users to download over 200 million (1/5th of a billion) IRS transcripts since 2012.

Page 8 of 187 Join us for the second annual Connecticut Bankruptcy Conference, featuring coverage of the Connecticut Local Rules of Bankruptcy Procedure. Learn about best practices and ethical considerations in both commercial and consumer bankruptcy from top practitioners.

You Will Learn Schedule • About the US Supreme Court and 8:30 a.m. – 8:55 a.m. Registration and Breakfast Sponsored by bankruptcy • About payment and discharge of taxes in Chapters 7 and 13 • About issues in advanced ADR 8:55 a.m. – 9:00 a.m. Welcome Remarks

• About preserving the family business 9:00 a.m. – 10:00 a.m. Opening Plenary Session | State of the Court during the owner’s Chapter 7 and other

hot issues in straight bankruptcy 10:00 a.m. – 10:10 a.m. Break • About first day motions 10:10 a.m. – 11:10 a.m. Morning Plenary Session | The US Supreme Court and Bankruptcy • About representing the self-employed

debtor engaged in business in Chapter 13 11:10 a.m. – 11:20 a.m. Break • How to confirm a contested Chapter 11 11:20 a.m. – 12:20 p.m. Concurrent Session 1 1-A What You Need to Know plan about Paying and Discharging • About ethical considerations in Taxes in Bankruptcy 1-B Issues in Advanced ADR cyber security 12:20 p.m. – 12:30 p.m. Break

12:30 p.m. – 1:30 p.m. Luncheon Plenary Session Who Should Attend Consumer Bankruptcy: Past, Present, and Future Bankruptcy practitioners in all settings should Luncheon sponsored by attend this program to maintain their knowledge and skills with the latest information on this evolving area of the law.

1:30 p.m. – 1:40 p.m. Break

Cost 1:40 p.m. – 2:40 p.m. Concurrent Session 2 (Includes a light breakfast, lunch, cocktail 2-A Preserving the Family Business During reception, and electronic materials) the Owner’s Chapter 7 and Other Hot Topics in Straight Bankruptcy Commercial Law and Bankruptcy 2-B First Day Motions: Plotting a Safe Course through the Initial Days of a Chapter 11 Section Member $169

CBA Member $199 2:40 p.m. – 2:50 p.m. Break Non-Member $398 2:50 p.m. – 3:50 p.m. Concurrent Session 3 3-A Representing the Self-Employed Debtor Student Member $99 Engaged in Business in Chapter 13 3-B Winning! How to Confirm a Contested Chapter 11 Plan CLE Credit 3:50 p.m. – 4:05 p.m. Break 4:05 p.m. – 5:05 p.m. Closing Plenary Session | Cyber Security: CT: 6.5 CLE Credits (5.5 General; 1.0 Ethics) The Lawyer’s Professional Responsibility NY: 7.0 CLE Credits (6.0 AOP; 1.0 Ethics) 5:05 p.m. – 5:10 p.m. Closing Remarks The Connecticut Bar Association/CT Bar Institute is an accredited provider of New York State CLE. This program qualifies for 5:10 p.m. – 6:30 p.m. Cocktail Reception transitional and non-transitional credits. Financial hardship Sponsored by information available upon request.

October 3, 2019 | 8:30 a.m. - 6:30 p.m. Presented by the Commercial Law and Bankruptcy Section Page 9 of 187 DISCHARGE: 11 U.S.C.§1328

REPRINTED BY PERMISSION OF THOMPSON REUTERS’ CONSUMER BANKRUPTCY HANDBOOK WITH FORMS

Dave Falvey

Page 10 of 187 The debtor is entitled to a discharge upon completion of the payments provided for by the plan[1] or may be granted a hardship discharge before completion of such payments.[2]

[1] 11 U.S.C. 1328(a) [2] 11 U.S.C. §1328 (b)

Page 11 of 187 A hardship discharge may be granted to the debtor at any time after confirmation of the plan if three conditions are met. The debtor’s failure to complete payments under the plan must be due to circumstances for which the debtor should not be justly held accountable. The amount creditors have received under the plan must equal the amount they would have received if the debtor’s assets had been liquidated under Chapter 7. Modification of the plan must be impracticable.[3] Formerly, the debtor could not receive a discharge before the expiration of three years from the date of confirmation of the plan. [4]

[3] 11 U.S.C. §1328 (b) [4] Bankruptcy Act § 661, former 11 U.S.C.§ 1061

Page 12 of 187 A hardship discharge does not afford the debtor any more protection than a discharge in a Chapter 7 case.[5]

[5] 11 U.S.C. § 1328(c)

Page 13 of 187 The hardship discharge does not release the debtor from obligations excepted by discharge under § 523(a) of the Code. [6]

[6] 11 U.S.C § 1328 (c).

Page 14 of 187 Also, the hardship discharge does not release the debtor from long- term secured or unsecured debts on which the last payment is due after the date on which the last payment under the plan is due. [7]

[7] 11 U.S.C. § 1328(c) In Band v Carroll, 634 F.3d 327, Bankr L. Rep (CCH) P 81930 (6th Cir.2011), the Sixth Circuit jointed the Eighth, Ninth and Eleventh Circuits in holding that an objection to confirmation triggers the applicable commitment period requirement. Where a plan does not propose to pay unsecured claims fully, the debtor’s entire projected disposable income must be dedicated over the entire applicable commitment period. The applicable commitment period also applies to debtors with zero or negative projected disposable income as of the confirmation date. Page 15 of 187 As a result of amendments to § 1328 made by BAPCPA, the discharge granted to a debtor who completes the payments under a Chapter 13 Plan is no longer the super discharge provided for by the 1978 Code. Such discharge releases the debtor from all claims that had been disallowed and from all debts provided for by the plan, with the exception noted below. Since its enactment in 1978, the Bankruptcy Code has excepted from long-term secured or unsecured debts on which the last payment is due after the date on which the final payment under the plan is due [8]

[8] 11 U.S.C. § 1328(b)(1) making nondischargeable any debt provided for under 11 U.S.C. §1322(b)(5). (Contents of the Plan) Page 16 of 187 and alimony, maintenance and support debts now referred to under the term “domestic support obligation.” [9]

[9] 11 U.S.C. § 1328(a)(2) making nondischargeable any debt provided for under 11 U.S.C. §523(a)(5). The term “domestic support obligation” is defined in 11 U.S.A.§ 101(14A).

Page 17 of 187 The scope of the Chapter 13 discharge has been narrowed over time, beginning in 1990 and continuing to 2005. [10]

[10] Three additional exceptions were added to the discharge in 1990: (1) educational benefit overpayments or loans, (2) drunk-driving debts, and (3) debts for restitution or a criminal fine included in a sentence on the debtor’s conviction of a crime. In 2005, exceptions were added for (1) certain tax debts, (2) restitution or damages awarde3d in civil action for willful or malicious injury causing personal injury or death, and (3) the additional exceptions set forth in § 523(2) to 4. Page 18 of 187 The complete list of exceptions from discharge in a nonhardship Chapter 13 is:

(1) long-term secured or unsecured debts on which the last payment is due after the date on which the final payment under the plan is due;[11]

[11] 11 U.S.C. §1328(a)(1) making non-dischargeable any debt provided for under 11 U.S.C. § 1322(b)(5).(Contents of the Plan)

Page 19 of 187 (2) Allowed unsecured claims of governmental units for a tax required to be collected or withheld and for which the debtor is liable in whatever capacity; [12]

[12] 11 U.S.C. §1328(a)(2) making nondischargeable any debt provided for under 11 U.S.C. §507(a)(8)(C).(Priorities)

Page 20 of 187 (3) Debt for a tax or customs duty with respect to which a required return or equivalent report or notice was not filed or given or was given tardily and after two years before the petition date; [13]

[13] 11 U.S.C. §1328(a)(2) making non-dischargeable any debt provided for under 11 U.S.C. §523(a)(1)(B). (Exceptions to Discharge)

Page 21 of 187 (4) Debt for a tax or customs duty with respect to which debtor made a fraudulent return or willfully attempted to evade or defeat tax; [14]

[14] 11 U.S.C. §1328(a)(2) making nondischargeable any debt provided for under 11 U.S.C. §523(a)(1)(C). (Exceptions to Discharge)

Page 22 of 187 (5) Debt for money, property, services, or an extension, renewal, or refinancing of credit to the extent obtained by (a) false pretenses, a false representation, or actual fraud, other than a statement respecting the debtor’s or an insider’s financial condition or (b) use of a statement in writing that is materially false, respecting the debtor’s or an insider’s financial condition, on which the creditor reasonably relied and that the debtor caused to be made or published with intent to deceive; [15]

[15] 11 U.S.C. §1328(a)(2) making nondischargeable any debt provided for under 11 U.S.C. § 523(a)(2). (Exceptions to Discharge) Page 23 of 187 (6) debts that were neither listed nor scheduled with the name, if known to the debtor, of the creditor to whom owed in time a permit timely filing of a proof of claim or, if applicable, timely request for determination of dischargeability; [16]

[16] 11 U.S.C. §1328(a)(2) making nondischargeable any debt provided for under 11 U.S.C. § 523(a)(3).(Exceptions to Discharge)

Page 24 of 187 (7) debt for fraud or defalcation which acting in a fiduciary capacity and embezzlement or larceny; [17]

[17] 11 U.S.C. §1328(a)(2) making nondischargeable any debt provided for under 11 U.S.C. §523(a)(4). (Exceptions to Discharge)

Page 25 of 187 (8) debt for a domestic support obligation; [18]

[18] 11 U.S.C. §1328(a)(2) making nondischargeable any debt provided for under 11 U.S.C.523(a)(5).(Exceptions to Discharge)

Page 26 of 187 (9) debt for an educational benefit overpayment or loan. [19]

[19] 11 U.S. C. §1328(a)(2) making nondischargeable any debt provided for under 11 U.S.C. 523(a)(8). (Exceptions to Discharge)

Page 27 of 187 (10) debt arising from death or personal injury caused by debtor’s operation of a motor vehicle, vessel, or aircraft while intoxicated. [20]

[20] 11 U.S.C. §1328 (a)(2) making nondischargeable any debt provided for under 11 U.S.C. § 523(9).(Exceptions to Discharge)

Page 28 of 187 (11) debt for restitution, or a criminal fine, included in a sentence on the debtor’s conviction of a crime;[21] or

[21] 11 U.S.C. § 1328 (a)(3) The Supreme Court had held prior to enactment of this exception that restitution debts, although not Dischargeable in Chapter 7, are dischargeable in Chapter 13. Pennsylvania Dept. of Public Welfare v.Davenport, 495 U.S. 552.

Page 29 of 187 (12) debt for restitution, or damages, awarded in a civil action against the debtor as a result of willful or malicious injury by the debtor, causing personal injury or death. [22]

[22] 11 U.S.C. § 1328(a)(4) (Discharge)

Page 30 of 187 There is one other kind of debt excepted from both the regular and hardship discharge granted to a debtor in a Chapter 13 case. The discharge does not release the debtor from an allowed claim for a postpetition consumer debt for property or services necessary for the debtor’s performance of the plan if prior approval of the trustee of the debtor’s incurring the debt was practicable and was not obtained. [23]

[23] 11 U.S.C. § 1328(d) (Discharge)

Page 31 of 187 There is no provision for an objection to the discharge of a debtor in a Chapter 13 case other than a possible contest with respect to the issue of whether the debtor should be granted a hardship discharge.[24]

[24] 11 U.S.C. § 1328(b) (Discharge)

Page 32 of 187 A Chapter 13 hardship discharge is available at any time after plan confirmation and after notice and a hearing if, and only if: (1) the debtor’s failure to complete the plan payments is due to circumstances for which the debtor should not justly be held accountable; (2) the value, as of the plan’s effective date, of property actually distributed under the plan on account of each allowed unsecured claim is not less than the amount that would have been paid on such a claim if the estate had been liquidated under Chapter 7 on such date; and (3) modification of the plan is not practicable. [25]

[25] 11 U.S.C. § 1328(b) (Discharge) Page 33 of 187 There is authority that a debtor who has not started plan payments cannot be said to have “not completed” them so as to be eligible for a hardship discharge.[26]

[26] In re Marrero, 7 B.R. 589 (Bankr D. P.R 1980).

Page 34 of 187 Section 727 of the code, which contains an enumeration of the grounds for objecting to the discharge of a debtor by virtue of its physical location in Chapter 7, is applicable only in liquidation cases [27] unless otherwise provided in the Code. There is no provision in Chapter 13 making § 727 (Discharge) applicable to a Chapter 13 case.

[27] 11 U.S.C. §103(b) (Applicability of Chapters)

Page 35 of 187 Creditors are no longer precluded from filing complaints to determine the dischargeability of debts during the period of consummation of a Chapter 13 Plan.

If the debtor completes the payments under a plan, whether a composition or a full-payment plan, and is granted a discharge, objections by creditors seeking to have debts excepted from the discharge are foreclosed. Debts which might otherwise be nondischargeable in a Chapter 7 case are discharged.[28]

[28] 11 U.S.C. §1328(a). (Discharge)

Page 36 of 187 If the debtor requests a hardship discharge, the provisions of § 523(a) of the Code, cataloging debts excepted from discharge, are made applicable, and the court may entertain complaints to except debts from the hardship discharge in the same manner as debts are excepted from a discharge granted to a debtor in a Chapter 7 case. [29]

[29] 11 U.S.C. § 1328(b); Fed R. Bankr. P.4007(d) (Determination of Dischargeability of a Debt)

Page 37 of 187 The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005[30] added a new paragraph (f) to §1328 pursuant to which the court cannot grant a discharge of all debts provided for in the plan or disallowed under § 502 if the debtor received a discharge under Chapter 7, 11, or 12 during the four-year period preceding the order for relief under Chapter 13 or if the debtor received a Chapter 13 discharge during the two-year period preceding that date. [30]

[30] Pub. L. No. 109-8, § 1501, 119 Stat. 23.

[31] 11 U.S.C. § 1328(f). (Discharge) Page 38 of 187 Thus the so-called Chapter 20 variety of repeat filing is not prohibited by BAPCAP but is discharged to the extent that these new waiting periods for a second or subsequent discharge are imposed. The Supreme Court’s Johnson decision permitting a Chapter 13 case to be filed on the heels of a Chapter 7 discharge remains good law except that a statutorily imposed waiting period significantly delays the follow-up filing. Prior to BAPCPA, § 727(a)(8) carried forward a six-year bar against successive discharges; BAPCPA changed the six-year period to eight years. Section 727(a)(9) continues to prohibit the granting of a Chapter 7 discharge to a debtor who has received a discharge in a Chapter 12 or 13 case commenced within six years of the filing of the Chapter 7 petition unless payments under the plan either totaled at least 100% of the allowed unsecured claims or totaled 70% of such claims, and the plan was proposed by the debtor in good faith and was the debtor’s best effort.[32] Page 39 of 187 [32] For a survey of the several approaches courts are taking in considering the propriety of Chapter 20 lien stripping, see In re Jennings, 454 B.R. 252, 246 (Bankr. N.D. Ga 2011) The Sixth Circuit Appellate Panel has ruled that a bankruptcy filer can strip off (remove) a second mortgage on an unsecured home in a Chapter 13 bankruptcy , even though her recent Chapter 7 filing meant that she would not be eligible for a Chapter 13 discharge. In re Cain, 513 B.R. 316, 71 Collier Bankr. Cas. 2d (MB) 1720, Bankr. L. Rep (CCH) P 82656 (B.A.P. 6th Cir. 2014). Therefore, in Chapter 13 bankruptcies, a junior mortgage or lien can be stripped off if the mortgage or lien is unsecured, i.e., “under water,” meaning the home’s value is less than the first mortgage. In some instances it makes sense to complete a Chapter 7 bankruptcy and file for Chapter 13, or a “Chapter 20” bankruptcy. The Fourth and Eleventh Circuits and a Bankruptcy Appellate Panel of the Eight Circuit Court of Appeals have permitted Chapter 20 lien stripping, and with Cain the Sixth Circuit BAP joins them.

Page 40 of 187 A discharge hearing is provided for in a Chapter 13 case in the same manner as in chapter 7 case.[33]

[33] 11 U.S.C. §524(d).(Effect of Discharge)

Page 41 of 187 Prior to granting the debtor a discharge, the court may hold a hearing at which the debtor must appear in person. [34]

[34] 11 U.S.C. §524(d). (Effect of Discharge) 11 U.S.C. § 521(4) (Debtor’s Duties) , Congressional Record- House, September 28, 1978, p. H11096, Congressional Record- Senate, October 6, 1978, p. S17413.

Page 42 of 187 Pursuant to the 1986 and 1994 Amendments to §524(d), the court must hold a hearing at which the debtor must appear in person if the debtor desires to enter into a reaffirmation agreement and was not represented by an attorney during the course of negotiating the agreement. At such a hearing the court must inform the debtor that reaffirmation of debts is not required, of the legal effect and consequences of any such agreements, and approve or disapprove any such agreements the debtor may have made.[35] [36]

[35] 11 U.S.C. §524(d) and see 11 U.S.C. §521(a) (5).(Debtor’s Duties)

[36] This article on 1328 can be found at Westlaw, §3.9. Discharge, Consumer Bankruptcy Handbook with Forms §3:9. Authors: Hon. Michael B. Kaplan and Hon. Stacey L. Meisel. Reprinted with Permission by Thomson Reuthers.

Page 43 of 187 TAXES IN CHAPTER 13 AND LATE FILED RETURNS Dave Falvey

1) ELIGIBILITY TO FILE A CHAPTER 13 UNDER SECTION 109(e)

Regarding eligibility to file a Chapter 13, we first turn to 11 U.S.C. §109(e),

namely, an individual with regular income whose non‐contingent,

liquidated, unsecured debts are less than $394,725 and has less than

$1,184,200 in non‐contingent, liquidated, secured debts.

However, what if you have an estimated tax claim? How do you treat an

estimated tax claim for §109(e) purposes? See: In re Elrod, 178 B.R. 5

(Bankr N.D. Okla. 1995) , where the bankruptcy court held that an

estimated tax claim was an unliquidated debt and not countable in

determining the debtor’s eligibility under 109(e). The court ruled that an

evidentiary hearing was necessary. However, there’s an 11th Circuit decision

in United States v. Verdunn, 89 F.3d 799, (11th Cir. Fla 1996) where the

district court was reversed with the holding that for purposes of Chapter

13 eligibility, the tax claim was liquidated because the IRS asserted in a

statutory notice of deficiency using criteria from the Internal Revenue Code

Page 44 of 187 to determine the debtor’s tax debt. The case was remanded to the

bankruptcy court for dismissal.

Something to be aware of is that the Court has jurisdiction to convert the

debtor’s Chapter 13 case to a case under Chapter 7 when the debtor is

ineligible for Chapter 13 due to a failure to qualify under 109(e). See: Rudd

v Laughlin, 866 F3d 1040 (8th Cir 1989). and Promenade National Bank v

Phillips, (844 F2d 230 (5h Cir 1988).

Now if eligibility is not determined until confirmation of the Chapter 13

Plan, and your case is not eligible under 109(e), there’s a split of authority

as to whether or not the case should be dismissed. Under the theory that

the likelihood of injury is small and if creditors didn’t file a motion to

dismiss under 109(e), rather than objecting at the last minute, the case

shouldn’t be dismissed. See In re Jarvis, 78 B.R. 288 (Bankr. D. Or. 1987).

Also, see In re Phillips, 844 F. 2d 230 (5th Cir. Tex. 1988).

Page 45 of 187

2) Confirmation of the Plan UNDER 1325 ‐Good Faith

Requirement

Section 1325 (Confirmation of Plan) requires that the Plan be proposed in

good faith. It reads: ‘1325(a)(3): the plan has been proposed in good faith

and not by any means forbidden by law;’

See: In re Lilley, 185 B.R. 489 where the IRS filed a motion to dismiss ‘for

cause’ citing 1325(a)(3). The Bankruptcy Court denied the motion and the

IRS appealed to the District Court, which reversed the Bankruptcy Court.

The debtor appealed to the 3rd Circuit Court of Appeals, 91 F 3d 491, which

held (1) debtor’s prepetition tax fraud was not cause for dismissal of

petition, but (2) lack of good faith in filing is sufficient cause for dismissal of

Chapter 13 petition. The Appellate Court reversed the District Court and

remanded with instructions to the Bankruptcy Court

The IRS does not take kindly to a ‘Tax Protestor’ as found in In re

Greatwood, 194 B.R. 637. In this case the federal government moved to

dismiss Chapter 13 case filed by income tax protestor shortly after

completion of prior Chapter 7 case, on the theory that the Chapter 13

Page 46 of 187 petition was filed in bad faith under 1325(a)(3). The U.S. Bankruptcy Court

for Nevada granted the federal government’s motion to dismiss, and

debtor appealed. The Bankruptcy Appellate Panel held that Chapter 13 case

filed by debtor after determination, in prior Chapter 7 case, that his federal

income tax obligations were not dischargeable was properly dismissed as

“bad faith” based on debtor’s failure to file valid income tax returns and

failure to file Chapter 13 plan that proposed to make any payment on

federal tax debt.

Page 47 of 187

3) MODIFICATION OF PLAN BEFORE CONFIRMATION:

UNDER SECTION 1323

The debtor can under Section 1323 ‘Modification of the Plan before

Confirmation’ modify the plan but still must meet the requirements of

Section 1322 ‘Contents of Plan’. In In re Eason, 178 B.R.908 (Bankr M.D. GA

.1994), the court held that when a debtor proposes a postconfirmation

modification of the plan, the IRS could not object to the modification

because the IRS’ claim was not altered by the proposed modification.

Page 48 of 187 4) EFFECT OF CONFIRMATION UNDER SECTION 1327

Under 1327(a), namely, the provisions of a confirmed Chapter 13

plan binds the debtor and every creditor whether or not the creditor has

objected, and even if the plan doesn’t provide for the creditor’s claim.

In re Babich, 168 B.R. 617 (Bankr. N.D. Ohio, 1994), the IRS was

bound by the plan because the IRS never filed an objection to the plan. The

IRS was deemed to have accepted the plan. However, a creditor such as the

IRS can move to modify a plan by showing a default by the debtor or that

there’s been a change in the circumstances of the debtor since the

confirmation.

See In re Puckett, 193 B.R.842 (Bankr. N.D. Ill.1996) the IRS filed a

motion to vacate the debtor’s discharge because the plan failed to provide

for full payment of a late‐filed priority claim but was denied because the

motion was an improper collateral attack against the debtor’s discharge

and the Court’s confirmation order. See, also, In re Simmons, 765 F. 2d

547, (5th Cir. Miss. 1985) and In re Dickey, 64 B.R.3 (Bankr. E.D. Va. 1985).

Page 49 of 187 5) DISCHARGE IN CHAPTER 13 UNDER SECTION 1328

Under Section 1328 (b) provides for a ‘hardship discharge’. This is

where the debtor substantially performs on the plan and has paid

everything that would have been paid through a Chapter 7 liquidation

analysis test. But there’s a limitation of ‘hardship discharge’ in Chapter 13

See: In re Jalufka 184 B.R. 562 (Bankr. E.D. Ark. 1995) where under a

hardship discharge, the court held that priority taxes and penalty claims

were not discharged under Section 1328 (b).

Question: If you file a Plan and it proposes to pay 100% of allowed

claims to the IRS, what happens when the IRS doesn’t timely file a POC

under 507(a)(7), and the IRS has a legitimate priority claim, and let’s

suppose that the Debtor completes his Chapter 13 Plan, are the prepetition

priority taxes discharged?

Well, if the Chapter 13 Plan provided for the payment of those debts

but no payment is made because of the late proof of claim, there is case

law that the IRS debt will be discharged because the debt was provided for

in the plan. See In re Tomlan, 102 B.R. 790 (E.D. Wash. 1989).

Page 50 of 187 In Tomlan, ibid, the facts were as follows: Betty Tomlan owned a

restaurant and she withheld incomes taxes and FICA taxes from employees

but failed to pay those taxes to the IRS. The IRS field liens and had secured

debt and unsecured debt. An appeal was taken to the District Court only on

the unsecured debt.

The debtor’s original plan called for the repayment of the entire debt

to the IRS of $39,975.00. However, the IRS did not file a timely Proof of

Claim. The debtor’s amended her plan and eliminated any payment for the

unsecured claim of the IRS. The plan provided that it would pay 100% of

“allow claims” to the IRS and it was left to the Trustee and the Bankruptcy

Court what portion of the IRS claim would be paid under the plan.

The Trustee objected to the IRS’ late proof of claim, and the

Bankruptcy Court agreed that unsecured IRS claim was not an “allowed”

claim because it was not timely filed. However, in a separate adversary

proceeding, the Bankruptcy Court held that the debt to the IRS was non‐

dischargeable because the plan didn’t provide for its full payment.

Page 51 of 187 The issue on appeal to the District Court was: Whether the

Bankruptcy Court erred when it held that a late‐filed, non‐allowed claim

was a dischargeable debt because it was not “provided for” in the plan.

Under Section 1322(a)(2) (Contents of the Plan), the Bankruptcy Court

interpreted “provided for by the plan” to mean provide for full payment in

the plan.

The District Court disagreed and reversed the Bankruptcy Court’s

judgment. The District Court cited in re Gregory, 705 F. 2d 1118(9th Cir.

1993), which held that “the phrase ‘provided for’ in section 1328(a) does

not mean that actual payment has to be made but rather when a plan

proposes to pay nothing under the plan, the creditor can object on the

grounds of lack of good faith. But when a creditor is completely omitted

from the plan, the creditor’s procedural rights to appeal are omitted and

under this circumstance, the debt would not have been discharged.

The District Court in reaching its decision, cited four cases with

similar circumstances, all of which unanimously held that the debt was

discharged. See the following: In re Richards, 50 B.R. 339 (E.D. Tenn. 1985);

In re Goodwin, 58 B.R. 75 (Bankr. D. Me. 1986); In re Hunt, 59 B.R. 718

Page 52 of 187 (Bankr. D. Me. 1986). The final case the court cited was In re Rothman, 76

B.R. 38 (Bankr. E.D. N.Y. 1987) where the State Tax Commission was barred

from seeking to collect a prepetition debt. The Commission filed a proof of

claim for $161.69 but after the debtor completed plan payments and was

discharged, the Commission sought to charge her $2,732.54 additional tax

and interest. The court held that the Commission should have filed a

motion for extension of time under Bankruptcy Rule 3002(c)(1) if it had

been unable to determine the full amount of the debt.

See, also, In re Daniel, 107 B.R. 798 (Bankr N.D. Ga. 1989) where the

tax claim of the IRS was ‘provided for’ in the Chapter 13 Plan and;

therefore, the claim was discharged. In re Workman, 108 B.R.826 (Bankr.

M.D. Ga 1989) the penalty claim of the IRS was a ‘prepetition claim’ and

was barred because the IRS failed to file a timely proof of claim; In re

Border, 116 B.R. 588 (Bankr. S.D. Ohio 1990) no proof of claim was filed for

a priority tax by the IRS and no funds were paid to the IRS, and the debt

would be discharged upon completion of debtor’s Chapter 13 plan; In re

Leber, 134 B.R. 911 (Bankr. N. D. ILL. 1991) The Illinois Department of

Page 53 of 187 Revenue (“IDR”) had actual notice of debtor’s Chapter 13 but did not file a

proof of claim for a prepetition claim and the IDR argued that it was not

effectively “provided for” in the plan, was nonetheless, ruled to be

discharged by the Chapter 13 plan.

Now let’s look at the case of In re DeBerry, 183 B.R.716 (Bankr. M.D.

NC, 1995) and here are the facts:

TRUSTEE’S MOTION IN DEBERRY:

1) Requested that the debtors be responsible for direct

payment of the claim filed by the IRS on December 22,

1995, in the amount of $7,413.37.

2) That the automatic stay be lifted so that the IRS could

proceed with collection of the indebtedness claimed

3) And that the indebtedness claimed by the IRS be

excepted from any discharge granted to the debtors.

Page 54 of 187 FINDINGS OF FACT IN DEBERRY:

1) This was a Chapter 13 filed on August 22, 1989.

2) The debtors’ plan was confirmed on December 7, 1989.

3) The Plan did not provide for the payment of postpetition

claims.

4) The date of the first payment under the debtors’ plan was

October 16, 1989.

5) The debtors’ plan was a sixty‐month plan and the last

payment under the debtors’ plan was due before the IRS

filed its postpetition claim on December 22, 1994.

6) The debtors have completed all the payments under their

plan.

7) The IRS has not received any payments under the plan

with respect to the indebtedness included in the claim

which was filed on December 22, 1994.

Page 55 of 187 8) The debtors have filed a response which could be read as

objecting to the claim filed by the IRS on December 22,

1994, as well as relief sought by the Trustee.

HOW SHOULD THE COURT RULE IN DEBERRY?

HOW DID THE COURT RULE IN DEBERRY?

Now, therefore, it is ORDERED, ADJUDGED AND DECREED as follows:

1) The postpetition tax claim in the amount of $7,413.37 filed by the

IRS on December 22, 1994 shall be resolved and satisfied outside

the bankruptcy court through direct payment by the debtors or

collection outside the bankruptcy court by the IRS;

Page 56 of 187 2) The indebtedness of the debtors for the postpetition taxes

claimed by the IRS shall be excepted from any discharge granted

to the debtors in this case; and

3) The automatic stay is herby lifted as to any and all actions by the

IRS related to the liquidation, assessment and collection of the

postpetition taxes included in the proof of claim which was filed

by the IRS on December 22, 1994.

REASON FOR DECISION IN DEBERRY:

“Since the plan in this case does not provide for the postpetition IRS

claim and cannot be modified to do so, the IRS claim will not be discharged

by any discharge for the debtors in this Chapter 13 case. In re Pritchett, 55

B.R. 557 (Bankr. W.D. Va. 1985).”

UNITED STATES IRS V LEE, 184 B.R.257 (District Court, W.D.

Virginia,1995). The IRS sought a review of the bankruptcy court’s decision.

Facts: Mr and Mrs Lee owned K.L. Christie’s, a restaurant. They filed a

joint Chapter 13 petition. The IRS was listed as a secured creditor for

Page 57 of 187 $7,393.99. The schedules didn’t list any liability pursuant to 26 U.S.C.6672

(Failure to collect and pay over tax). The IRS filed a timely proof of claim.

The IRS objected to the plan and the Lees amended the plan. The plan was

confirmed on 2/8/1988. After confirmation and the bar date for filing

claims had passed, the IRS held that the debtors as officers of JMC

Investments were liable under 28 U.S.C. § 6672 for civil penalties totaling

$23,594.75.

The IRS requested that the Lees amend their plan to account for the

section 6672 debt. The debtors declined to amend their plan. The Lees

completed their plan and received a discharge on May 3,1993. On February

24, 1994, the IRS began collection proceedings against Mr. Lee for the 6672

debt. The Lees responded by filing a complaint in the bankruptcy court

against the IRS seeking a determination that the 6672 debt was discharged.

WHAT WAS THE IRS’ AGRUMENT AS TO WHY THIS TAX HAD TO BE

PAID?

ANSWER: 11 U.S.C. § 1322(a)(2) states that the chapter 13 plan shall

“provide for the payment, in deferred cash payments, of all claims entitled

to priority under section 507 of this title, unless the holder of a particular

claim agrees to a different treatment of such claim.”

Page 58 of 187

DID THE JUDGE ACCEPT THIS ARGUMENT? WHY OR WHY NOT?

The IRS had adequate notice of the bankruptcy filing by Lees but

failed to file a 6672 claim and without a such claim, the Lees could not

provide for the claim in their plan. The section 6672 claim was untimely

filed and consequently the 6672 claim was discharged upon the completion

of their chapter 13 plan. The judge ruled that the 6674 claims was a pre‐

petition debt because it was payable before they filed their Chapter 13.

The IRS appealed the bankruptcy judge’s ruling that the debt was a

prepetition debt subject to the filing time restrictions. The IRS argued that

the debt was a post‐petition debt and, therefore, allowable under 11 U.S.C.

§1305 (Filing and allowance of postpetition claims).

HOW DID THE DISTRICT COURT RULE? AND WHY?

The District Court affirmed the bankruptcy judge’s decision. The

court noted that the argument of the IRS was the same argument made in

the case In re Friesenhahn, 169 B.R.615 (W.D.Tex. Oct. 21, 1994), namely

that the 6672 debt was a postpetition debt because the IRS did not

complete its investigation of the debt until after the court had entered an

Page 59 of 187 agreed order regarding the IRS’ claim against the debtor. In citing In re

Friesenhahn, ibid, the District Court quoted from the case:

‘Thus, while the claim against the debtors asserted by the IRS arises under section 6672, the tax from which the claim is is derived does not. We must therefore focus not on when the claim became payable but when the tax from which that claim is derived became payable.”

The District Court concluded that ‘The tax which the IRS seeks to

recover, therefore, became payable prepetition, when the debtor’s

quarterly payroll tax returns were due to be filed. The IRS’ claim under

section 6672 did not become payable within the meaning of section

1305(a)(1).’

In re Anchor Steel v. Internal Revenue Service, 184 B.R. 607 (Bankr

M.D. Florida, 1995) Judge Thomas E. Baynes, Jr, started his opinion with a

quote from Lord Bertrand Russell on the definition of mathematics:

‘Mathematics may be defined as the subject in which we never know what we are talking about, nor whether what we are saying is true.” – Principles of Mathematics, International Monthly, 1901, vol 4.p.84’

In this case the judge held that the IRS was entitled to recover the outstanding balance on a priority debt due in a chapter 13 case, even though the

Page 60 of 187 deficiency was due to the miscalculation of installment payments by the IRS. The basic reasoning for this decision was that the IRS employees didn’t have the authority to bind the IRS and that only the Secretary of the Treasury could bind the IRS.

The moral to the case here is that you can’t rely on the calculations of the

IRS because if those calculations are wrong, the IRS can find its error and still be able to have an additional charge and in this case it was for $34,852.80 as

calculated by the Court but the IRS was arguing for $32,044.56. And since this

case was a Motion for Summary Judgment, the Court ruled that the debtor still

owed $32,044.56 after it had actually paid $160,222.80 in the plan.

In reading between the lines of this case, the Debtor might have realized that the IRS calculations weren’t correct and took advantage of this fact and argued for estoppel. But when the IRS discovered its error, and presented this to the Court, the Court decided in favor of the IRS. If you have a large tax repayment case, perhaps you should consider hiring an independent expert, to double check

the calculations and obtain an opinion letter from the expert as to the total pay‐

off of a tax.

Page 61 of 187

In re Epstein, 200 B.R. 611 (Bankr. S.D. Ohio 1996).

FACTS:

1) 9/6/1989, Debtors file a Chapter 13 petition

2) 10/31/1989 the Chapter 13 Plan was confirmed.

3) The plan provided for $1,000.00 per month for 42 months to pay the IRS.

4) On 1/18/1990, the IRS filed a Proof of Claim for taxes owed for 1985, 1986, 1987, and 1998, FICA taxes for the third and part of the fourth quarter of 1989, FUTA taxes for that part of 1989 preceding the Debtors bankruptcy filing, and a penalty with interest. A month later, the IRS amended its proof of claim, omitting the 1989 FICA and FUTA taxes and reducing the penalty. 5) June 1990, the Debtors’ filed an application pursuant to 11 U.S.C. sect 1305 (Filing and Allowance of Postpetition Claims) and proposed to add the IRS to their plan for the 1989 income tax liability which was granted.

6) 11/21/1991, the IRS again amended its proof of claim (“POC”) adding FUTA taxes for 1987.

7) 6/10/1992, the IRS for the last time amended its proof of claim and reduced the penalty.

8) The final POC was $47,194.29 and this covered income taxes for 1985, 1986,1987 and 1998, and FUTA taxes for 1987.

9) May 1995 upon completion of the plan, the Court issued a discharge pursuant to section 1328(a) (Discharge).

Page 62 of 187 Post‐Discharge, the IRS sought to collect the 1989 income taxes and the Debtors moved to reopen their case and sort a Motion to Enforce the Discharge.

DEBTOR’S ARGUMENT:

The Court granted application to include the 1989 income tax liability in the plan by filing amended proof of claims. Therefore, by including the 1989 income tax liability in the plan, the Discharge Order bars the IRS from collecting the 1989 tax debt.

The Debtors also argued that the discharge order does not provide an exception for ‘IRS taxes added after the plan is confirmed’ and, therefore, the taxes were discharged.

IRS’ ARGUMENT:

The IRS argued that the 1989 tax was incurred post‐petition and Debtors’ attempt to add it to their plan was ineffective for the purposes of discharging this debt.

HOW SHOULD THE COURT RULE? HOW DID THE COURT RULE?

Page 63 of 187 The Court noted that the income tax return was due 4/15/1990 and the tax debt was payable on 4/15/1990 and since the Debtors filed their petition on

9/19/1998, the 1989 income tax liability was a postpetition debt.

Section 1329, “Modification of a Plan after confirmation’ governs post‐ modification of a Chapter 13 plan.

“The Debtors’ 1989 income tax debt was not an allowed claim, was not determined to be disallowed and was not provided for by the Chapter 13 Plan.” (Emphasis added). Therefore, Debtors’ Motion to Enforce Discharge against the IRS was denied.

Page 64 of 187 6) PRIORITY OF UNSECURED TAX CLAIMS IN CHAPTER 13

In a Chapter 13 Plan, full payment must be made for all claims

entitled to priority under Section 507 (Priorities).

‘Section 1322 (a)(2) –(Contents of Plan) reads: ‘ shall provided for the full payment, in deferred cash payments, of all claims entitled to priority under section 507 of this title, unless the holder of a particular claim agrees to a different treatment of such claim;’

In re Gregory‐ 705 F.2d 1118 (9th Cir. 1983) Lawrence Tractor Co brought an action against Joseph Gregory, a former employee, for embezzlement. Gregory offered zero payment on Lawrence’s claim and Lawrence failed to object to confirmation. The claim was “provided for” as required by §1328(a) and, therefore, the claim of Lawrence was dischargeable. Gregory’s plan called for six monthly payment of $147.71 to be applied to the claim of a single secured creditor to whom Gregory owed approximately $2,500 on an automobile loan. At the end of six months, Gregory was to pay the Trustee a sufficient amount to

“complete the plan”. His Chapter 13 Plan would satisfy the debt in full with a

‘balloon payment’.

Gregory made only two of the six‐monthly payments, but he refinanced his car and received a check for $2,220.74. He assigned the check to the Trustee and Gregory consented to paying the surplus of $110.16 to his

Page 65 of 187 unsecured creditors on a pro rata basis. What is interesting in this case is the fact that the debtor was allowed to make a ‘balloon payment’ and that the payment wasn’t in equal monthly installments.

We turn to section 507 of the Code in order to determine priority of unsecured tax claims and under 507(a)(8), we have the following:

a) a tax on or measured by income or gross receipts b) a property tax incurred before the commencement of the case c) a tax required to be collected or withheld d) an employment tax on a wage, salary e) Excise taxes f) Customs duties g) Tax penalties.

Under 1326 (Payments), federal taxes are given a first priority as administrative expenses and must be paid along with the payment of trustee’s fees and other administrative expenses. Section 1325 (Confirmation of the Plan) requires interest to be paid on unsecured priority claims in the event the liquidation of the debtor’s estate in Chapter 7 would result in full payment of all allowed unsecured claims.

See: In re Hardy, 755 F.2d 75 (6th Cir. 1985) and the issue in this case was

whether the liquidation test of §1325(a) (4) had been met. The bankruptcy

court found that the estate was solvent and there was $27,000 worth of

unexempt equity in the Debtor’s home and she didn’t offer to pay any

interest on the unsecured debt. The Court of Appeals sustained the ruling

of the district court that the bankruptcy judge’s ruling that the ‘best

Page 66 of 187 interest test of the creditors’ had not been met and the debtor’s case

couldn’t be confirmed. The Appellate Court noted that the value offered to

the creditors should be based only on the unpaid value of the amount due

under the plan, until that amount, including interest (emphasis added) is

paid in full.

Now what would happen if the liquidation of Debtor’s estate in Chapter 7

would only result in a partial repayment on priority unsecured debts, would

the IRS be entitled to interest? Answer: cases hold that the IRS would not

be entitled to interest on any deferred payments in the Chapter 13 plan.

See In re Friauf, 172 B.R. 273 (Bankr. Ct D. Minnesota, 1994) the IRS had a

policy of not filing a Proof of Claim in a case with under $2,000 of tax debt.

Then the IRS had a change in policy and filed a late claim. Debtor had paid

on her plan 4 and on‐half years and had paid $20,000 and was four months

away from completing her plan. The debtor went to amend her plan and

exclude late filed proofs of claim. The judge didn’t accept the arguments of

neither the Debtor nor the IRS. The judge ruled that the IRS is not entitled

Page 67 of 187 to payment in full under the original plan but only to paid on a priority basis

until the plan was completed. The judge granted Debtor’s motion to modify

her plan and reduce her payments from $400 to $100 per month and that

she would be granted a discharge upon completion of payments under the

plan as modified.

In re Buck, 172 B.R.271 (Bankr. D. Minn.1994) The Debtors filed a Motion

to Modify their Chapter 13 Plan and the IRS filed an objection. The IRS

wasn’t listed on their schedules, but the IRS did receive notice form the

Debtors of their filing. The IRS consciously decided not to file a Proof of

Claim because the Debtors only owed less than $750.00 to the IRS. The

Debtors filed a motion to confirm a modified plan and reduced payments

for nonpriority debt to 41%. Their plan didn’t distinguish between tardily

and timely filed claims. The IRS received notice. The Debtors’ second

modified plan sought to reduce the payment of unsecured nonpriority

Page 68 of 187 claims to 21% and reduce their payment to $125 per month due to divorce

and included the language as follows: ‘Additional provision; tardily filed

claims excluded from distribution and discharged upon completion of plan’.

How did the judge rule? This case was very similar to In re Friauf, ibid and

the judge entered the same ruling. Debtors’ motion to modify the plan was

granted and reduced the payments from $225 to $125 per month. The

inclusion of the new language was denied, and the IRS was entitled to full

payment of its priority claim. There were 3 years left on the Debtors’ plan

and from the reduced payments, the IRS would be paid in full. The IRS was

treated as a priority creditor and would be paid accordingly.

Page 69 of 187 7) PRIORITY OF SECURED TAX CLAIMS IN CHAPTER 13

When the IRS files a tax lien it is valid for 10 years, plus 30 days after the

date of assessment of the tax. See: IRC Section 6323(f)(3), Treas Reg Section

301‐6323(f)‐1(c).

Under section 1325(a)(5) (Confirmation of the Plan), a Chapter 13

plan cannot be confirmed unless the plan provides for every allowed

secured claim which includes a secured tax claim which has to be accepted

by the creditor (IRS/DRS) and the lien is retained by the secured creditor

and the claim has to be paid in full. And in the event, this is not

accomplished, the debtor must surrender the secured property to the

creditor under Section 1325(a)(5)(C).

See In re Friedman, 184 B.R. 617 (N.D.N.Y. 1995). This case was an

appeal from the bankruptcy court’s decision The Chapter13 Plan failed to

classify the debt to the New York Department of Taxation as both a secured

claim and as an unsecured claim. The plan only referred to the different

treatment of the NYDT’s claim under §1322(a)(2).

Page 70 of 187 There was a serious problem in properly naming the Debtor in the

petition. Rule 1005 was not followed where the Employer Identification

Number must be listed and d/b/a Bernie’s Wine and Liquor Cabinet. There

were 2 proofs of claim, one for $258,858.23 and another claim for $376.71.

Since there was no business name or EIN used in identifying the Debtor, the

NYDT only received notice of the Debtor in his individual capacity because

the NYDT was under the impression it only had a priority claim for $376.71

After the Plan was confirmed, Debtor moved to disallow the NYDT’s

two claims because it didn’t object to the confirmation of the Plan. The

Bankruptcy Court refused to grant the motion and the Debtor appealed to

the District Court.

The District Court agreed with the bankruptcy court that the Debtor

was attempting to categorize the debt to the NYDT as unsecured priority

debt instead of as a secured claim. It was, also, important that the NYDT

failed to receive proper notice due to the Debtor’s failing to follow Rule

1005.

Page 71 of 187 Regarding a secured claim which is only partially secured, and the

claim includes both prepetition priority tax and nonpriority tax claims, the

Chapter 13 debtor can try to designate which taxes are secured. However,

courts have held that a Chapter 13 debtor may not designate which of the

taxes are secured because the IRS has the right to apply payments as it

chooses. See: In re Frost, 47 B.R. 961(N.D. Ind. 1990). The IRS appealed the

bankruptcy court’s decision and there were 6 issues:

Issue #1: Whether the debtors’ trash hauling routes had an

ascertainable value.

Issue #2: Whether debtors can designate which liens are to be

treated as secured when the value of debtors’ assets is less than the

total amount of the IRS tax liens.

Issue #3: Whether a ten percent interest rate on secured claims

satisfies the “present value” concept of 11 U.S.C. §1325 (a)(g)(B(ii);

Issue #4: Whether payment of only one percent of the general

unsecured debts satisfies the “good faith” test of 11 U.S.C. §

1325(a)(3).

Page 72 of 187 Issue #5: Whether, after discharge, the IRS can collect post‐petition

interest accrued on debtors’ priority and unsecured tax claims.

Issue #6: Whether the income tax debt incurred by debtor for the

1981 tax year is, in total, an administrative expense of the estate

when the bankruptcy petition was filed on July 31, 1981.

Response to Issue #1: The bankruptcy court held a valuation hearing

but didn’t find a value to the trash haul route. The IRS argued that

since it was a going concern, the court erred in using a forced sale

value. The District Court agreed with the IRS.

Response to Issue #2: The District Court that since the payments

were paid through the Court to the IRS that the payments weren’t

voluntary and, therefore, the IRS could determine how to apply the

payments.

Response to Issue #3: The District Court didn’t agree with the IRS that

10% was necessary to satisfy ‘present value’ under 1325 but rather

that the treasury bills which are auctioned once every four weeks.

Page 73 of 187 Response to Issue #4: In light of the case In re Flygare, 709 F.2d 1344

(10th Cir. 1983), the District Court remained to the bankruptcy court

to reconsider the issue of whether paying 1% of the general

unsecured debts satisfies the “good faith” test of §1325(a)(3).

Response to Issue #5: The District Court ruled that it would be

premature to rule the IRS can collect post‐petition interest accrued

on debtors’ priority and unsecured tax claims.

Response to Issue #6: The IRS withdrew the issue as to whether or

not the income tax debt income tax debt incurred by the debtor for

the 1981 year is an administrative expense of the estate when the

bankruptcy petition was filed on July 31, 1981.

In the case of an oversecured prepetition and nonconsensual tax lien, the

interpretation of Section 506(b) is that the creditor must receive

postpetition interest on a nonconsensual oversecured claim in bankruptcy.

See: United States v. Ron Pair Enters, 438 U.S.235. In a 5 to 4

decision, the U.S. Supreme Court ruled that under §506(b), a creditor is

entitled to receive postpetition interest on a nonconsensual oversecured

claim allowed in a bankruptcy proceeding.

Page 74 of 187 And, of course, the secured tax claim is dependent on the value of the

collateral on the filing date of the petition. See: In re Robinson, 39 B.R. 47

(Bankr. Ct E.D.Va, 1984) The IRS filed a Federal Tax Lien against the debtor

for the years 1974 through 1982 in the amount of $55,265.86. The debtor

owned a house with his wife as tenants by the entirety and she didn’t file a

bankruptcy petition. The IRS agreed that it didn’t have a lien on house but

rather on his military pension.

The debtor argued that the IRS can only have a secured claim at most to the

extent of the present value of the retirement payments for the period of

the debtor’s Chapter 13 plan.

The IRS argued that the Federal Tax Lien attached to the debtor’s vested

interest in the retirement account, and; therefore, it had a secured claim as

to the present value of the military retirement including future payments as

well as payment during the life of the plan. The bankruptcy court agreed

with the IRS.

Page 75 of 187 And if the Chapter 13 debtor elects to pay a secured tax claim outside of

the Chapter 13 plan, he may pay it outside of the plan provided that he has

not attempted to modify the rights of the IRS/DRS. However, the portion of

the IRS claim entitled to priority has to be paid in his plan. See In re Evans,

66 B.R.50 (E.D.Pa. 1987)

Page 76 of 187 8) TAXES EXCEPTED FROM DISCHARGE IN CHAPTER 13 UNDER SECTION 1328 Under §1328, when a debtor has made all payments under the plan, the Code grants to the debtor a discharge of all debts provided for by the plan, except the following: 1) A debt owed to a spouse, former spouse, or child for alimony, maintenance or support in connection with a separation agreement, divorce decree, or property settlement agreement. 11 U.S.C. § 523(a)(5).

2) An education loan debt which was insured or guaranteed by a governmental unit. 11 U.S.C. § 523(a)(8) and 1328(a)(2).

3) Restitution included in a sentence on the debtor’s conviction of a crime. 11 U.S.C. § 1328(a)(3).

4) A debt relating to death or personal injury caused by debtor’s operation of a motor vehicle, vessel, or aircraft if such operation was unlawful because the debtor was intoxicated from using alcohol, a drug or another substance. 11 U.S.C. § 523(a)(9) and 1328 (a)(2).

5) A discharge obtained through fraud can be revoked, after notice and a hearing. This request must be made within one year after the discharge is filed and the requesting party did not know of the fraud until after the discharge was granted.

Page 77 of 187 We know that a discharge of debts can enter when a debtor cannot

complete the Chapter 13 only if the failure to make all the payments was

due to a hardship and the plan is substantially completed. Also, the

creditors would have to have received enough payment to satisfy the

Chapter 7 liquidation analysis. As an aside, I have never seen our court

enter a Chapter 13 discharge due to a ‘hardship’. But if a discharge was

entered based on a hardship, would taxes be discharged? Taxes claims

given a second priority, and prepetition priority tax which was filed, taxes

where the tax return was not filed, or the taxes where reported but filed

late, or filed after the bankruptcy petition, and taxes on fraudulent returns

and certain tax penalties would not be discharged. See: In re Quick, 152

B.R.902 (Bankr WD Va 1992).

Page 78 of 187 9) SETOFF OF INCOME TAX REFUND UNDER SECTION 553

We should be aware of Connecticut’s Local Bankr. R. 6070‐1 Tax Returns and Tax Refunds in Chapter 12 and 13 Cases. “The Chapter 12 and Chapter 13 Trustees are authorized to endorse on behalf of any Chapter 12 or Chapter 13 Debtor for deposit to the Chapter 12 or Chapter 13 Trustee’s trust fund account, any and all federal, state or local income tax refunds payable to the Debtor.

What can typically happen is that a debtor files a Chapter 13 petition

and proposes to pay a priority tax claim under Section 507(a)(8) and

proposes 5 years to repay the debt. The IRS takes the entire refund and

applies it to pay any prepetition priority tax provided for in the debtor’s

Chapter 13 plan.

Both the Third and Fourth Circuits have held that when the IRS

retains the tax refund, it is a violation of the automatic stay of Section 362.

See: United States IRS v Norton, 717 F.2d 767 (3d Cir. Pa. 1983). In this

case, the timeline was as follows:

1) 10/2/1980, Debtors filed Chapter 13.

Debtors had a priority claim of $762.00 to the IRS.

2) 4/23/1981, Debtors Chapter 13 had not been confirmed and they

filed their tax return for 1981 which had a refund of $1,314.81.

Page 79 of 187 3) The IRS retained refunded $1,314.18 and retained $737.97

4) The Bankruptcy Court ordered the IRS to return $737.97 and

found that the IRS had violated the automatic stay.

5) The IRS was found to be in contempt and was fined $150.00.

6) IRS appealed to the District Court which affirmed the Bankruptcy

Court.

7) IRS appealed to the 3rd Circuit Court of Appeals.

The Government argued that the IRS didn’t setoff the funds but

merely frozen the funds to protect its rights. The argument put

forth was that the automatic stay does not extinguish setoff

rights; it merely postpones their enforcement.

8) The 3rd Appellate Court affirmed that the IRS violated the

automatic stay and didn’t accept the Government’s argument that

there wasn’t a setoff.

9) Regarding the contempt, the Appellate Court noted the following:

“ Although we are troubled by the apparently criminal character of the sanction imposed by the Bankruptcy Court, we find it unnecessary to resolve this matter or to decide whether sovereign immunity bars the imposition of a criminal contempt sanction against the IRS.

Page 80 of 187 A party should not be held in contempt unless a court first gives fair warning that certain acts are forbidden; any ambiguity in the law should be resolved in favor of the party charged with contempt. ….. Whether the retention of tax overpayments constitutes a setoff in violation of the automatic stay is a much litigated and controversial question.

Inasmuch as the answer to that question was unclear at the time the tax refund was withheld by the Government, we believe that the IRS did not have fair warning that its retention of the funds was per se a violation of the automatic stay.”

The judgment of the District Court was upheld, and the IRS was

ordered to return the funds to the debtors. And the judgment of

contempt was reversed.

See: United States v Reynolds, 764 F.2d 1004 (4th Cir Va. 1985). The facts in

Reynolds as noted by the Appeals Court were very similar to Norton, ibid.

There was no contempt issue in this case. The IRS ‘froze’ the refund and

filed a Motion for Relief from Stay. In ruling against the IRS, the court

noted:

“ This Court has already prohibited banks from setting off debts against a corporate account during the pendency of a reorganization proceeding, unless those banks first request and receive relief from the automatic stay in a bankruptcy court….If a bank could freeze the debtor’s accounts upon the filing of a petition in bankruptcy, the debtor’s chances for successful rehabilitation would be substantially diminished.

Page 81 of 187

But see, also, Womack v. United States, 188 B.R. 259 (Bankr.E.D. Ark.

1995) where the Debtor had a confirmed Chapter 13 Plan which provided

for full payment to the IRS, but this did not preclude the IRS from setting off

a refund against the tax owed.

Judge Mary Scott cited several cases which were decided by §553

(Setoff), that confirmation did not alter a creditor’s right to setoff.

‘in re Olson, 175 B.R. 30 (Bankr. D.Neb.1994); In re Whitaker, 173 B.R. 359 (Bankr.S.D. Ohio,1994); see also Carolco Television, Inc v. National Broadcasting Co., (In re De Laurentiis Entertainment Group, Inc.), 963 F.2d 1269 (9th Cir.), cert. denied, ___U.S. ___, 113 S.Ct. 330, 121 L.Ed.2d 249 (1992)(Chapter 11). ‘ One court found the retention of the refund by the IRS to be

contemptible. In re Academy Answering Services, 90 B.R. 291 (Bankr. N. D.

Ohio, 1988). The Court found that the IRS willfully violated the Automatic

Stay and before the Court was the question of attorneys’ fees to be

awarded. The Debtor‐In‐Possession requested $2,756.25 in attorneys’ fees.

The attorney for the IRS argued 11 U.S.C. § 362(h) does not authorize

the award of attorneys’ fees against the United States for willful violation of

Page 82 of 187 the automatic stay. The attorney for the IRS argued that only under 26

U.S.C. §7430 can attorney fees be awarded.

Judge Richard L. Speer rejected the argument of the IRS. Besides

citing Reynolds, Ibid, and Norton, Ibid, the judge noted that:

“After §362(h) was enacted in 1984, courts continued to award damages and attorney’s fees against the United States for violations of the automatic stay through wrongful setoffs. See In re Ketelsen, 78 B.R. 573 (Bankr. D.S.D. 1987); In re Rinehart, 76 B.R. 746 (Bankr D.S.D. 1987); Matter of Woloschak Farms, 74 B.R. 261 (Bankr N.D. Ohio 1987). The judge awarded $1,000.00 in attorney’s fees.

Page 83 of 187

10) PRIORITY AND COLLECTION OF POSTPETITION TAX CLAIMS UNDER SEC 1305 (Filing and Allowance of Postpetition Claims)

Section 1305 is permissive because the IRS MAY file a proof of claim

in a Chapter 13 on a tax that became payable while the case is pending.

Also, a Chapter 13 debtor cannot file a postpetition claim on behalf of the

IRS. See: In re Dickey, 64 B.R.3 (Bankr. E.D. Va 1985). In this case, the facts

were as follows:

1) Debtor’s plan was confirmed on March 23, 1982.

2) Upon confirmation, all property revested in the Debtor and the estate

was terminated.

3) After Debtor’s confirmation, the IRS levied upon the Debtor’s residence

and his savings and checking accounts for assessments against him for

incomes for the years 1982 and 1983.

4) Debtor filed a Proof of Claim for income tax liabilities for 1982 and 1983.

5) Debtor filed an Application to amend his supplemental plan to include

Debtor’s post‐petition income tax liabilities for 1982 and 1983.

6) The IRS did not file a Proof of Claim for Debtor’s 1982‐ and 1983‐income

tax liabilities.

Page 84 of 187 7) Debtor moved to hold the IRS in contempt (Order to Show Cause)

The Debtor argued that under 11 U.S.C. §§ 1305(a) –‘Filing and

Allowance of Postpetition Claims’ and 501(c) –‘Filing Proofs of Claims or

Interests’ he should be permitted to file a claim on behalf of the IRS for

postpetition taxes and he should be permitted under 11 U.S.C. §1329 –

‘Modification of Plan After Confirmation’‐ to amend his plan.

Judge Martin V.B. Bostetter, Jr. ruled that neither 11 U.S.C. §1305 nor

11 U.S.C. §501 (c) permits the debtor under the circumstances of this

case to file a proof of claim for a post‐petition claim on behalf of a

creditor who does not file a proof of claim. Also, that 11 U.S.C. §502(i)‐

‘Allowances of Claims or Interests’‐ does not allow for the treatment of

post‐petition priority tax claims under the circumstances of this case as

if they were pre‐petition claims; and that 11 U.S.C. §1329 –

‘Modification of plan after Confirmation’‐does not permit amendment

of the plan in this case.

In concluding that upon confirmation of Debtor’s Chapter 13 Plan

that under 11 U.S.C. §1327(b) – ‘Effect of confirmation’‐ that all property

Page 85 of 187 revested in the debtor and the estate terminated, the Judge cited In re

Stark, 8 B.R. 233 (Bkrtcy. N.D. Ohio 1981).

Regarding the termination of the automatic stay of 11 U.S.C., §362,

the Judge cited In re Westholt Manufacturing Inc. 20 B.R. 368 (Bkrtcy

Kansas 1982), aff’d sub. Nom. United States v. Redmond, 36 B.R. 932

(D.Kansas 1984); In re Mason, 445 B.R. 498, 12 B.C.D. 527 (Bkrtcy,

Oregon 1984).

Another case which dealt with the issue of post‐petition taxes is In re

Hester, 63 B.R. 607 (Bankr E.D. Tenn). The facts in Hester, Ibid, were as

follows:

1) Debtors filed their Chapter 13 case in 1981 and the plan was confirmed. 2) Debtors failed to pay their real property taxes in 1982 and 1983. 3) Debtors amended their schedules in 1982 and 1983 to add post‐ petition taxes to their chapter 13 plan. 4) The Tax Commissioner was given notice of the amendments. 5) No proof of claim was filed for any taxes by the Tax Commissioner. 6) The debtors plan provided for full payment of claims entitled to priority under §507. The Tax Commissioner was given notice of the notice of the modified plan. 7) On May 8, 1985, the debtors received a discharge of their debts after completion of their chapter 13 plan. 8) The Tax Commissioner did not receive any payments on the postpetition taxes because no proof of claim was filed.

Page 86 of 187 The Tax Commissioner sought to collect on the postpetition taxes,

and the debtors brought an action to determine whether the debt

was discharged.

In ruling that the property tax debt was not discharged, the judge

noted:

‘The court admits that this reasoning is doubletalk as to the meaning of “provided for in the plan”. A claim is provided for in the plan if the plan provides for payment in some manner. The defendant’s (Tax Commissioner) was provided for in that sense. What §1322(b)(6) – ‘Contents of Plan’‐ means is that a postpetition claim that is provided for in the plan can be discharged only by payment as provided in the plan. Payment depends on whether the creditor files a proof of claim so that claim will be allowed. Since postpetition taxes generally must be paid in full in order for a plan to be confirmed, this means that postpetition taxes can discharged only by payment in full. Simply including them in the plan is not enough; they must also be paid.”

In re Nowak, 17 B.R. 860 (Bankr. N.D. Ohio, 1982). The issue of filing a

postpetition claim was reviewed. Debtor’s Chapter 13 Plan was confirmed

and subsequent to confirmation, he incurred medical bills and he sought to

amend his plan to add 46 medical bills to his plan. Debtor cited §1305 as

authority to amend his postpetition claims. The court noted that only the

Page 87 of 187 holder of the claim can file a proof of claim that was incurred post‐

confirmation.

Creditors have argued that when the Chapter 13 estate is terminated

on confirmation (unless the plan states otherwise) and consequently,

collection action can be taken against property of the debtor. Bankruptcy

courts have held that can be brought against post‐confirmation debt. See In

re Lewis, 33 B.R. 98 (Bankr. W.D.N.Y. 1983), where the court held where a

post confirmation creditor, who extended unsecured credit to a Chapter 13

debtor who was engaged in business under a confirmed plan and who had

no knowledge of the bankruptcy, could pursue his remedies in a state

forum.

Since the confirmation in Chapter 13 usually vests all property in the

debtor unless the plan provides otherwise, and the automatic stay is lifted

as to postconfirmation debt. Hence, the IRS has 2 choices:

1) file a postpetition tax claim in the Chapter 13 case; or,

2) pursue the claim including interest and penalties directly against the

debtor outside of bankruptcy.

Page 88 of 187 Authorities have noted that as a general rule, postpetition tax claims

under Section 1305(a) are generally not filed by the IRS because they

can’t collect interest and penalties.

Page 89 of 187

11) INTERNAL REVENUE SERVICE ALTERNATIVES FOR COLLECTING POSTCONFIRMATION TAX CLAIMS IN CHAPTER 13

The IRS has 3 options to collect on postconfirmation tax claims against a Debtor in Chapter 13. Those options are as follows: 1) Levy or seizure 2) Filing a priority administration claim under Section 507(a)(1) 3) Filing a Section 1305 claim. (Post‐Petition Claims)

Since property of the estate vests back with the debtor unless the Plan indicates otherwise, a creditor can proceed against property of the estate without violating 362. See In re Lewis, 33 B.R.98 (Bankr. W.D.N.Y. 1983).

The IRS generally doesn’t exercise its powers of levy or seizure if it will

interfere with the Debtor’s efforts to complete a Chapter 13 Plan.

However, the IRS will file a 507(a)(1) claim when employment taxes haven’t

been paid postconfirmation. The IRS will be entitled to a first priority

administrative expense treatment under Section 507(a)(1) regarding this claim

In re Martin, 73 B.R. 721 (Bankr. C.D. Cal. 1987, the facts were: 1) 12/1982, Debtor as tenant, entered into a written lease with Crovine. 2) 1/6/1983, Debtor filed a Chapter 13 petition. 3) Debtor did not list Crovine as a creditor in his schedules. 4) 12/20/1983, Debtor’s Second Amended Plan was confirmed.

Page 90 of 187 5) 6/5/1984, Debtor defaulted on the lease. 6) After the default, Crovine learned of Debtor’s bankruptcy 7) Crovine filed an adversary proceeding for relief from the automatic stay and termination of the lease. 8) 7/6/1984, Debtor filed an application to assume the lease. 9) 10/9/1984, the parties entered into a stipulation and the debtor assumed the lease. 10) 11/21/1984, the Stipulation was vacated. 11) 1/10/1985, the court denied Crovine’s motion for relief from stay. 12) Debtor then failed to make rental payments to Crovine and perform other obligations under the lease. 13) 1/8/1986, the court order Debtor to surrender possession of the premises to Crovine. 14) 7/30/1986, Debtor converted his Chapter 13 case to Chapter 11. 15) 1/23/1987, Crovine, the lessor of the commercial premises, moved for allowance of his claim for past‐due rent as a priority expense after the debtor converted his Chapter 13 to a Chapter 11 case. Debtor objected to the allowance of Crovine’s claim as an administrative expense. There were 3 important cases which the court especially reviewed in making its decision. In re Axton, 641 F.2d 1262 (9th Cir.1981) which held: “It is settled law that an allowance for use and occupancy by the trustee, receiver or debtor‐in‐possession, of premises leased by a bankrupt debtor, or receiver, is an expense of administration…Id. at 1273.

Page 91 of 187 Debtor responded that the Claim is not administrative expense under 11 U.S.C. §503(b)(1)(A)‐ ‘Allowance of Administrative Expense’ and cited In

re Frank Meador Buick, Inc. 59 B.R. 787 (Bankr.W.D.Va.1986). This case

held that post‐confirmation expenses of a debtor are not expenses incurred

to preserve the estate, and, therefore, such expenses do not qualify as

administrative expenses under 11 U.S.C. §503(b)(1)(A). Id. at 791. In this

case the IRS requested a priority administrative expense for employee

income taxes when the debtor converted his Chapter 11 case to a Chapter

7 case. The Virginia Court ruled that since all property of the estate vests in

the debtor at confirmation as per §1141(b) of the Code, there was no

estate to preserve and, consequently, the taxes were not expenses incurred

to preserve the estate.

The Debtor, also, cited In re Baker Medical Co., Inc., 55 B.R. 435

(Bankr. M.D. Ala.1985), which had the same legal conclusion.

Judge Ryan acknowledged that the case of In re Mason, 51 B.R. 548

(D.Ore.1985), supported the Debtor’s position. But the judge referred to In

re Root, 61 B.R. 984 (Bankr.D.Colo.1986), which disagreed with the Mason

court and noted the following:

Page 92 of 187 ‘The Court has studied the case of In re Mason and In re Stark, 8 B.R.984 (Bankr.N.D.Oh. 1981), upon which the courts in Mason rely. Those cases hold that upon confirmation of a Chapter 13 plan, all property of a Chapter 13 Plan, all property of the estate vests in the debtor, and consequently, no estate exists. This Court strongly disagrees. If there is no existing estate upon confirmation, then what does a Chapter 13 administer? If there is no estate over which the Chapter 13 Trustee has control, then the Trustee is nothing more than an officious intermeddler.’ Id at 985.

Judge Ryan ultimately ruled that since the debtor needed the premises to earn funds to pay creditors under the confirmed chapter 13 claim, and thus the claim was entitled to priority as an administrative expense.

From the above cases, we learn that postpetition taxes for trust taxes are entitled to interest and penalties as a first priority administrative expense under Sec. 507(a)(1), so this is an advantage for the IRS. The IRS can file a claim under Sec 1305(a)(1) with perhaps a lower priority under 507(a)(8) because it could be treated as a prepetition tax.

Page 93 of 187 12) DISCHARGE OF LATE‐FILED TAXES BY: Kenneth Lenz

Old Law: Local Loan Co. v. Hunt, 292 U.S. 234, 244 (1934) primary purpose of bankruptcy is to relieve the honest debtor from the weight of oppressive indebtedness and permit him to start afresh. Presumption in favor of discharge.

New Law: BAPCPA was enacted “to improve bankruptcy law and practice by restoring personal responsibility and integrity in the bankruptcy system and to ensure that the system is fair for both debtors and creditors.” H.R. Rep. No.

109-31 at 2.

Pre-BAPCPA Majority Position. Essentially, a tax was dischargeable if the tax return was due more than three years ago and was filed more than two years before the debtor filed a Chapter 7 bankruptcy. 11 U.S.C. Sec. 523(a)(1). A complication arose if the IRS prepared a substitute tax return before the taxpayer filed for bankruptcy relief. In that narrow situation, a split arose among the United

States Circuit Courts. Majority position is represented by Sixth Circuit opinion in

United States v. Hindenlang (In re: Hindenlang), 164 F.3d 1029, 1032 (6th Cir.

1999) “Once a taxpayer has been assessed a deficiency, a Form 1040 submitted by the taxpayer to the IRS no longer qualifies as a return” and would thus be non-

Page 94 of 187 dischargeable. The Hindenlang Court adopted a four-point test found in Beard

(1) it must purport to be a return; (2) it must be executed under the penalty of perjury; (3) it must contain sufficient date to allow calculation of a tax; and (4) it must represent an honest and reasonable attempt to satisfy the requirements of the tax law. Beard v. Commissioner, 82 T.C. 766, 777-79 (1984). Debtor’s filing of a

1040 return after the IRS has prepared a substitute return had no legal effect or impact on his tax obligation, and did not qualify as a return.

Pre-BAPCPA Minority Position: In re Colsen (Colsen v. United States,

446 F.3d 836 (8th Cir. 2006) where Court found 4th element of Beard could be satisfied without needing to consider the filer’s intent or timeliness of the returns,

as those are not specific elements of the test (Id. At 840)

POST-BAPCPA: Confusion

BAPCPA’s Adjustment to 11 U.S. C. § 523(a)(*): the “hanging” paragraph.

“For purposes of this subsection, the term ‘return’ means a return that satisfied the

requirements of applicable nonbankruptcy law (including applicable filing

requirements). Such term includes a return prepared pursuant to section 6020(a) of

the Internal Revenue Code of 1986, or similar State or local law, or a written

stipulation to a judgment or a final order entered by a nonbankruptcy tribunal, but

does not include a return made pursuant to section 6020(b) of the Internal Revenue

Page 95 of 187 Code of 1986, [i.e. an IRS-filed substitute for return] or a similar State or local law.”

Late-filed State filed returns are determined with reference to applicable

State laws.

THE ONE-DAY LATE RULE:

LATE-FILED TAX RETURNS ARE NON-DISCHARGEABLE

There is a split of authority among the circuit courts re: the One-Day Late

Rule.

N.B. I did not forget the Second Circuit. There has not been a reported case on this

issue--yet.

PRO (Circuits that follow the One-Day Late Rule):

First Circuit: Fahey v. Mass. Dep’t of Revenue (In re: Fahey), 779 F. 3d 1

(1st Cir. 2015) (late-filed return not filed in accordance with applicable state law.)

Fifth Circuit: McCoy v. Miss. State Tax Comm’n (In re: McCoy), 666 F.3d

924 (5th Cir. 2012) (Beard test superfluous, therefore a return filed after the filing

deadline is not a return, and the tax non-dischargeable.)

Tenth Circuit: Mallo v. IRS (In re: Mallo), 774 F.3d 1313 (10th Cir. 2014), where court excluded late-filed forms from qualifying as returns.

Page 96 of 187 CONTRA: (Other Circuits continue to follow the Beard test)

Third Circuit: Giacchi v. U.S. Dep’t of Treasury (In re Giacchi), 856 F.3d

244, 247-247 (3rd Cir. 2017) Court found returns filed after IRS’s assessment failed

to fulfill 4th Beard element, and thus could not be in compliance with tax law.

Ninth Circuit: Smith v. IRS ( In re: Smith), 828 F.3d 1094, 1095 (9th Cir.

2016), cert. denied, 137 S.Ct. 1066 (2017). United States v. Hatton (In re: Hatton),

220 F. 3d 1057, 1060-61 (9th Cir. 2000) followed In re: Hindenlang’s use of the

Beard test).

Eleventh Circuit: Justice v. United States (In re: Justice), 817 F.3d 738, 740

(11th Cir. 2016), cert denied 137 S. Ct. 1375 (2017).

Other Notables:

Fourth Circuit: Maryland v. Ciotti (In re Ciotti), 638 F.3d 276 (4th Cir.

2011) Unique, debtor filed returns, but IRS issued Letter of Determination that increased taxes, but debtor did not amend State returns. This caused the State taxes to be non-dischargeable.

Seventh Circuit: Payne v. United States (In re Payne), 431 F.3d 1055, 1060

(7th Cir. 2005) (Easterbrook, J., dissenting), mostly cited for the dissent, that argues

that a post-assessment return can be an honest and reasonable attempt to satisfy the

law under the Beard test.

Page 97 of 187 U.S. Supreme Court: Gleason v. Thaw, 236 U.S. 558, 562 (1915), “In view of the well-known purposes of the Bankruptcy Law exceptions to the operation of a discharge thereunder should be confined to those plainly expressed.”

Summary: By its plain language, the hanging paragraph was not intended to alter the landscape of tax dischargeability by preventing all late-filed taxes from being discharged, but rather to clarify dischargeability when the IRS prepares a substitute return. The primary confusion stems from the hanging paragraph language that defines a return as one “that satisfied the requirements of applicable

nonbankruptcy law (including applicable filing requirements).” Reading the statute as a whole, it means that late-filed returns that do not comply with substantive filing requirements are not dischargeable. Reading the hanging paragraph in a manner that makes all late-filed returns non-dischargeable ignores

the surrounding express language, specifically 11 U.S.C. § 523(a)(1)(A)-(C) that

addresses the case of a late-filed return being dischargeable if it was non-

fraudulent and filed at least two years before the bankruptcy filing.

Source: Western New England University Law Review Article by Justin Dion and Barbara Curatolo (Vol. 40, pp. 197 (2019).

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Bankruptcy Tax Discharge Presentation

Learn how to assist bankruptcy attorneys evaluate a taxpayer for a potential bankruptcy.

Roger Nemeth, EA  Started managing tax franchises in 2006 after.  Developed Audit Detective in 2010.  Qualified as an N.T.P.I. Fellow in 2015.  Worked as a programmer for the largest Tax Resolution Company integrating automated transcript systems into workflow programs.  Assisted in the downloading and research of over 30 million transcripts.  To date our software has been used to download over 100 million transcripts (one‐fifth of a billion).

Handout Overview

 Bankruptcy Discharge Cheat Sheet  Bankruptcy Discharge Flow Chart  IRS Memo Reference to Original Return Before SFR Assessment

Page 117 of 187 1 9/6/2019

Presentation Overview This presentation will cover how to evaluate an individual taxpayer’s IRS account for a potential bankruptcy filing. This course will focus on the IRS account review and the calculations for the potential bankruptcy discharge dates.

Presentation Note: Giving advice on bankruptcy is generally classified as legal advice. Tax professionals should have a relationship with a bankruptcy attorney who should talk to the client. This class is not providing legal training.

Scope of Presentation

 How to determine if there is Federal Tax Debt.  How to determine if the tax is secured.  How to calculate the 3‐Year, 2‐Year, & 240‐Day Rules.  How to determine if there is a substitute for return.  If there is a substitute for return determine if an original return was filed prior to the SFR assessment.  Assist with determining if the return qualifies as a return under the Beard Test.

Presentation Note: This webinar will not cover is tax debt dischargeable in a particular scenario. That is Legal Advice and must be given by an attorney. If you would like additional training on the subject we will discuss it at the end of this presentation.

Disclaimer

This class should not be considered legal advice or legal training. It’s purpose is to educate the tax professional community on the basics of bankruptcy law so that they may assist their tax clients in referring them to bankruptcy attorneys for legal advice when the possibility exists and then working with those bankruptcy attorneys to assist them with evaluating the tax portion of the bankruptcy including calculating discharge dates.

Presentation Note: Many times the different Federal Circuits interpret the bankruptcy code differently. The map on the next page shows the Federal Circuit Court of Appeals map for reference. This presentation will not go into the different interpretations of each Federal Circuit. That is up to the bankruptcy attorney.

Page 118 of 187 2 9/6/2019

The Catch 22 A Circular 230 preparer needs to evaluate all the available options for tax resolution clients or they may not meet the Circular 230 requirements. The problem is bankruptcy is a legal option and under Circular 230 § 10.32 Practice of law: “Nothing in the regulations in this part may be construed as authorizing persons not members of the bar to practice law.”

Best Practice As a tax professional you can review a tax clients records to evaluate if bankruptcy is a potential solution to their tax issue. You can then advise the client that bankruptcy is a potential solution and they should contact a bankruptcy attorney if they would like to pursue or evaluate that option further.

Presentation Note: Make sure you document this conversation in the client records so they do not sue you later because you did not present them with bankruptcy as an option.

Page 119 of 187 3 9/6/2019

Presentation Outline  Bankruptcy Basics:  Dischargeable taxes.  Secured and unsecured debt.  Priority and non‐priority debt.  Case Law:  Beard  McCoy  How to review the tax payers IRS information to assist with the dischargeability decision.

What is Dischargeable Tax Debt

 Dischargeable: Assessed federal income taxes and the associated interest and penalties can be discharged in bankruptcy if they qualify.  In order for taxes to be dischargeable they need to be classified as non‐ priority.  Secured (Notice of Federal Tax Lien (NFTL) Filed) debt can be discharged but the lien survives. If property is sold after the bankruptcy the IRS can make a claim under the lien.  The associated interest and penalties of the tax debt are dischargeable.  Non‐Dischargeable: Taxes other than income taxes usually cannot be discharged.  Trust fund taxes.  Fraud penalties.

Chapter 7 vs Chapter13  Chapter 7 Bankruptcy is a liquidation bankruptcy.  Liquidates assets and then pays off creditors based on priority and non‐priority debt.  Chapter 13 Bankruptcy is a reorganization bankruptcy.  The debt is organized into a payment plan and payments are made based on priority.  Non‐Priority income tax debt is dischargeable at the end of the Chapter 13.  Income Taxes can be discharged in both Chapter 7 & 13 Bankruptcies.  If there is a lien on non‐priority Debt:  For a Chapter 7, the debt would be discharged but the lien survives.  For a Chapter 13, the debt is still discharged but now you have a secured lien which has to be paid in the Chapter 13. For example, debtor owes $50k on non‐priority taxes with a lien filed. They have $25k in assets. The plan must provide for payment of $25k (the secured portion), but the remainder would be treated like a Chapter 7 – discharged but lien survives.

Page 120 of 187 4 9/6/2019

Chapter 7 Example

 Tax payer files Chapter 7 and has the following Federal Income Tax Debt on the day of filing:  $10,000 of Priority/Secured Tax Debt.  $9,000 of Priority/Unsecured Debt.  $8,000 of Non‐Priority/Secured Debt.  $7,000 of Non‐Priority/Unsecured Debt.

Result: Only the $7,000 of Non‐Priority/Unsecured Debt & the $8,000 of Non‐ Priority/Secured Debt is dischargeable. A total of $15,000 is dischargeable.

Presentation Note: The lien still survives on the $8,000 of secured debt.

Chapter 13 Example

 Tax payer files Chapter 13 and has the following Federal Income Tax Debt on the day of filing:  $10,000 of Priority/Secured Tax Debt.  $9,000 of Priority/Unsecured Debt.  $8,000 of Non‐Priority/Secured Debt.  $7,000 of Non‐Priority/Unsecured Debt.  There are $4,000 of assets.

Result: Only the $7,000 of Non‐Priority/Unsecured Debt & the $4,000 of Non‐ Priority/Secured Debt is dischargeable at the end of the repayment plan minus the portion that was paid during the Chapter 13. The total dischargeable amount is $11,000. $4,000 of the $8,000 non‐priority secured debt must be included in the payment plan.

Secured Debt

 IRS creates secured debt with a properly filed Notice of Federal Tax Lien (NFTL).  Valid NFTL must identify taxpayer, tax year, assessment, and release date‐‐ Treas. Reg. § 301.6323‐1(d)(2)  Rules for proper place to file NFTL vary by state.

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Priority vs Non‐Priority Tax Debt

 There are five criteria or tests to determine if income taxes are dischargeable 1. 3‐Year Rule  The taxes were due at least three years before the bankruptcy filing including valid extensions. 2. 2‐Year Rule  The tax return was filed at least 2 years before the filing. 3. 240‐Day Rule  The tax was assessed 240 days prior to the filing. 4. No Tax Fraud or Willful Evasion  Tax fraud was not committed & no willful evasion.

Equitable Tolling Equitable Tolling Definition: Equitable tolling is a legal principle evolved from the common law of equity. Equitable tolling states that the statute of limitations will not bar a claim if the plaintiff, despite reasonable care and diligent efforts, did not discover the injury until after the limitations period had expired.

The layman’s definition of equitable tolling in regards to the IRS is the legal position that a deadline will toll while the IRS is barred from collecting a tax debt.

Presentation Note: Common sense would indicate that all of the “tolling events” that affect the Collection Statute Expiration Date would also apply to the bankruptcy rules as well. This is not the case. Only prior bankruptcies, Collection Due Process Hearings and Offer in Compromises toll some of the bankruptcy rules.

Bankruptcy Tolling Events

Tolling Event 3‐Yr Rule 2‐Yr Rule 240‐Day Rule Additional Days

Prior Bankruptcy Yes No Yes 90

Collection Due Process Hearing Yes No Yes 90

Offer in Compromise No No Yes 30

Presentation Note: Be advised courts could make new rulings that could expand or contract equitable tolling. For example a court could rule equitable tolling could be applied to the 2‐Year Rule.

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Offer in Compromise Tolling

 Offer In Compromise (OIC) tolling is different for bankruptcy than it is for CSED tolling.  In bankruptcy the OIC tolls from pending date to the rejected date plus 30 days, or  If the OIC is accepted then it tolls from the pending date through the duration of the OIC whether it is completed successfully (including the five year compliance time frame) or the default date plus 30 days.  To clarify the CSED OIC tolling is only from pending to accepted or rejected not the duration plus 30 days for a rejected OIC.  The CDP and prior bankruptcy tolling are from the start of the event to the end plus 90 days.

Accepted OIC Trap In Bankruptcy

 What happens if a tax payer has an accepted OIC and the debt has been written off but they are still in the five year compliance period.  During that time they file a Chapter 7. For this example assume the written off balance would have been non‐priority/unsecured debt.  Once the tax payer emerges from bankruptcy they default during their compliance period and the debt is placed back on the account.

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Confirm Prior Bankruptcy With PACER

 Public Access to Court Electronic Records (PACER) is the public access portal where anyone can access Federal Public Court Documents.  The tax pro or bankruptcy attorney can search for the tax payer to make sure the dates of the bankruptcy are correct and that it was a bankruptcy and not tax court.  The transaction code for bankruptcy is the same for CDP and tax court.  TC 520 Bankruptcy or other legal action filed  The client is not the best source.  You can also check the closing code on the MOD A transcript. It is still recommended that PACER is checked since the IRS has been known to make mistakes entering data in their system.

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3‐Year Rule

 The taxes were due at least three years before the bankruptcy filing including valid extensions.  The due date for individuals is April 15 and extensions are October 15.  I have not seen any case law on the Saturday, Sunday, Legal Holiday Rule affecting the due date in regards to bankruptcy, but that does not mean there is not a case or the rules will change in the future.

Individual Due Dates 3.30.123.6.1.6 (01‐01‐2018) Domestic Form 1040 Series OTFP (AUSPC, FSPC, KCSPC, OSPC Only) (Programs 43110, 43130, 44110 and 47130) Processing Specifications 1. STATUTORY DUE DATES for Form 1040, Form 1040‐A and Form 1040‐EZ: • April 15 • June 15 (Taxpayers living abroad‐automatic extension) • October 15 (If Extension Request is filed timely ‐ April 15)

Presentation Note: Unsure how a natural disaster extension affects the due date interpretation for bankruptcy. This would benefit the tax payer if challenging a late filed return where there may have been an automatic extension for tax payers in Federally Declared Disaster area. This is for the attorneys to interpret. More information in the 2‐ Year Rule section.

3‐Year Rule Equitable Tolling

 Prior Bankruptcies  Tolls for the duration of the bankruptcy plus 90 days.  Collection Due Process Hearing  Tolls for the duration of the hearing plus 90 days.

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2‐Year Rule

 The tax return was filed at least 2 years before the filing.  This is the most complicated of the five rules/criteria regarding non‐priority debt.  This gets complicated because “What qualifies as a tax return” needs to be established. This will be discussed on an upcoming slide (The Beard Test).

2‐Year Rule Equitable Tolling

 Currently nothing tolls the 2‐Year Rule.  The courts could change their interpretation of the law at any time and start applying tolling.  In the IRS Bankruptcy Presentation from the 2013 IRS Forum the presentation states: “Prior bankruptcy filing extends 3‐year rule plus 90 days, 240‐day rule plus 180 days (under literal reading of statute), and 2‐year rule with no additional time”  I have not found this tolling position in any other literature.  This is just an example of different interpretations of the same code.

What Qualifies As A Tax Return

 A timely filed 1040.  An agreed upon SFR IRC Section 6020(a) (In some districts)  This is basically an SFR where the taxpayer signs agreeing to the assessment.  A late filed 1040 that is filed prior to an unagreed SFR IRC Section 6020(b) assessment.  In some Federal Court Circuits late filed returns (even if one day late or with reasonable cause) do not qualify based on the McCoy Ruling. More on this in the next slide.

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McCoy Case

 On January 25th , 2012 the 5th Circuit Court of Appeals ruled on Linda McCoy vs Mississippi State Tax Commission that a late filed return did not meet the definition of a return under the 11 U.S.C. § 523(a)(1)(B)(i)  This case was about a state tax but it has since been applied to any income taxes including Federal Tax.  The IRS still recognizes late filed returns and the 2‐Year Rule but the courts can decide on their own.  Even if the IRS does not pursue a McCoy ruling the court may as well as the states.  The Federal Districts that recognize McCoy interpret a return even one day late as not a return.

240‐Day Rule

 The tax was assessed at least 240 days prior to the filing.

240‐Day Rule Equitable Tolling

 Prior Bankruptcies  Tolls for the duration of the bankruptcy plus 90 days.  Collection Due Process Hearing  Tolls for the duration of the hearing plus 90 days.  Offer In Compromise (OIC)  Tolls for the time the OIC is pending and if accepted tolls for the duration of the OIC.  OIC tolls for an additional 30 days after the duration.

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Evaluate Tax Payer’s Eligibility For Tax Dischargeability  Determine which years have tax debt.  Check the Account Transcript, Separate Assessment, & Civil Penalty Transcripts.  Also need to check if there is an EIN for Payroll/Unemployment returns and request 940, 941, 943, 944, and/or 945 transcripts.  Confirm the tax payer is compliant (compliant for bankruptcy not IRS Collections).  Determine if the returns past the Beard Test.  Is the debt secure?  Check for Tax Liens.  Is the debt priority?  For each year with tax debt calculate the 3‐Year, 2‐Year, & 240 Day Rules.  Check for Tax Fraud and Willful Evasion.  Check to see if the tax return was late filed.  If an SFR is present determine if an original return was filed before the SFR was assessed.  Calculate the CSED Dates and verify with the IRS.  Evaluate other tax resolution options.

Bankruptcy Flow Chart Handout

IRS Transcripts

 To begin the evaluation of a tax payer’s eligibility for bankruptcy the IRS Account Transcripts should be acquired.  Optionally the IRS Mod A transcript could be obtained.  The Mod A transcripts are not available electronically and can be difficult to obtain.  Try calling the Practitioner Hotline (PPL/PPS) and ask for them.  Try a FOIA Request.  The Mod A transcripts will have the IRS CSED’s and all the closing codes that do not show in the Account Transcripts that are needed to determine tolling events.