CHAPTER TEN

Tax Procedures and Litigation

§ 10.1 Introduction

§ 10.2 Notice and Filing Requirements

(a) Notice to Governmental Agencies

(b) Local Insolvency Group Function

§ 10.3 Tax Determination

(a) Tax Liability

(i) S Corporations and Partnerships

(ii) Previously Determined Taxes

(b) Proof of Claim

(i) Filing Requirements

(ii) Timely Filed Proof of Claim

(iii) Amended Proof of Claim

(iv) Failure to Respond to Objection

(v) Proper Notice

(vi) Priority Taxes

(vii) Burden of Proof

(c) Tax Refund

(d) Determination of Unpaid Tax Liability

(e) Determination of Tax Aspects of a Plan

(i) Chapter 12

(ii) Other Plan Issues

(f) Effective Date

(g) Dismissal of Petition

(h) Tax Impact of Trusts Created in Chapter 11

(i) Tax Penalty in Bankruptcy Cases

(j) Effect of the Automatic Stay

(k) Tax Offset

(l) Assignment of Tax Refunds

(m) Waiver of Sovereign Immunity

(n) Offers in Compromise

(o) Impact of Settlement

§ 10.4 Bankruptcy Courts

(a) Jurisdiction

(b) Awarding Attorneys’ Fees

(c) Sole Agency Rule

(d) Tax Avoidance

§ 10.5 Minimization of Tax and Related Payments

(a) Estimated Taxes

(b) Prior-Year Taxes

(c) Pension Funding Requirements

§ 10.1 INTRODUCTION

The objective of this chapter and the next is to discuss the aspects of bankruptcy taxation that present special problems associated with the filing of tax returns and the payment and assessment of tax. This chapter contains a review of procedures for filing returns and determining taxes and the jurisdiction of the bankruptcy court.

The provisions of the Bankruptcy Code changed the tax procedures to be followed in a bankruptcy case, and some Internal Revenue Code (I.R.C.) sections were amended to conform to the provisions of the Bankruptcy Code. Additionally, the Internal Revenue Service reorganization that took place primarily in 2000 (resulting from the Internal Revenue Service Restructuring and Reform Act of 19981) also changed the tax procedures to follow in bankruptcy.

§ 10.2 NOTICE AND FILING REQUIREMENTS

(a) Notice to Governmental Agencies

Pursuant to I.R.C. section 6036, every trustee for a bankrupt estate, court-appointed receiver, assignee for the benefit of creditors, other fiduciary, and executor must give notice of qualification to the Secretary of the Treasury or a delegated representative in the manner and within the time limit required by regulations of the Secretary or delegate.

Regulations under section 301.6036-1(a)(1) provide that receivers, bankruptcy trustees, debtors in possession, and other like fiduciaries in a bankruptcy proceeding are not required to provide the appropriate district director2 with notice of appointment within 10 days of the date thereof.

Where written notice is required, it may be made on Treasury Form 56: Notice Concerning Fiduciary Relationship, and should include:

• The name and address of the person making such notice and the date of appointment or of taking possession of the assets
• The name, address, and employer identification number of the debtor or other person whose assets are controlled

In the case of a court proceeding, the following additional information may be required in a supplementary schedule:

• The name and location of the court in which the proceeding is pending
• The date on which the proceeding was instituted
• The number under which the proceeding is docketed
• The date, time, and place of any hearing, meeting of creditors, or other scheduled action with respect to the proceeding

Similar notices may be required by other governmental taxing authorities and should be filed in accordance with their prescribed procedures.

I.R.C. section 6903 requires that a fiduciary give the Treasury Department a notice of relationship (a statement that any person is acting for another in a fiduciary capacity). This notice is filed on Treasury Form 56. Once this notice has been filed, the trustee would have the right to file or amend prior years’ returns and act on behalf of the estate in other tax issues that might arise. Notice given under I.R.C. section 6036 would satisfy the requirement of I.R.C. section 6903.

If a required notice is not given as stipulated by I.R.C. section 6036, the period of limitations on the assessment of taxes is suspended from the date the proceeding is instituted to the date notice is received by the district director3 and for an additional 30 days thereafter. However, the suspension in no case shall exceed 2 years.4

(b) Local Insolvency Group Function

Chapter 11, chapter 12, business chapter 13, and chapter 7 cases with assets in the bankruptcy estate are handled by bankruptcy advisors in the IRS’s local insolvency groups. To facilitate control over the cases pending, the IRS may send a letter to the chapter 11 debtor explaining the returns to be filed, the location where tax returns should be filed, the location where notices should be sent, the procedures to be followed in making tax deposits, the restrictions a tax lien may place on the use of cash collateral, and other relevant information.

§ 10.3 TAX DETERMINATION

(a) Tax Liability

Section 505 of the Bankruptcy Code authorizes the bankruptcy court to determine the tax liability of a debtor, provided the tax issue had not been contested and adjudicated before the commencement of the bankruptcy case. Included would be any fine or penalty relating to a tax or any other addition to a tax.5 The bankruptcy court determines the tax claims allowed under section 502 of the Bankruptcy Code and the dischargeability of the tax under section 523 of the Bankruptcy Code. Section 505 of the Bankruptcy Code applies to all types of taxes, including income taxes, excise taxes, sales taxes, unemployment compensation taxes, and so on.

Section 505(c) provides:

Notwithstanding section 362 of this title, after determination by the court of a tax under this section, the governmental unit charged with responsibility for collection of such tax may assess such tax against the estate, the debtor, or a successor to the debtor, as the case may be, subject to any otherwise applicable law.

Thus, once the bankruptcy court has determined the tax liability under section 505, the IRS can assess the tax against the debtor or, if the petition is filed by an individual, against the estate. Collection would be delayed by the automatic stay. The Tenth Circuit6 held that a transferee liability under section 6901(a) is a tax liability of the estate. The National Office of the IRS issued a “policy statement” change indicating that it would issue prompt determination letters only on returns for which there is a tax liability. In Revenue Manual 4.27.5-2 and 3, the IRS takes the position that a tax return from a partnership or from an S corporation is not subject to tax and as a result the request for tax determination does not apply. The IRS also noted that the 2005 Act provides that the stay under section 362(a)(8) is revised to apply only to a tax liability for an individual for a taxable period ending before the order for relief or for a corporation for a period for which the bankruptcy court may determine the tax. Thus, the tax liability arising after the petition is filed for an individual may be determined by tax authorities other than the bankruptcy court. However, the bankruptcy court retains jurisdiction for both prepetition and postpetition taxes of a corporation. See § 4.4(f).

(i) S Corporations and Partnerships

Excerpts from the IRS response to a request for tax determination for a partnership or S corporation follow.

On (date ), you requested a prompt determination of tax liability as shown on Form 1120S under Bankruptcy Code section 505(b) for the bankruptcy estate of (S corporation name), for the period ending (YYMM). Under section 505(b) of the Bankruptcy Code, the trustee, the debtor, and any successor to the debtor are discharged from any liability for such tax upon payment of the tax shown on such return if the trustee is not notified within 60 days after such request that such return has been selected for examination. The return you submitted is not being selected for examination under this provision. However, the trustee, the debtor, and any successor to the debtor is not discharged under section 505(b) if the return is fraudulent or contains a material misrepresentation. With limited exceptions, S corporations filing Form 1120S returns do not incur any income tax liabilities. The exceptions apply to S corporations with prior C corporation history. Further, the income tax liability in such instances is limited to recapture of tax credits, tax on built in gains, and tax on excessive passive investment income under IRC sections 1371(d), 1374, and 1375, respectively. Under IRC section 1363(d), the S corporation may also be liable for the last three of four payments related to LIFO recapture included on the final C corporation tax year return. Since there is no indication from the material submitted that there is a prior C corporation history, it appears that the bankruptcy estate did not incur any income tax liability. The Form 1120S return you submitted has not been selected for examination under the prompt audit procedures of section 505(b). Accordingly, unless the return is fraudulent or contains a material misrepresentation, the trustee, the debtor, and any successor to the debtor will be discharged from any tax liability for such return under section 505(b). Please note that the decision not to select this return for examination under the prompt audit procedures does not preclude future audit of the return. However, if there is an audit of the Form 1120S submitted with the request, any income tax consequences will apply to the shareholders only.

A similar form letter is contained in Internal Revenue Manual 4.27.5-2 for partnerships.

Even though the IRS no longer issues determination letters for partnerships and S corporations, it is still advisable for the debtor to request such a letter and properly document the request. For example, in In re First Securities Group of California, Inc.,7 the bankruptcy court considered the request valid over the objection of the IRS.

First Securities Group of California, an S corporation, requested the IRS to determine the tax under section 505(b) for calendar year 1996. The IRS rejected the trustee’s request for a prompt determination, stating that the provisions of section 505(b) apply only to returns for which there is a tax liability, and generally, the partnership and S corporation show no tax liability. The IRS argued that the National Office of the IRS has issued a “policy statement” change that it would issue prompt determination letters only on returns for which there is a tax liability. The trustee noted that the IRS policy statements do not have the force and effect of law and are not binding on the bankruptcy court. See In re Technical Knockout Graphics, Inc.,8 where the Bankruptcy Appellate Panel (BAP) held that the bankruptcy court was not bound to apply voluntary-involuntary dichotomy as set forth in the IRS policy statement in determining allocation of tax payments pursuant to section 505 of the Bankruptcy Code. The court reasoned that “holding to the contrary would allow IRS policy statements to limit the exercise of the bankruptcy court’s equitable jurisdiction, a result inconsistent with the history and intent of bankruptcy legislation.” However, the Ninth Circuit reversed the decision of the BAP and held that the payments are involuntary and the bankruptcy court does not have equitable jurisdiction to order otherwise.

The bankruptcy court in Securities Group of California held that the estate had no unpaid tax liability for the calendar year 1996 and that the S corporation and the trustee were discharged from any liability for unpaid federal income taxes for 1996. The court also held that

as a result of the Trustee’s February 1997 filing of a request for prompt determination pursuant to 11 U.S.C. section 505(b) of the final tax return (“Return”) filed by the First Securities Estate for calendar year ending December 31, 1996, and the IRS’s failure to notify the Trustee that the Return was subject to audit within 60 days of the prompt determination request, as well as its failure to complete an examination within 180 days of the Trustee’s request, the Internal Revenue Service shall be precluded from hereafter auditing the Return.

In one case,9 the bankruptcy court held that the Tax Court could determine the tax liability. The bankruptcy court, in reaching this decision, concluded that the Tax Court could better immunize the IRS against a potential whipsaw effect by consolidating this case with the taxpayer’s related cases. The bankruptcy court established a date on which it would hear the case if either party delayed the proceedings without good cause. Once both parties were ready for trial, the bankruptcy court indicated that it would then modify the automatic stay to permit trial.

(ii) Previously Determined Taxes

Section 505(a) of the Bankruptcy Code provides that the bankruptcy court may determine the tax liability, except in cases where the tax has been previously determined by a “judicial or administrative tribunal of competent jurisdiction” before the filing of the petition. In In re Doerge,10 the debtor contended in bankruptcy court that the three-year period for assessment following the filing of his returns for these years had expired before he filed his tax court petition challenging the government’s notices of deficiency. As a result, the debtor claimed that “the government was barred from assessing these taxes following the tax court’s decision, and the resulting tax liens, which arose by operation of law following such assessment, are void and cannot be enforced against his property in rem.” The court noted that a discharge in bankruptcy only relieves a debtor of personal liability for his obligations, as set forth in section 524(a)(2) of the Bankruptcy Code, and does not automatically invalidate liens securing such dischargeable debts. Rather, according to the court, “these liens continue beyond bankruptcy as a charge upon the debtor’s property if not disallowed or avoided.”11

The court noted that section 505(a)(2)(A) of the Bankruptcy Code and the doctrine of res judicata preclude the court from redetermining tax liabilities that were determined in the Tax Court proceeding. The court then concluded that “[s]ince the debtor cannot question the legality of these taxes based on expiration of the limitations period prior to the tax court proceeding, the debtor is likewise precluded from questioning the validity of the tax liens that arose from the government’s timely assessment following entry of the tax court decision.” Thus the court concluded, “even though the tax liabilities themselves are dischargeable in bankruptcy, the resulting tax liens are valid and enforceable against the debtor’s property in rem.”

The bankruptcy court held that it will not determine the tax liability of a chapter 7 debtor while other administrative and legal remedies—not requiring the payment of the tax—remain open.12 The taxpayer filed a chapter 7 petition and commenced an adversary proceeding against the United States asking the bankruptcy court to determine:

• Amount of his federal tax liability
• That the liability was dischargeable
• That the tax lien on his property was invalid

The court ruled that the fact that the taxpayer’s estate had no assets was irrelevant because the bankruptcy court regularly adjudicates lien claims in no-asset cases. The court held that as long as other administrative and legal remedies remained open to challenge the claim, the taxpayer was required to exhaust those remedies, as they were designed specifically to deal with the issues the taxpayer raised. The court noted that if the taxpayer could not get relief elsewhere without paying the tax, the bankruptcy court would hear his case.

The bankruptcy court has the authority to determine tax liability to be assessed against a responsible person for trust fund–type taxes.13 However, the bankruptcy court in the no-asset case abstained because determination of the taxpayer’s liability would have no effect on the administration of the bankruptcy case. The court explained that no bankruptcy issues were involved, as the taxpayer conceded that the tax debt would be nondischargeable if she were found to be liable. The court noted that a ruling would have no effect on the administration of the no-asset case and that the taxpayer could challenge her liability for the taxes administratively and in district court.

The bankruptcy court held that the debtor in a chapter 7 case lacks standing to object to creditor claims or to compel the trustee to object to a proof of claim.14

The bankruptcy court may determine the existence and amount of an alleged settlement with the IRS.15

The Eleventh Circuit held that the bankruptcy court lacked jurisdiction to determine the withholding tax liability of entities other than the debtor.16 In Brandt-Airflex, the issue dealt with whether the bankruptcy court could determine the liability of Long Island Trust for trust fund taxes Brandt did not pay.

In In re Ralph C. McAuley,17 the district court reversed the bankruptcy court, which had held that it had the jurisdiction to determine the tax liability of a husband and wife even though only the husband had filed the petition. The bankruptcy court found that the wife is an indispensable party. However, the bankruptcy court dismissed the part of the wife’s suit that sought to hold the alleged tax liability of the wife dischargeable and would not enjoin the IRS from assessing and collecting the tax. The bankruptcy court noted that the couple could amend the petition to include the wife.

The bankruptcy court relied on the bankruptcy court’s decision in the Brandt-Airflex case, which was subsequently reversed by the district court and upheld by the Second Circuit. The district court, in reversing the bankruptcy court, noted that all courts that have considered this issue recently have concluded that section 505(a) of the Bankruptcy Code does not extend the bankruptcy court’s jurisdiction to parties other than the debtor.

In Kroh v. Commissioner,18 the Tax Court held that the IRS is not barred from proceeding against the spouse for a tax liability on a previously filed joint tax return where the bankrupt spouse settled the tax liability.

The Tax Court rejected the taxpayer’s argument that the IRS’s settlement with her husband, and the subsequent assessment and collection of that amount, barred the IRS as a matter of law from litigating her tax liabilities. Citing I.R.C. section 6013(d)(3), the court noted that the tax liability of a husband and wife who file a joint return is joint and several and that common-law rules apply. The court concluded that Kroh’s position was analogous to that of the taxpayer in Dolan v. Commissioner,19 where the court held that a prior assessment against an individual does not have the effect of reducing a deficiency determined against the individual’s spouse merely because the two filed joint returns.

Kroh’s contention that the IRS was barred from litigating her tax liabilities by the doctrines of res judicata or collateral estoppel was rejected by the court. The court concluded that tax claims against Kroh and her husband were two separate causes of action and Kroh was not a party or privy of her husband in the bankruptcy court. In addition to Dolan, the court cited Tavery v. United States.20

Tax claims that are determined by a bankruptcy court in a dismissed case may not be relitigated in the Tax Court.21 In Samuel Leroy Bostian v. Commissioner,22 it was also held that the bankruptcy court determination of taxes is valid even if the case is dismissed.

In In the matter of East Coast Brokers & Packers (ECBP),23 the bankruptcy court held that the state statute of limitations does not bar the debtor’s objection to state tax claims. The bankruptcy court held that the bankruptcy court has the authority and jurisdiction under section 505 of the Bankruptcy Code to consider ECBP’s objection and that section 505(a)(2) does not interfere with the bankruptcy court’s authority to consider the matter, because the liability was not previously contested or adjudicated by another tribunal.

Several other courts have followed East Coast Brokers & Packers, and the other cases that allowed the hearing on the tax issues involved a determination of an unpaid tax liability, rather than a request for a refund. Some courts have been reluctant to extend the time period for a refund under section 505(a)(2)(B).24

Section 505(a)(2) provides that the court may not determine an ad valorem tax if the applicable period for contesting or redetermining the amount under any law, other than bankruptcy law, has expired. Some bankruptcy courts have redetermined the tax because the bankruptcy court may determine all claims. By not allowing the bankruptcy court to determine the ad valorem tax claim, the change allows a governmental unit to collect a tax that is greater than the amount allowed. If the tax is properly determined, the state will receive its priority payment. For example, in one case where a chapter 11 trustee was appointed, the debtor allegedly borrowed millions of dollars of debt under false pretenses. The debtor did not file business tax forms, and the taxing unit determined the tax based on values that were significantly greater than the actual values of the assets. Under this provision, because the time for redetermining the tax expired, the business tax would remain, even though all parties knew the tax was incorrectly calculated. Taxes already have a priority over all other general unsecured claim holders, and this change will allow the taxing authority to collect or retain taxes for amounts that are greater than the amount that should be allowed.

Section 505(b) provides for the clerk of each district to maintain a listing under which a federal, state, or local governmental unit responsible for collecting taxes within the district may designate an address for service of requests and describe further information concerning additional requirements for filing such requests. If a governmental unit fails to provide an address to the clerk, requests should be served at the address for filing returns or protests with the appropriate taxing authority of that governmental unit. Tax returns and other notices should be filed with the address provided by the clerk in the appropriated district.

Revenue Procedure (Rev. Proc.) 2002-2625 is to be followed in determining the priority of taxes. In In re Salvatore Barranco,26 the debtor attempted to reopen a chapter 7 case with a section 505 motion asking the bankruptcy court to allocate all of the payments to taxes for all years first and then to penalties and interest. The IRS made the allocation in accordance with Rev. Proc. 2002-26 providing that in a situation where the taxpayer does not provide specific written instructions on the application of the payments, the IRS will apply payments to tax, penalties, and interest for each successive year, beginning with the earliest year’s tax liability. The bankruptcy court cited Sotir v. United States,27 which held that if the taxpayer does not provide instruction as to how to allocate the payments, the IRS may allocate the voluntary payments in any manner it desires. The bankruptcy court dismissed the motion for determination of the tax liability because it was contrary to the procedures set forth in Rev. Proc. 2002-26.

Once the plan has been confirmed, it is generally difficult to convince the court to consider other issues, such as the determination of taxes, including the determination of whether the taxpayer is subject to a postconfirmation tax refund. When a debtor confirms a chapter 11 plan, it should begin cutting the ties with the bankruptcy process at the same time.28

A debtor was allowed to pursue his tax claim in a reopened chapter 7 case.29 In the reopened chapter 7 filing, the debtor filed an amended tax return for 1987, asserting that business debt forgiven, reported by the trustee as income, was not taxable income under I.R.C. section 108. The Third Circuit, reversing a district court, held that a chapter 7 debtor had standing to pursue his tax claim. The Third Circuit rejected the IRS’s assertion that only the bankruptcy trustee could sue for refund because the debtor had failed to schedule the tax claim explicitly as an asset of the estate and that any refund granted to the debtor was therefore erroneous and could be recovered. The Third Circuit noted that the debtor could not have scheduled the tax refund separately at the time of his bankruptcy filing, because the refund was not yet a known asset. According to the Third Circuit, the IRS could not prevail, because it took no position in the district court on the underlying validity of the refund. The court suggested that the debtor “must consider himself the fortunate beneficiary of the litigation strategy” followed by the IRS.

In In re Brulotte,30 the bankruptcy court sustained the objection made by Richard and Sandra Brulotte to the IRS’s proof of claim for $34,000. The Brulottes objected to the claim, alleging that their tax debt had been satisfied when they surrendered the equipment from their failed tavern to the IRS, which sold the property. On appeal, the Ninth Circuit BAP reversed, ruling that the testimony was inadmissible and that there was insufficient other evidence to establish that the Brulottes had satisfied their tax liability.

The Brulottes appealed to the Ninth Circuit, and the decision was again reversed. The Ninth Circuit found sufficient evidence to support the factual finding of the bankruptcy court that the Brulottes had paid off their tax debt by turning over the restaurant equipment to the IRS. The Ninth Circuit noted that the bankruptcy court was free to credit the Brulottes’ testimony, especially in light of the absence of contradicting evidence.

As a general rule, the bankruptcy court does not determine the amount or the dischargeability of a tax claim in “no-asset” cases.31 However, the failure of the bankruptcy court to rule on tax issues of no-asset cases involving individuals can place a burden on the individuals. To pursue the tax issue in the district courts or claims court, a taxpayer must pay the tax and then sue for a refund. Often the deadline for taking action in the Tax Court passes and no funds are available to make the payment; thus, the only avenue for determination of the tax is in the bankruptcy court. Because of this situation, bankruptcy courts have decided to rule on the issues in deserving cases, often over the objection of the IRS or other taxing authorities. For example, in In re Anderson,32 the court noted that “the issue simply is whether or not this Debtor owes the tax liability that has been assessed—not whether it should be litigated in another court.”33

The BAP34 held that the debtor could not use section 502(c) of the Bankruptcy Code to estimate a postpetition administrative tax claim, because that section applies only to prepetition claims. The court found that proper statutory construction requires that administrative tax liability be determined under section 505. The BAP therefore reversed the bankruptcy court’s cap on the amount of tax liability. The BAP also determined that the appeal was not moot simply because the IRS did not obtain a stay pending appeal and the receiver had distributed the assets of the bankruptcy estate.

A U.S. district court35 has denied the government’s request to prosecute its lien priority case against a healthcare finance company in district court rather than in bankruptcy court on the basis that no substantial and material consideration of nonbankruptcy law was necessary. Additionally the district court noted that bankruptcy court was familiar with the case.

(b) Proof of Claim

Section 501 of the Bankruptcy Code permits a creditor or indentured trustee to file a proof of claim and an equity holder to file a proof of interest. If the taxing authority does not file a proof of claim, the debtor, trustee, or any other party who may be liable for the taxes may file a proof of claim for the taxing authority. However, if the creditor subsequently files a proof of claim, it supersedes the one filed by another party on behalf of such creditor.

(i) Filing Requirements

Bankruptcy Rule 3002 provides that an unsecured creditor or an equity holder must file a proof of claim or interest for the claim or interest to be allowed in a chapter 7 or chapter 13 case. For the claim to be allowed under section 502 or 506(d) of the Bankruptcy Code, a secured creditor needs to file a proof of claim, unless a party in interest requests a determination and allowance or disallowance. In a chapter 7 or chapter 13 case, a proof of claim is to be filed within 90 days after the date set for the meeting of creditors under section 341(a) of the Bankruptcy Code. For cause, the court may extend this period and will then fix the time period for the filing of a proof of a claim arising from the rejection of an executory contract. The filing of the proof of claim is not mandatory in a chapter 9 or chapter 11 case, provided the claim is listed in the schedule of liabilities. However, if the claim is not scheduled or the creditor disputes the claim, a proof of claim should be filed. It is generally advisable to file a proof of claim even though the claim is scheduled (see Bankruptcy Rule 3003). A proof of claim filed will supersede any scheduling of that claim in accordance with section 521(1) of the Bankruptcy Code.

According to Bankruptcy Rule 1019(4), claims that are filed in a superseded case are deemed filed in a chapter 7 case. Thus, in a case that is converted from chapter 11 to chapter 7, it will not be necessary for the creditor to file a proof of claim in the chapter 7 case if one was filed in the chapter 11 case. However, if the debt was listed on the schedules in a chapter 11 case and a proof of claim was not filed, it will be necessary to file a proof of claim if the case is converted to chapter 7.

A district court would not allow a challenge to a proof of claim filed by the IRS solely for delinquent child support but rather held that the couple must challenge that claim in state (Nebraska) court.36

(ii) Timely Filed Proof of Claim

The general rule is that a creditor in chapter 7 or chapter 13 must file a proof of claim within 90 days after the first date set for the meeting of creditors under section 341 of the Bankruptcy Code. However, the time period of the filing of a proof of claim by a governmental unit is different. The Bankruptcy Reform Act of 1994 amended section 502(b) of the Bankruptcy Code to provide that a claim of a governmental unit, including tax claims, will be considered timely filed if it is filed before 180 days after the order for relief or such later time as the Federal Rules of Bankruptcy may provide. The Act also provides that a proof of claim not timely filed, except for the government claim mentioned above and tardy claims permitted under section 726 of the Bankruptcy Code, will not be allowed. These changes are effective for petitions filed after October 22, 1994.

The 2005 Act provides an exception to the special 180-day time period granted to the taxing authorities by providing that under chapter 13, a claim of a governmental unit for a tax with respect to a return filed under section 1308 shall be timely if the claim is filed on or before the date that is 60 days after the date on which such return was filed as required.

The 2005 Act amends section 726(a)(1) of the Bankruptcy Code to allow a tardy claim under section 507 to be entitled to a distribution provided such claim is filed the earlier of the date that is 10 days following the mailing to creditors of the summary of the trustee’s final report or before the trustee commences final distribution.

As a general rule, late-filed proof of claims may be allowed either as amendments under Fed. R. Bankr. P. 7015 or pursuant to the bankruptcy court’s exercise of equitable discretion under section 105 of the Bankruptcy Code. In In re Pettibone Corp.,37 the bankruptcy court considered the following items set forth in the Seventh Circuit38 in deciding if the claim should be allowed:

• Whether the debtors and creditors rely on the government’s earlier proofs of claim or whether they instead have reason to know that subsequent proofs of claim would follow on completion of audit
• Whether the other creditors would receive a windfall to which they are not entitled, on the merits, by the court not allowing this amendment to the IRS’s proof of claim
• Whether the IRS intentionally or negligently delays in filing the proof of claim stating the amount of taxes due
• The justification, if any, for the failure of the IRS to file for a time extension for the submission of further proofs of claim pending an audit
• Whether there are any other considerations that should be taken into account in assuring a just and equitable result

The court concluded that because the debtor had been aware of the possibility that the IRS might increase the amount of its timely filed claim because of an ongoing examination, the court increased the time period for the IRS to file its claims even though the bar date had passed.

A district court has affirmed a bankruptcy court decision disallowing the government’s proof of claim on the basis that it was not timely filed, ruling that the lower court properly declined to equitably toll the 180-day period in Bankruptcy Rule 3002(c)(1).39 Because the government had not alleged that any outside action prevented it from filing its claim or that the taxpayer or the bankruptcy court negligently misinformed it of the filing deadline, the district court noted that the government should have requested additional time to file its claim and that it cannot cry foul for its own inexcusable neglect.

In a chapter 12 case, proper notice was sent listing the creditor based on an Illinois state court judgment and notifying the creditor of the deadline for filing the proof of claim. The creditor allowed the date to pass without filing a proof of claim. Eleven months later the bankruptcy court allowed the creditor to file its late claim. The district court reversed and the Seventh Circuit affirmed the district court’s decision on the basis that the late claim was statutorily barred.40

Employment taxes were owed to the Employment Division of the Department of Human Resources of Oregon, which was notified by the bankruptcy court that a bankruptcy petition had been filed but that the debtor had not registered with the agency as required by law. After the deadline, the agency filed a proof of claim. The court indicated the fact that the creditor was not aware of the nature of the claim or that they had one was not determinative. The tax claim was subordinated because the claim was untimely filed when the creditor had notice of the bankruptcy even though it was unaware of the nature of its claim against the debtor.41

In In the matter of Eddie Burrell,42 the bankruptcy court held that a deficiency notice did not constitute a proof of claim and that a proof of claim need not be filed for the secured part of the debt. The court cited In re Simmons43 for the general rule that the filing of a proof of claim is not required by a creditor asserting a secured claim. In In re Leightner,44 the bankruptcy court held in a chapter 13 case that an unsecured claim should be disallowed when filed late. In In re Hausladen,45 the bankruptcy court held that late-filed, unsecured claims should not be disallowed, interpreting the bankruptcy rules as simply determining whether claims are timely or late, rather than whether they should be allowed or disallowed.

(iii) Amended Proof of Claim

The IRS has been allowed to file an amendment to a proof of claim even if the bar date has passed, provided the original proof of claim was timely filed in certain situations. In In re Homer R. Birchfield,46 the court allowed the IRS to file an amended proof of claim to reflect an agreement reached with the trustee.

Generally, the IRS has not been allowed to amend a proof of claim to include years that were not contained in the original proof of claim. For example, in United States v. Howard E. Owens,47 the district court upheld the bankruptcy court’s decision that would not allow a proof of claim file in a chapter 13 case for 1983 to include the amount due for 1981 even though the tax return for 1981 was filed after the bar date. The bankruptcy court cited three factors it considered: (1) the absolute nature of the policy barring late filings, (2) the failure of the IRS to ask for an extension, and (3) the equitable factors enunciated in In re Miss Glamour Coat Co., Inc.48 The court emphasized, however, that the first two factors alone were enough to justify the preclusion of the 1981 claim. However, the bankruptcy court reached a different decision in In re Roderick.49 The bankruptcy court allowed an amended claim filed after the bar date to be filed and held that the IRS was entitled to distribution as a timely filed claim, even though the proof of claim was for only one tax year and the amended proof of claims was for three years. The court held that the amended claim related back to the IRS’s timely filed claim. The bankruptcy court cited rule 15(c)(2) of the Federal Rules of Civil Procedure and noted that the original claim and the amended claim all related to income taxes. The court also noted that the delay by the IRS was not undue because the bankruptcy trustee knew that the IRS had asserted a claim for taxes for the years for which a return had not been filed, and the trustee suffered no prejudice.

Additionally, the IRS may not be allowed to amend the proof of claim if it is materially greater than the amount reflected in the original proof of claim. For example, in In the matter of Emil Stavriotis,50 the Seventh Circuit would not allow the IRS to amend the proof of claim for 1981 and 1984 income taxes, which had been filed for $11,133. After completing an audit of the 1981 taxes, the IRS attempted to amend the return to over $2.4 million. The Seventh Circuit, in a divided decision, noted that the disposition of the motion to amend a proof of claim rests with the bankruptcy court and found equitable reasons to deny the amendment, including prejudice to other creditors that had no notice of the IRS’s audit and the justification for the government’s delay. However, the bankruptcy court held that the IRS’s amended proofs of claim, filed after the bar date, were not time-barred where the increase in the amount of the claims was not so dramatic as to surprise the debtor where the debtor had knowledge of the potential claim.51 However, the bankruptcy court held that the IRS may not amend, after the bar date, a proof of claim that was an unjustified estimate of the claim.52

(iv) Failure to Respond to Objection

The IRS may find that the claim has been disallowed after it fails to respond to an objection to the claim, as the bankruptcy court ruled in In re Hunt Brothers Construction, Inc.53 The taxpayer filed a chapter 11 petition, and the IRS filed a timely proof of claim and later amended it. After the amendment to the proof of claim was filed, the debtor converted the case to chapter 7 in December 1982. In July 1984, the IRS amended its claim again. In August 1987, the trustee of the chapter 7 case objected to the government’s claim and the IRS did not respond to the objection. Because the IRS did not respond to the objection, the trustee sought an order disallowing the claim on October 1, 1987. The court also ruled against the government’s objection because the trustee used a preprinted objection form rather than a motion and a disallowance order is valid even if signed by the clerk.

Failure to attend a hearing may also result in an objection being sustained and the claim not being allowed.54

(v) Proper Notice

Bankruptcy Rules 9014 and 7004(b) provide that the U.S. Attorney for the district in which the action is brought and the U.S. Attorney General must be notified. On appeal, the district court ruled that, because the creditors’ committee failed to properly notify the U.S. Attorneys, the tax claims must be considered on their merits. The bankruptcy court’s disallowance of the claims was reversed.

In a similar case,55 the trustee notified the IRS (and the agent who had filed an amended proof of claim) of the trustee’s objection to the amendment. The bankruptcy court held a hearing, and after the IRS failed to argue on the merits of the trustee’s objections, the court disallowed the amended claim. On appeal, the district court reversed the bankruptcy court’s order striking the government’s amended claim, on the ground that there was no justifiable excuse for improper service on the U.S. Attorney General.

In In re Allan Ray Johnson,56 the taxpayer failed to provide notice to the IRS and the Colorado Department of Revenue to allow both agencies timely filing of their respective claims and objection to, or participation in, the bankruptcy proceedings and confirmation of the plan. The court drew its conclusion from the deficiencies described in the case, such as the debtor’s failure to mail the amended plan, motion to confirm the (amended) plan, and notice of hearing to the Colorado Department of Revenue or to the IRS at a specific and appropriate IRS office address (preferably to the attention of a designated department, or an authorized person’s attention) or in accordance with local court requirements. Section 505(b) is modified by the 2005 Act to provide for the clerk of each district to maintain a listing under which a federal, state, or local governmental unit responsible for collecting taxes within the district may designate an address for service of requests and describe further information concerning additional requirements for filing such requests. If a governmental unit fails to provide an address to the clerk, requests should be served at the address for filing returns or protests with the appropriate taxing authority of that governmental unit.

Bankruptcy Rule 2002(J) provides the following regarding notices in bankruptcy cases to the IRS:

Copies of notices required to be mailed to all creditors under this rule shall be mailed (1) in a chapter 11 reorganization case, to the Securities and Exchange Commission at any place the Commission designates, if the Commission has filed either a notice of appearance in the case or a written request to receive notices; (2) in a commodity broker case, to the Commodity Futures Trading Commission at Washington, D.C.; (3) in a chapter 11 case, to the Internal Revenue Service at its address set out in the register maintained under Rule 5003(e) for the district in which the case is pending; (4) if the papers in the case disclose a debt to the United States other than for taxes, to the United States attorney for the district in which the case is pending and to the department, agency, or instrumentality of the United States through which the debtor became indebted; or (5) if the filed papers disclose a stock interest of the United States, to the Secretary of the Treasury at Washington, D.C.

Bankruptcy Rule 5003(e) provides:

(e) Register of mailing addresses of federal and state governmental units and certain taxing authorities.

The United States or the state or territory in which the court is located may file a statement designating its mailing address. The United States, state, territory, or local governmental unit responsible for collecting taxes within the district in which the case is pending may also file a statement designating an address for service of requests under § 505(b) of the Code, and the designation shall describe where further information concerning additional requirements for filing such requests may be found. The clerk shall keep, in the form and manner as the Director of the Administrative Office of the United States Courts may prescribe, a register that includes the mailing addresses designated under the first sentence of this subdivision, and a separate register of the addresses designated for the service of requests under § 505(b) of the Code. The clerk is not required to include in any single register more than one mailing address for each department, agency, or instrumentality of the United States or the state or territory. If more than one address for a department, agency, or instrumentality is included in the register, the clerk shall also include information that would enable a user of the register to determine the circumstances when each address is applicable, and mailing notice to only one applicable address is sufficient to provide effective notice. The clerk shall update the register annually, effective January 2 of each year. The mailing address in the register is conclusively presumed to be a proper address for the governmental unit, but the failure to use that mailing address does not invalidate any notice that is otherwise effective under applicable law.

Effective January 2, 2011, the IRS established two national addresses for the receipt of most insolvency mail, one for trustee remittances and another for administrative mail. Chapter 7 and chapter 13 payments are to be sent to Insolvency Remittance, Post Office Box 7317, Philadelphia, PA 19101-7317. Administrative mail, such as court documents, forms, general correspondence, and most other bankruptcy-related communications, should be sent to Centralized Insolvency Operation, Post Office Box 7346, Philadelphia, PA 19101-7346. Overnight Mail should be sent to IRS, 2970 Market Street, Philadelphia, PA 19104.

These addresses were published in Internal Revenue Manual 5.9,11 Insolvency Mail Processing. As noted in Bankruptcy Rule 5003(e), the IRS is to update the register annually. Practitioners should check with the manual at the beginning of each year to see if changes have been made in the address for notices.

The Ninth Circuit BAP held, in In re Williams,57 that an order reducing a claim of the IRS resulting from an objection by the taxpayer may be amended or altered if the notice to the IRS was improper. The BAP held that the taxpayers provided the wrong notice of objection and that they failed to properly serve the notice and motion as required by the federal government. The BAP noted that the proper notice was 30 days pursuant to Bankruptcy Rule 3007, not the 10-day notice given by the Williamses under the local court rules.

The Fifth Circuit held that the confirmation of a plan does not substitute for a section 505 motion any more than it substitutes for an objection to a proof of claim.58 The circuit court noted that the debtor failed to invoke the bankruptcy court’s power to determine a tax debt, and the listing of the tax in his schedules, disclosure statement, and plan did not invoke that power.

The lesson from these cases is that proper notices must be served before the courts may adjust claims of taxing units.

The Tenth Circuit held, in Donald W. Fairchild v. Commissioner,59 that the taxpayer could not unilaterally withdraw his objection to a proof of claim and thereby dismiss the contested matter. The taxpayer attempted to withdraw his objection the day before the bankruptcy court was to hold a hearing on the innocent spouse issue.

In In re Bisch,60 the Ninth Circuit BAP held that there is no requirement in the I.R.C. or the Bankruptcy Code that the IRS file a proof of claim for a secured tax lien. The court also concluded that the IRS did not waive its secured status by failing to file a proof of claim. The BAP pointed out that failure to file a proof of claim may mean that a creditor does not receive a distribution from the debtor’s estate; however, the property is still liable for satisfaction of the debt. Citing In re Junes,61 the court explained that, where a debtor fails to provide for an IRS lien in a chapter 13 case, the tax lien survives the bankruptcy process unaffected.

As noted, section 505(b) is modified by the 2005 Act to provide for the clerk of each district to maintain a listing under which a federal, state, or local governmental unit responsible for collecting taxes within the district may designate an address for service of requests and describe further information concerning additional requirements for filing such requests. If a governmental unit fails to provide an address to the clerk, requests should be served at the address for filing returns or protests with the appropriate taxing authority of that governmental unit.

Taxing authorities need to be notified of bankruptcy filings. This provision should be helpful especially for state and local taxes, where there is considerable uncertainty as to where to file the notice.

(vi) Priority Taxes

In In re Pacific Atlantic Trading Co.,62 the Ninth Circuit held that the IRS’s priority claim, for which a proof of claim was filed over one year late, was allowed under the Bankruptcy Code and thus the IRS retained its right to first distribution, regardless of when it filed the proof of claim. The circuit court noted that 11 U.S.C. section 726(a)(l) does not distinguish between timely and late priority claims and, therefore, the IRS’s failure to comply with the time limits established in Bankruptcy Rule 3002(c) did not affect the tax claim’s entitlement to first-priority distribution. The Ninth Circuit noted that Rule 3002(c) simply divides claims into two categories, (1) timely and (2) late, but does not disallow a late claim. In April 1994, the Second Circuit, in In re Vecchio,63 also ruled that the bar date for claims provided in Bankruptcy Rule 3002 is void as to priority claims in a chapter 7 case, because 11 U.S.C. section 726(a)(1) does not distinguish between timely and untimely filed priority claims.

In In re Chavis,64 the IRS received notice when John and Betty Chavis filed their chapter 13 petition in May 1991. The IRS filed a proof of claim for 1989 and 1990, and the bankruptcy court confirmed the couple’s chapter 13 plan three days later, setting September 24, 1991, as the last day for creditors to file timely proofs of claim. Prior to this date, the IRS filed an “amendment” to its original proof of claim for a priority unsecured tax claim that included the previously filed amounts for 1989 and 1990, as well as listing liabilities for 1988 and 1991, for which the IRS sought priority unsecured status. The bankruptcy court disallowed the IRS’s 1988 tax liability claim, concluding that Bankruptcy Rule 3002(c) establishes a bar date for filing certain proofs of claim in chapter 13 cases. The bankruptcy court concluded that the IRS’s amended claim was filed after the bar date and was thus untimely filed because it was not an amendment to the proof of claim filed earlier but rather a new claim. The district court affirmed on appeal.

The Sixth Circuit affirmed, holding that the lower courts properly disallowed the IRS’s late filed claim. The Sixth Circuit reached this decision in conflict with the decisions of the Second Circuit in In re Vecchio and the Ninth Circuit in In re Pacific Atlantic Trading Co. Both of these courts allowed tardy claims in chapter 7 cases. The Sixth Circuit noted that these cases were decided on the rationale that conflicts between the Bankruptcy Code and the Bankruptcy Rules must be decided in favor of the Code. The Bankruptcy Code does not disallow tardy claims. The Sixth Circuit concluded that the Bankruptcy Code and Rules could be harmonized, noting that compliance with the timeliness requirement of Bankruptcy Rule 3002 is a prerequisite to the allowance of a proper claim under Bankruptcy Code section 502.

In disallowing the late filing of the proof of claim, the Sixth Circuit pointed to fundamental differences between chapter 7 and chapter 13 bankruptcies that limit the decisions in Vecchio and Pacific Atlantic Trading to chapter 7–type cases. The Sixth Circuit noted that chapter 13 serves as a flexible vehicle for the repayment of allowed claims and that all unsecured creditors seeking payment under a chapter 13 plan must file their claims on a timely basis so that the efficacy of the plan may be determined in light of the debtor’s assets, debts, and foreseeable earnings.

The Eleventh Circuit held that an untimely IRS claim for taxes under section 507(a)(8) of the Bankruptcy Code in a chapter 7 case should be paid as a priority claim under section 726(a)(1) of the Bankruptcy Code.65 The petition was filed prior to the effective date of the 1994 amendments to the Bankruptcy Code. The court followed the reasoning of In re Pacific Atlantic Trading Co. and In re Vecchio, and distinguished cases decided under chapter 13.

The Fifth Circuit held that a late-filed IRS proof of claim was allowed in a couple’s chapter 13 case but was not entitled to first-tier status with the timely filed proof of claim.66 The district court had previously held that the claim was disallowed. The Fifth Circuit affirmed the district court’s refusal to allow the IRS’s late, amended proof of claim to relate back to the filing of the initial proof of claim.

The Fifth Circuit noted that Bankruptcy Rule 3002(a), establishing the bar date, must be viewed as providing a dividing line between timely and tardy claims, rather than a flat ban on the allowance of late-filed claims. The Fifth Circuit disagreed with the Second Circuit in In re Vecchio, where the Second Circuit viewed “the categorization of late-filed priority claims among other tardily filed allowed unsecured claims as leading to an absurd result.”

A divided Ninth Circuit held that in a chapter 13 proceeding, a proof of claim filed by the IRS after the bar date set under Bankruptcy Rule 3002(c) was properly disallowed.67 The petition was filed prior to the effective date of the Bankruptcy Reform Act of 1994.

The taxpayers filed a joint chapter 13 petition in July 1991, scheduling as priority unsecured debts approximately $25,000 in income and payroll taxes. Their plan, confirmed in October 1991, provided for full payment of these priority claims. The bankruptcy court set December 31, 1991, as a bar date for filing timely proofs of claim. The IRS timely filed a proof of claim in December 1991 for $11,746 for personal income tax. An amended return was filed in April 1992 listing income taxes of $31,000, and in November a second amended claim was filed that for the first time asserted a claim for unpaid payroll taxes. The bankruptcy court allowed the income tax portion of the November 1992 amended claim but disallowed the amendment relating to payroll taxes. The court disallowed the payroll tax claim because it was of a character different from those set forth in the original proof of claim and thus was untimely filed pursuant to Rule 3002(c). The Ninth Circuit Bankruptcy Appellate Panel affirmed.

The Ninth Circuit ruled that the timeliness issue was controlled not by amended section 502(b)(9) of the Bankruptcy Code, as added by the Bankruptcy Reform Act of 1994, but by the rules and authorities governing cases filed before October 23, 1994, specifically, Bankruptcy Rule 3002(c).

The court noted that timeliness is of the essence in claims filed in chapter 13 reorganization and that this case was governed by the strict time requirements on filing claims set forth in In re Tomlan,68 where the Ninth Circuit had held that the law is clear—the bankruptcy court has no discretion to allow a late-filed proof of claim in a chapter 13 case. In reference to In re Pacific Atlantic Trading Co., which might suggest a different rule, the Ninth Circuit concluded that Pacific Atlantic applied only in chapter 7 proceedings.

In describing the difference in the impact between a chapter 7 and 11 case, the Ninth Circuit noted that it is not a matter of allowance or disallowance of claims, because a claim disallowed as a result of late filing can be specially allowed in chapter 7 proceedings prior to distribution of the estate property to the debtor. However, in a chapter 13 case, the court concluded that a chapter 13 debtor retains the assets of the estate in exchange for an agreement to make periodic payments to the creditors that must equal or exceed the amount that the creditors would receive under chapter 7. The debtor thus has an interest only in whatever is ultimately left over, after all claims have been paid. The Ninth Circuit then noted that if late-filed claims are not barred in chapter 13 actions, it would not be possible to determine with finality whether a chapter 13 plan satisfies this standard.

There still remains considerable uncertainty as to the tax impact resulting from a tardy-filed proof of claim, including those in a chapter 11 case. For petitions filed after October 22, 1994, the Bankruptcy Reform Act of 1994 may have helped clarify the issue, dealing with the conflict between the rules and the Bankruptcy Code. Section 502(b) of the Bankruptcy Code was amended to provide that a claim of a governmental unit, including tax claims, will be considered timely if filed before 180 days after the order for relief or such later time as the Federal Rules of Bankruptcy may provide. Section 502 was also amended to provide that a proof of claim not timely filed will not be allowed, except for the governmental claim mentioned above and tardy claims permitted under section 726 of the Bankruptcy Code. The change did not deal with the issue of how to distinguish a tardy proof of claim from an amended proof of claim. The Bankruptcy Reform Act did not address the issue as to the extent to which section 726 of the Bankruptcy Code applies to chapter 11 cases.

However, in In re Larry Merritt Co.,69 the bankruptcy court held that the claim for unpaid prepetition payroll taxes was not entitled to priority because the IRS had received adequate notice and failed to file a timely proof of claim. The IRS filed its proof of claim five months after the bar date. The district court affirmed, citing In re Century Boat Co.,70 where the Sixth Circuit upheld the statutory policy of orderly distribution and settlement of estates as provided for in section 726(a) of the Bankruptcy Code. The district court held that a priority creditor’s untimely claim should be subordinated under 11 U.S.C. section 726(a)(3) if the creditor had notice of the claims bar date and failed to comply with the timing requirements.71

(vii) Burden of Proof

The general bankruptcy rule is that the burden of proof for a claim against a debtor lies with the creditor. Although it may be the responsibility of the debtor to object to a claim and place the issue before the bankruptcy court, the burden of persuasion is on the creditor seeking to enforce the claim.72 The general tax rule is that the burden of proof is upon the taxpayer. Tax Court Rule 142(a) provides that “[t]he burden of proof shall be upon the petitioner, except as otherwise provided by statute or determined by the Court; and except that, in respect of any new matter, increases in deficiency, and affirmative defenses, pleaded in the answer, it shall be upon respondent.” An example of a statutory exception is for fraud, where I.R.C. section 7454 transfers the burden of proof to the IRS by providing that the IRS must prove fraud by clear and convincing evidence.

The Supreme Court73 affirmed a Seventh Circuit case holding that the burden of proof on the tax claim in bankruptcy remained on the petitioner, the trustee of the debtor’s estate. The Supreme Court held that the bankruptcy did not alter the burden imposed by the substantive law and that the bankruptcy estate’s obligation to respondent was established by the state’s tax code. The Court noted that the Bankruptcy Code had no provision for altering the burden on a tax claim, and its silence said no change was intended.

Prior to the Supreme Court decision, there was a conflict among circuits as to who has the burden of proof. The Ninth Circuit held that taxing authorities, like other bankruptcy claimants, bear the ultimate burden of proving their claims. The Ninth Circuit noted that under California law, outside the bankruptcy context, a taxpayer bears the ultimate burden of demonstrating his entitlement to a deduction. Adopting the reasoning of the Fifth and Tenth Circuits,74 the Ninth Circuit held that because tax claims already receive a statutory priority over other creditors’ claims, relieving the Franchise Tax Board of its burden of proof would be granting to the Franchise Tax Board a double benefit not authorized by statute. Quoting In re Wilhelm,75 the Ninth Circuit noted that policy goals of the bankruptcy system are put at risk when one class of creditors is given the benefit of a favorable presumption that has its origins outside bankruptcy law.

The Third, Fourth, and Seventh Circuits76 had applied the general tax rule that places the burden of proof on the taxpayer rather than the tax authority, including the IRS.

Generally, the Eighth Circuit assignment of the burden of proof has varied. However, as noted later, the Eighth Circuit has tended to agree with the courts holding that the general tax rule applies.77

(c) Tax Refund

Section 505(a)(2) of the Bankruptcy Code provides that, before the bankruptcy court can determine the right of the estate to a tax refund, the trustee must file a claim for the refund and either receive a determination from the IRS or allow 120 days to pass after the claim is filed. If the 120-day period expires and the IRS has not made a determination, the bankruptcy court can then determine the right of the estate to a tax refund. Under prior law, the bankruptcy court did not have the right to hear suits for tax refunds. It was necessary for the trustee or debtor to file suit in a district court or the court of claims.78

The Eighth Circuit, reversing the decision of the BAP, held that under section 505(a), the bankruptcy court had jurisdiction to determine the tax liability beyond the years stated in the proof of claim when the liability involved deductions resulting from repayment of embezzled funds.79

The bankruptcy court held that a bankruptcy trustee can recover a debtor’s tax refund under the authority of section 542 of the Bankruptcy Code, even though the trustee had not timely filed a refund claim under section 6511.80 The court ruled that it was not equitably tolling the I.R.C. limitations period in violation of United States v. Brockamp.81

The court acknowledged that a bankruptcy trustee must generally file a refund claim but said that that rule does not apply here due to the specific facts of this case. When the government, the debtor, and the trustee agree on the amount of an overpayment, the court concluded that the claim has been liquidated and the debtor’s interest in the liquidated amount becomes property of the bankruptcy estate. The trustee has no need to commence the refund process under the I.R.C. because the Bankruptcy Code compels the turnover under 11 U.S.C. section 542. Under these facts, the I.R.C. claims process is superseded by bankruptcy law, and thus section 6511 does not apply.

The bankruptcy court82 held that the debtor may not dismiss a case to receive a tax refund. The taxpayer filed a bankruptcy petition and subsequently moved to have it dismissed when he learned that he was entitled to receive a tax refund. The court noted that although individuals have an absolute right to file a bankruptcy petition, they have no absolute right to dismiss it. Generally, most courts allow an individual to move to dismiss his or her case only when cause exists. The court examined whether dismissal would cause the creditors prejudice and found that, although the taxpayer promised to use the tax refunds to pay his creditors, he had no plan to honor his commitment, noting that the taxpayer could spend the refunds and then refile his bankruptcy petition, thus avoiding his creditors. The bankruptcy court refused to dismiss the filing because the taxpayer failed to meet his burden of showing that his creditors would not be prejudiced by the dismissal of his petition.

(d) Determination of Unpaid Tax Liability

The Bankruptcy Code contains a very important provision that requires a governmental unit to determine the tax liability or be prohibited from making assessments of any amount other than that shown on the return. Section 505(b) of the Bankruptcy Code provides that a debtor, or trustee if appointed, may request a determination of any unpaid liability of an estate for any tax incurred during the administration of the case. The request is made by submitting a return for such a tax and a request for determination to the governmental unit charged with responsibility for collection or determination of the tax. Unless such return is fraudulent or contains a material misrepresentation, the trustee, the debtor, and any successor to the debtor are discharged from any liability other than the amount shown on the return. Before the bankruptcy court can determine the tax, a request must be made for the taxing unit to determine the tax.

Section 505(b) is modified by the 2005 Act to provide for the clerk of each district to maintain a listing under which a federal, state, or local governmental unit responsible for collecting taxes within the district may designate an address for service of requests and describe further information concerning additional requirements for filing such requests. If a governmental unit fails to provide an address to the clerk, requests should be served at the address for filing returns or protests with the appropriate taxing authority of that governmental unit. Tax returns and other notices should be filed with the address provided by the clerk in the appropriate district.

The taxpayer is not required to use all administrative remedies before the bankruptcy court can determine the amount of the tax. In In re Piper Aircraft Corp.,83 the bankruptcy court held that the bankruptcy court could determine the amount of the debtor’s tax, even though the debtor did not comply with state administrative procedures. Other bankruptcy courts have also given the bankruptcy court authority to determine the tax without pursuing all available remedies first.84 However, one bankruptcy court subsequently limited the Ledgemere decision to unpaid taxes owed by the debtor and would not extend it to refund claims that had not been previously adjudicated.85

If the return filed has been selected for examination, the taxing unit must notify the debtor of the examination within 60 days after the request for tax determination is made. The taxing unit has 180 days after the request is made to complete the examination. For cause, additional time may be granted by the bankruptcy court. An extension would be expected to be granted for a reasonable time period to allow the taxing unit to complete the audit.

If the taxing unit does not notify the taxpayer within 60 days of the request that an examination will be conducted or if the taxing authority does not complete the examination within the prescribed time, the taxing unit will be prohibited from taking any action to file a claim for any amount other than the amount specified on the return. In In re T. Horace Estes,86 the IRS determined that the trustee had miscalculated the tax due on returns for fiscal years 1984 through 1986 that were filed in October 1986 but did not timely notify the trustee. The court ruled that neither the trustee nor the debtors are personally liable for any taxes, penalties, or interest attributable to the errors made by the trustee, because he had complied with all of the requirements of section 505(b) of the Bankruptcy Code.

In In the matter of Harry Fondiller,87 the district court held in a chapter 7 case that if a claim is timely filed, even though it is not filed within the 60 days after the request was made for the determination of the tax, the claim will be allowed against the estate. The court made a clear distinction between a claim against an estate and a claim against the individual. The court ruled that the estate and the successor to the debtor are two separate entities and are not the same. The court reached this conclusion because section 505(c) of the Bankruptcy Code specifically uses the term “estate” as distinct from a successor to the debtor. Thus, although the IRS may not have a basis to assess the tax against the individual, it can collect the tax from the estate.

To correct the problem where courts have held that the IRS may assess additional taxes against the estate (but not against the trustee or debtor), section 715 of the 2005 Act amends section 505(b) of the Bankruptcy Code to clarify that the estate is also protected if the government does not make a determination of tax liabilities or request extension of time to audit, then the estate’s liability for unpaid taxes is discharged. In situations where there are no assets in the estate and records are in such a condition that it would involve substantial cost to determine the information to file a tax return, the trustee for the debtor may request that the IRS remove the debtor from the tax rolls. The request may take the form shown in Exhibit 10.1.

On May 30, 2006, the IRS issued Revenue Procedure (Rev. Proc.) 2006-24,88 setting forth steps for a bankruptcy trustee or debtor in possession to follow in obtaining prompt determination by the IRS of any unpaid tax liability of the estate incurred during the administration of the case. During the administration of a bankruptcy estate, the trustee is responsible for filing returns for the estate, and the estate must pay any taxes due. Under Bankruptcy Code section 505(b)(2), the trustee may request determination of the estate’s unpaid liability for taxes incurred during administration of the case by filing a return and request for prompt determination. The Bankruptcy Abuse Protection and Consumer Protection Act of 2005 provides that for cases commenced under the Bankruptcy Code on or after October 17, 2005, the estate, trustee, debtor, and any successor to the debtor will be discharged from any tax liability shown on a return submitted in accordance with Rev. Proc. 2006-24, section 2.01, by payment of the tax:

The trustee must file the signed written request with the IRS’s Centralized Insolvency Operation together with an exact copy of the return according to detailed procedural guidelines set forth in Rev. Proc. 2006-24.

Rev. Proc. 2006-24 provides that:

To request a prompt determination of any unpaid tax liability of the estate, the trustee must file a signed written request, in duplicate, with the Centralized Insolvency Operation,[89] Post Office Box 7346, Philadelphia, PA 19101-7346 (marked, “Request for Prompt Determination”). To be effective, the request must be filed with an exact copy of the return (or returns) for a completed taxable period filed by the trustee with the Service and must contain the following information:

Once the information, referred to as a request package, is received by the Centralized Insolvency Operation, the request must be assigned to a field insolvency office. (Practice indicates that the request package is sent to an insolvency group manager in the appropriate field office and assigned to an “insolvency advisor” in the group.)

A copy of the return(s) submitted in the request package must be an exact copy of a valid return. Rev. Proc. 2006-24 provides that a request will be considered incomplete and returned to the trustee if it is filed with a copy of a document that does not qualify as a valid return. A document that does not qualify as a valid return includes a return form filed by the trustee with the jurat stricken, deleted, or modified. A return must be signed under penalties of perjury to qualify as a return. See Rev. Rul. 2005-59, 2005-37 I.R.B. 505 (Sept. 12, 2005).

Rev. Proc. 2006-24 provides that if the request is incomplete, all of the documents received will be returned to the trustee by the field insolvency office assigned the request with an explanation identifying the missing item(s) and asking that the request be refiled once corrected. An incomplete request includes one submitted with a copy of a return form, the original of which does not qualify as a valid return. Once corrected, the request must be filed with the IRS at the field insolvency address specified in the correspondence returning the incomplete request. In the case of an incomplete request submitted with a copy of an invalid return document, the trustee must file a valid original return with the appropriate IRS office and submit a copy of that return with the corrected request when the request is refiled.

It is important for the taxpayer to realize that the 60-day period for notifying the trustee whether the return filed by the trustee is being selected for examination or is being accepted as filed does not begin to run until a complete request package is received by the IRS. If a request package is returned by the field insolvency office, the request package must be returned to the field insolvency office specified by the IRS in the correspondence included with the return of the incomplete request package with the additional information requested.

In requesting the determination of a tax ending after the petition date for an individual, where a 1040 is attached to an estate return, a note stating “Do Not Open in Mailroom” should be included on the envelope.

A discharge of any additional liability will be granted on payment of the tax stipulated in the return if:

• The taxing unit accepts the return as filed by not notifying the debtor that the return will be examined.
• The taxing unit conducts an examination and determines that additional taxes are due, and the debtor accepts the taxing unit’s examination results and pays the additional tax.
• The taxing unit conducts an examination and determines that additional taxes are due; the bankruptcy court determines, after proper notice and hearing, that the additional taxes are proper; and the debtor pays the additional taxes due.
• The taxing unit does not complete the examination and notify the debtor of an additional tax due within 180 days, including extensions granted by the bankruptcy court, after the request was filed.90

A discharge will not be granted if the tax return submitted is fraudulent or contains a material misrepresentation.91

After the taxpayer in George Louis Carapella v. United States92 was discharged from bankruptcy, the government contended that the taxpayer remained liable for the taxes because fraudulent returns were filed and attempts were made to evade tax liability for three years. The court agreed with the IRS, which claimed that the tax liability falls within the exception to discharge under 11 U.S.C. section 523(a)(1). In La Difference Restaurant, Inc.,93 the court held that the IRS was enjoined from seeking to collect taxes, penalties, and interest allegedly owed by the debtor on the ground of equitable estoppel. This deficiency, which the IRS was unable to collect, related to the difference between the original proof of claim and the amount based on an agreement the debtor had made with the IRS and had then used in developing a plan that was subsequently confirmed. This ruling was made by the court even though a clause in the plan provided that, if additional taxes have not been claimed prior to confirmation and are determined to be due, they will be paid immediately.

If a taxpayer petitions the court to determine a tax liability under section 505 of the Bankruptcy Code, it is important that the IRS be properly served. Rule 7004(b)(4) of the Federal Rules of Bankruptcy Procedure provides that, in the case of an adversary proceeding, a copy of the summons and complaint must be sent to the U.S. Attorney for the district in which the action is brought and to the U.S. Attorney General at Washington, DC. In any action attacking the validity of an order of an officer or agency of the United States not made a party, a copy of the summons and complaint must also be mailed to the officer or agency.

In In re Johnny Ray Warren,94 the bankruptcy court ordered the taxpayer’s case reopened because the court had lacked personal jurisdiction over the government at the time it had entered a previous order. Warren filed for bankruptcy and petitioned the court to have his tax liability determined. Notice was served on the IRS Special Procedures Staff95 and on the U.S. Attorney in Dallas. Notice was not served on the Attorney General of the United States, as required by Bankruptcy Rule 7004(b)(4). The bankruptcy court entered default judgment and held Warren not liable for the penalty under I.R.C. section 6672.

In In re Smith,96 a Ninth Circuit BAP held that section 505 of the Bankruptcy Code does not authorize a proceeding seeking an order of turnover and an order enjoining the lottery commission from complying with the withholding requirements of I.R.C. section 3402. The court noted that the trustee did not ask the bankruptcy court to determine the amount or legality of any tax, fine, penalty, or addition to tax. Richard Smith, who won the Washington State Lottery entitling him to an annual payment of $50,000, filed a chapter 7 petition. The trustee filed a motion under section 505(a) of the Bankruptcy Code to determine whether the lottery commission could pay all winnings to the estate without withholding funds as required under I.R.C. section 3402. The bankruptcy court approved an order that provided for the full amount to be remitted to the estate and for the trustee to pay all taxes due. The BAP reversed. The BAP also rejected the trustee’s argument that section 7421 of the Anti-Injunction Act did not apply, citing In re American Bicycle Association97 and United States v. American Friends Service Commission.98

In In re Queen,99 Bobby Queen filed a chapter 7 petition and received a discharge of all dischargeable debts. The IRS subsequently levied on Queen’s wages, attempting to collect an I.R.C. section 6672 penalty assessment. Queen requested the bankruptcy court to reopen the case. The bankruptcy court held that the penalty was excepted from discharge, declined to rule on the issue of Queen’s liability for the penalty assessment, and dismissed without prejudice.

Queen appealed, and the district court and the Fourth Circuit ruled that the section 6672 penalty was not dischargeable. The Fourth Circuit rejected Queen’s argument that the bankruptcy court had failed to recognize it had discretion under section 505 of the Bankruptcy Code to rule on the merits of the issue of his liability for the section 6672 penalty and that this constituted an error of law subject to de novo review by the district court. The Fourth Circuit pointed out that the bankruptcy court had noted that it could have decided the issue, but the bankruptcy court concluded that a refund case in district court would be more appropriate because the bankruptcy case was a no-asset case. The Fourth Circuit concluded that the bankruptcy court did not abuse its discretion.

In In re Teal,100 the Fifth Circuit held that a debtor may not challenge the legality of a penalty on which the Tax Court has previously ruled.

James Teal filed, in 1983, an amended 1979 return claiming a $13,000 refund with respect to a tax shelter investment. The IRS made a refund but two years later notified Teal that he was liable for that amount, plus penalties and interest. Teal petitioned the Tax Court, but Teal and the IRS settled the dispute. Teal agreed to pay back the $13,000 refund and part of the penalty and interest. The Tax Court entered the stipulated decision.

In 1990, Teal filed a chapter 7 petition and commenced an adversary proceeding to determine the dischargeability of the liability for the penalty and interest. The bankruptcy court dismissed the complaint for lack of jurisdiction. However, the district court reversed and held that relitigation of those issues was not precluded by either section 505(a)(2)(A) of the Bankruptcy Code or the doctrine of claim preclusion. The district court concluded that the penalty and interest were thus dischargeable.

The Fifth Circuit reversed the district court’s decision. The appeals court held that the bankruptcy court lacked jurisdiction, noting that the district court erred in finding that the Tax Court decision assessing the amount of taxes and penalties was not an adjudication of the legality of those items. The appeals court noted that a decision as to the amount of an assessment presupposes the legality of that assessment. The Fifth Circuit also ruled that the fact that the Tax Court decision was reached by agreement does not alter this conclusion, nor does it mean that the Tax Court decision was not a final judgment for purposes of res judicata.

In Delpit v. Commissioner,101 the Ninth Circuit held that an appeal of a Tax Court decision is stayed by section 362 of the Bankruptcy Code. The Ninth Circuit noted that the first clause of section 362(a)(1) provides that a stay shall be imposed on the commencement or continuation of judicial or administrative proceedings against the debtor that were commenced before the commencement of the bankruptcy case, and the second clause provides that a stay shall be imposed on the commencement or continuation of judicial or administrative proceedings to recover a claim against the debtor that arose before commencement of the bankruptcy case. The court held that both clauses apply to an appeal pending from a Tax Court judgment concerning a tax deficiency of a debtor that is in bankruptcy.

The court reasoned that an appeal of a Tax Court decision is a continuation of an administrative proceeding against the debtor within the meaning of section 362(a)(1) of the Bankruptcy Code.

The Ninth Circuit rejected the government’s contention that the taxpayer’s reading of section 362(a)(1) of the Bankruptcy Code effectively renders section 362(a)(8) superfluous. The appeals court also rejected as “faulty” the reasoning of Freeman v. Commissioner,102 which held that section 362(a)(1) does not apply to Tax Court appeals. The government’s contention that section 505 of the Bankruptcy Code requires the court of appeals to hear the Delpit case was rejected by the Ninth Circuit.

The bankruptcy court may not determine the tax of a partner that has not filed a bankruptcy petition. In In re Mund Bros.,103 the trustee filed an amended partnership return and Schedule K-1, seeking to have the partnership declared as the entity that should pay the tax liability on the reported gain and income. The parties filed a stipulation providing that the inclusion of the brothers’ assets and liabilities in the administration of the bankruptcy indicated a joint proceeding involving the partnership and the individuals.

The bankruptcy court ruled that it lacks jurisdiction over the individual partners. The court looked to the original bankruptcy petition and schedules and determined that they all show the partnership as the debtor. The court noted that a bankrupt partnership is a separate entity from its partners and that I.R.C. sections 1398 and 1399 provide that no separate taxable entity results when a partnership files for bankruptcy.

According to the Ninth Circuit in American Principals Leasing Corp. v. United States,104 the district court correctly concluded that it lacked bankruptcy jurisdiction to determine the tax liability of the nondebtor partners for the activities of the debtor partnerships or to determine the consequences of the partnerships’ activities. However, in In re Schmidt,105 the bankruptcy court held that it has jurisdiction to determine the short-year, postpetition tax liabilities of a group of chapter 11 debtors who elected to split their taxable year under section 1398. The Schmidt court, in disagreeing with American Principals Leasing Corp., held that the plain meaning of the term any tax in section 505(a) includes the partners’ postpetition tax liabilities that are to be paid under the debtors’ chapter 11 plans. The bankruptcy court reasoned that the tax determination will directly affect the partners’ estates and the amount of other creditors’ distributions, that the determination is necessary for the orderly and efficient administration of the confirmed plans, and that the partners have a personal stake in the outcome of their short-year tax liabilities.

The bankruptcy court would not determine the dischargeability of a tax claim in a no-asset case where the government conceded that the taxes were discharged.106 However, with respect to a responsible person penalty, the court ruled that a determination on that issue would clearly and significantly assist the taxpayer’s attempt to obtain a fresh start in life. On appeal, the court noted that “[o]nce an individual is established as a ‘responsible person,’ the burden shifts to the individual to disprove willfulness.” Thus, because the bankruptcy court employed the wrong legal standard in allocating the burden of proof as to the critical element of willfulness, its findings were made under this erroneous view.107 Another bankruptcy court held that the issue of liability under section 6672 is not complex and that it would be cost prohibitive for the debtor to litigate the issue elsewhere. The court rejected the IRS’s contention that the discharge issue was tangential to the taxpayer’s bankruptcy proceeding. The court noted that the taxpayer’s liability for the penalty is critical to determining dischargeability.108

A bankruptcy court denied a man’s motion to reopen his bankruptcy case to address the dischargeability of his tax liabilities, emphasizing that no bankruptcy purpose would be served by granting the motion. The court noted that while the liabilities in general were discharged, the tax liabilities may not have been discharged in the taxpayer’s bankruptcy case and that another court could determine whether they were.109

The Pennsylvania Supreme Court affirmed a lower court opinion, concluding that five IRS tax liens were valid because the issue had already been decided by federal courts.110 Both the district court and the bankruptcy court previously determined that the liens filed against David Fuller were valid in a subsequent bankruptcy petition.

The Third Circuit111 held that a bankruptcy court lacked jurisdiction to grant a corporation’s request for a refund and offset of real property taxes where the corporation failed to follow state refund procedures.

The Third Circuit held that, based on section 505(a)(2)(B)’s legislative history, case law interpreting the provision, and public policy considerations, the bankruptcy court did not have jurisdiction to order the city to refund excess payments for those years in which Custom paid the taxes but did not contest them under the requirements established by New Jersey law. Because Custom did not and could not file appeals of the tax assessments within the time requirements established by New Jersey law, its claim for offsets based on overpayments was time-barred.

In a multistate receivership/bankruptcy entity, the Tenth Circuit112 held that the Declaratory Judgment Act, 28 U.S.C. section 2201(a), prohibits the district court from determining corporate tax liabilities in a receivership action. The Tenth Circuit also held that the receiver could not rely on section 505 of the Bankruptcy Code to determine the tax in a receivership proceeding outside of bankruptcy court. The Tenth Circuit further held that the Anti-Injunction Act, I.R.C. section 7421(a), bars the district court from enjoining the IRS from assessing and collecting taxes for failure to evaluate tax returns by a court-imposed deadline.

(e) Determination of Tax Aspects of a Plan

Section 1146 of the Bankruptcy Code gives the proponent of a chapter 11 plan the right to request a determination of the state and local tax aspects of the plan for debtors. A request for tax impact of a plan is not available for federal taxes. The determination, however, is limited to questions of law. If the party that requested the determination objects to the answer received, the bankruptcy court has the authority to resolve the issue.113 Before a decision is made, the judge must receive a determination from the state and local taxing authorities or 270 days must pass after the request was made. Sheinfeld and Caldwell suggested that the following are areas for prospective litigation: What is a question of law? What are the taxing units to which a proper determination request can be made? When in fact does a controversy exist? May the 270-day limitation period be extended? What in fact is a response to the request for determination? May every proponent of each plan of reorganization independently request a determination from the taxing unit? Who is bound by the response of the taxing unit?114

The district court affirmed bankruptcy court decision to reopen a confirmed chapter 11 plan more than a year after confirmation to correct a computational error stipulated by the parties.115 The taxpayer and the IRS entered into a stipulation fixing the tax liability, and the bankruptcy court entered an order accepting the stipulated amount. The plan was confirmed and, three weeks later, the IRS discovered a computation error caused by a misplaced decimal point, resulting in an understatement of taxpayer’s liability for over $52,000. The IRS filed an amended proof of claim but did not seek to modify or revoke the chapter 11 plan until after all payments provided for in the plan were paid. The IRS then demanded an additional $69,000 in a reopened plan.

(i) Chapter 12

Chapter 12 of the Bankruptcy Code provides for the adjustment of debts of a family farmer or fisherman with regular annual income and contemplates the filing of a plan to do so. The income tax effects of transactions proposed in a chapter 12 plan could affect the feasibility of the plan in some cases. The 2005 Act amended section 1231(b) to allow bankruptcy courts to authorize the proponents of chapter 12 plans to request determinations of the federal income tax effects of the proposed plan. Prior to this amendment, the Bankruptcy Code only allowed the court to determine the tax for state and local tax purposes. The determination is limited to questions of law. Section 1231(b) also provides that in the event of an actual controversy, the court may declare the tax effects of a proposed plan after the earlier of the date on which the governmental unit responds to the request or 270 days after the request.

The IRS issued Rev. Proc. 2006-52116 to provide guidance for the chapter 12 debtor to follow in asking the bankruptcy court to determine the tax effect of the plan. First the regulation provides that if a chapter 12 plan proponent is authorized by the bankruptcy court to request a determination of the income tax effects of a proposed plan, a request must first be filed with the IRS. The written request must be filed with the Centralized Insolvency Operation, Post Office Box, Philadelphia, PA 19114-0326 (marked “Request for Determination of Tax Effects of Chapter 12 Plan”).

The request will be processed only if it contains:

Consistent with section 1231(b) of the Bankruptcy Code, Rev. Proc. 2006-52 provides that within 270 days from receipt of a processable application, the Examination Function will notify the plan proponent of the determination. Unless the court declares otherwise, pursuant to section 1231(b), a field office examining the taxpayer’s return will follow the determination if: (1) a copy of the determination is attached to the tax return to which it relates; (2) the determination is properly reflected in the return; (3) the representations upon which the determination was made reflected an accurate statement of the controlling facts; (4) the transactions proposed in the plan were carried out substantially as proposed; and (5) there has been no change in the law that applies to the period during which the transactions were consummated. Rev. Proc. 2006-52 is effective for all chapter 11 cases commenced after April 20, 2005.

(ii) Other Plan Issues

While most of the provisions dealing with state and local taxes were modified by the 2005 Act, the provisions allowing the bankruptcy court to approve the tax impact of a plan for state and local tax purposes was not modified. Thus, a chapter 11 debtor can still request the bankruptcy court to determine the tax impact of the plan for state and local tax purposes. No such provisions exist for federal income tax purposes. The 2005 Act did, however, renumber section 1146(d) as section 1146(b).

The district court held that the bankruptcy court had jurisdiction to reopen the plan, rejecting the taxpayer’s position that under Federal Rules of Civil Procedure section 60(b)(1), the plan could not be reopened after one year following confirmation, except in cases of mistake or inadvertence. The district court held that clerical errors may be corrected at any time, under Rule 60(a), subject to the court’s discretion. The court reasoned that correcting a clerical error does not involve a change of intent by the parties or the court.

The Sixth Circuit has held that an unexpected tax refund received by a couple after confirmation of their chapter 13 plan was disposable income under section 1325(b)(1)-(B) of the Bankruptcy Code that the debtors must turn over for distribution to creditors.

The circuit court held that the state exemption is irrelevant and that the disposable income issue under section 1325(b) turns on whether the refund income was necessary for the debtor’s maintenance or support. The taxpayers, according to the court, had agreed that all tax refunds would go to the plan to repay creditors and had made no argument that the income was needed for maintenance and support of themselves or their dependents.117

The Fifth Circuit held that the confirmation of a plan does not substitute for a section 505 motion any more than it substitutes for an objection to a proof of claim.118 The circuit court noted that the debtor failed to invoke the bankruptcy court’s power to determine a tax debt, and the listing of the tax in his schedules, disclosure statement, and plan did not invoke that power. Thus, the debtor’s plan is not res judicata with respect to the penalty (tax), and the IRS can proceed to collect it from the debtor.

(f) Effective Date

The bankruptcy court denied confirmation of a chapter 11 plan having a proposed effective date more than one year after the confirmation date for the purpose of delaying tax payments.119 The court held that it is reasonable for the effective dates to be set on or shortly after a final confirmation order. The majority of the company’s assets consist of accounts receivable valued at $3.3 million.

The court noted that the debtor sought to extend the effective date to buy extra time to collect accounts receivable and that such a situation places the risks of the plan on the taxing authorities, whose positions have worsened due to the debtor’s failure to pay postpetition trust fund taxes.

(g) Dismissal of Petition

The failure to file tax returns and provide for taxes owed in a plan is often grounds for dismissal. In Vines v. United States,120 the district court affirmed the dismissal of the taxpayer’s bankruptcy petition on the grounds that the taxpayer failed to file tax returns and that his tax liabilities totaled more than the taxpayer could pay through a confirmable plan. The district court rejected the taxpayer’s contention that I.R.C. section 6020(b) required the Treasury Secretary to file returns for him as a result of his failure to do so.

(h) Tax Impact of Trusts Created in Chapter 11

In a large number of chapter 11 cases, liquidation plans have established various funds, including liquidation trusts, for the benefit of creditors. All proceeds received from the activities usually go to the creditors. Some uncertainty has existed as to how these funds are taxed. The Supreme Court in In re Holywell addressed the issue and subsequent pronouncements by the IRS have helped resolve some of the issues associated with the tax impact of the establishment of these various funds. These issues, including the Supreme Court decision, are described in § 7.9 of this text.

(i) Tax Penalty in Bankruptcy Cases

Tax penalties under I.R.C. section 6658—the 5 percent per month late payment penalty and the 5 percent per month late filing penalty—are suspended during the period a bankruptcy case is pending. Once the case is terminated, the IRS will begin assessing penalties again. For purposes of determining when the case is no long pending, the IRS issued Rev. Rul. 2005-9121 examining three different situations. In Situation A, the IRS ruled that the date that a case is no longer pending in a chapter 7 case is 30 days after the date the court receives the trustee’s final report and discharges the trustee. In Situation B, in a chapter 11 case where a plan is confirmed and the debtor receives a discharge, subsequently payments begin for nondischarged tax claims and the court closes the case 30 days later, the IRS ruled that the case is no longer pending 30 days after the payments begin and the court closes the case. Situation C is similar to Situation B, except the court does not close the case 30 days after the payments begin. A year later the taxpayer stops making payments, and the IRS moves to dismiss the case and the court grants the motion. The IRS ruled that the case is no longer pending on the date that it is dismissed. Thus, late penalties could not be assessed during the delay of over a year.

When a tax is incurred by the debtor before the bankruptcy case commences, relief is granted if the petition was filed before the due date (including extensions) for filing the return or before the date for imposing the penalty.122 See § 11.2(e)(i) in this text.

This relief does not apply to liability for penalties resulting from a failure to pay or deposit any employment or collected excise taxes required to be withheld by the debtor or trustee.123

(j) Effect of the Automatic Stay

A petition filed under the Bankruptcy Code results in an automatic stay of the actions of creditors. As a result of the stay, no party, with minor exceptions, having a security or adverse interest in the debtor’s property can take any action that will interfere with the debtor or his or her property, regardless of the location of the property, until the stay is modified or removed. The stay prohibits any action to create, perfect, or enforce against the property of the debtor any lien to the extent that the lien secures a claim that arose before the commencement of the case.124 Thus, a taxing authority is unable to take any action against the debtor to secure a prepetition tax claim by creating or perfecting a tax lien.

Initially, section 362(a)(5) of the Bankruptcy Code would prevent a taxing authority from collecting, assessing, or recovering a tax claim of the debtor that arose prior to filing the petition. If, however, the tax liability has been determined by the bankruptcy court under section 505 of the Bankruptcy Code, the IRS may assess the tax.

For a petition filed after October 22, 1994, the Bankruptcy Reform Act provides that an audit to determine tax liability, the issuance of a notice of tax deficiency, a demand for a tax return, and the making of an assessment for any tax and issuance of a notice and demand for payment of such assessment (however, a lien that would otherwise attach to the debtor’s property will not take effect unless the tax is nondischargeable and the property or its proceeds are transferred from the estate to the debtor) is not a violation of the automatic stay. The change in the I.R.C. did not impact section 362(a)(8) of the Bankruptcy Code that provides for the stay of the commencement or continuation of a proceeding before the U.S. Tax Court concerning the debtor. The Bankruptcy Reform Act of 1994 did amend section 362(b) to provide that creation or perfection of a statutory lien for property taxes that become due after the petition is filed is not a violation of the automatic stay.

In summary, section 362(b)(9) provides that the automatic stay does not preclude:

• An audit by a governmental unit to determine tax liability;
• The issuance to the debtor by a governmental unit of a notice of tax deficiency;
• A demand for tax returns; OR
• The making of an assessment for any tax and issuance of a notice and demand for payment of such an assessment (but any tax lien that would otherwise attach to property of the estate by reason of such an assessment shall not take effect unless such tax is a debt of the debtor that will not be discharged in the case and such property or its proceeds are transferred out of the estate to, or otherwise revested in, the debtor).

The 2005 Act provides that certain corporate taxes are not subject to a discharge. However, these taxes are unsecured tax claims and would be expected to be shared proportionally with other creditors except for the fact that they are not discharged. Based on section 362(b)(9)(D) as shown, it would appear that once the property of the debtor’s individual estate reverts back to the debtor following confirmation, the taxing authority’s lien on the property will result in the unsecured claim becoming the equivalent of a secured claim.

Several courts have dealt with the impact of filing a tax lien during the period a debtor is in bankruptcy, once the debtor’s petition is dismissed or terminated. For example, in In re Ullrich,125 the IRS assessed tax liabilities of more than $46,000 in unpaid 1992 employment taxes. After the assessment of the 1992 employment taxes, the debtor filed a chapter 13 petition in violation of the automatic stay; a Notice of Federal Tax Lien was filed. The IRS contends the notice was computer generated by IRS Special Procedures126 Function. The IRS filed a proof of claim as an unsecured priority claim in the chapter 13 case. The chapter 13 case was dismissed, and two days later, a chapter 11 petition was filed. The IRS filed an amended proof of claim in the chapter 11 case and characterized the debtor’s 1992 employment tax liability as a secured claim. The debtor objected to the proof of claim, contending that the notice of tax lien was filed in violation of the automatic stay in effect during the previous chapter 13 case. The bankruptcy did not allow any secured claim status.

Actions taken in violation of the automatic stay are commonly void.127 The IRS relied on In re Albany Partners, Ltd.,128 a case in which the Eleventh Circuit determined that section 362 of the Bankruptcy Code permits bankruptcy courts, in appropriately limited circumstances, to grant retroactive relief from the automatic stay. The Eleventh Circuit found in Albany Partners that because the bankruptcy petition was not filed in good faith, and because Albany Partners’ asserted interest in the property was previously litigated, the court could reasonably hold that the movants were reasonably entitled to rely on the previous judicial determination and proceed with the foreclosure sale on the assumption that the property was not part of the bankruptcy estate.

The bankruptcy court noted that in Ullrich, unlike in Albany Partners, there was no litigation over the issue resulting in the filing of the notice of tax lien and no allegation that the filing was not in good faith. The court concluded that the notice of tax lien filing was void, not “avoided,” and that the property that was unencumbered before the filing of the chapter 13 petition remains as such.

The Federal Circuit, however, held that an improper assessment was avoidable but not void.129 The IRS assessed responsible person penalties under section 6672 against Phillip Duncan Bronson one month after the bankruptcy petition was filed. The IRS’s claim was excepted from the discharge order in the chapter 7 case that was converted from chapter 11. The IRS filed a notice of federal tax lien against Bronson in February 1986, and subsequently Bronson and the IRS entered into an installment agreement, where Bronson agreed to pay off the penalty and interest by making monthly payments. In addition to making payments as agreed, Bronson asked the IRS to place a lien on his home and a retirement account to enable him to pay the penalty more quickly.

In October 1987, Bronson discovered that the IRS’s violation of the automatic stay might give him a basis for avoiding the assessment. After the assessment period had ended, Bronson filed a claim for refund because the IRS had violated the automatic stay. The IRS rejected his claim, and Bronson filed a complaint with the Court of Federal Claims, which ruled in favor of the IRS. On appeal, the Federal Circuit affirmed, holding that the IRS’s assessment against Bronson for the I.R.C. section 6672 penalties in violation of the automatic stay was avoidable rather than void. The court distinguished Kalb v. Feuerstein,130 in which a postpetition real property foreclosure action by a state court was found to be void.

Dissenting, Circuit Judge H. Robert Mayer argued for adherence to the Supreme Court’s decision in Kalb and the principle that actions of creditors violating the automatic stay provision are void ab initio.

In Jim T. Spears v. United States,131 the IRS notified Jim Spears, in September 1985, of a proposed assessment of penalties under I.R.C. section 6672, as a responsible person of the Phoenix Energy Corporation. Spears filed a chapter 7 petition in November 1985, and a month later the IRS assessed the penalty against Spears. The IRS also filed a proof of claim in the bankruptcy proceeding for the responsible person penalties in February 1986. Also, during the period of the automatic stay, the IRS filed a notice of federal tax lien in Tulsa County. Spears received a discharge in bankruptcy in April 1986. The IRS had notice of the discharge and did not raise the issue of the validity of the assessment or the dischargeability of the tax liability in the bankruptcy proceeding.

However, the IRS did not release the tax lien on Spears’s property. To obtain a loan to buy a new house two years later, Spears had to pay the assessment so that the government would release the lien. After paying the assessment, Spears filed a claim for refund, which the IRS denied.

The district court held that the assessment of a responsible person penalty during the pendency of a bankruptcy proceeding is a substantive violation of the automatic stay and is therefore void, not voidable. The court rejected the government’s contention that Spears was not entitled to claim protection based on the automatic stay because he did not raise the issue in a timely manner. The court noted that since the assessment was void, Spears was not required to take any action to claim the protection of the stay.

Section 362(d) of the Bankruptcy Code provides that, for relief to be granted, a party must institute action with the bankruptcy court. The court may grant relief, after notice and opportunity for a hearing, by terminating, annulling, modifying, or conditioning the stay. The court may grant relief for cause, including the lack of adequate protection of the interest of the secured creditor. With respect to an act against property, relief may be granted under chapter 11 if the debtor does not have an equity in the property and the property is not necessary for an effective reorganization. Thus, for a governmental unit to take any action such as to assess, collect, or recover its claim against the debtor, it must file a complaint to terminate, annul, modify, or condition the stay.

An attempt by a taxing unit to collect the tax and ignore the automatic stay can have adverse consequences. For example, in In re Daniel Demos,132 the district court reversed an order of the bankruptcy court and held that the receipt of cash proceeds from insurance policies of the debtor in which the IRS had obtained a lien over two years earlier was in violation of the automatic stay. The court directed the IRS to turn over the proceeds to the debtor.

The Third Circuit court held that the IRS must release the refund where it had offset a prepetition tax claim against a refund for a year ending after the bankruptcy petition was filed violating the automatic stay.133 The Supreme Court held that a bank’s preconfirmation temporary withholding of a debt that it owed a depositor who was in bankruptcy, in order to protect its set-off rights, did not violate the automatic stay.134 This decision only overturned Norton to the extent that it held that “state law . . . determines when a setoff has occurred.”135 A discussion of the extent to which the decision of Norton is overturned by Strumpf is discussed in In re Continental Airlines. See § 10.3(k) below. The district court held, in Jerri Taborski v. United States,136 that the IRS had willfully violated the automatic stay by continuing to withhold the tax refunds that were property of the estate. The district court upheld the bankruptcy court’s decision that required the IRS to pay the attorneys’ costs and other fees of the taxpayer. The district court noted that In re Rebel Coal Co.,137 a case the government urged the court in the rehearing to consider, was factually distinguishable and not instructive.

The Tax Court awarded $4,600 of administrative and litigation costs to a taxpayer that had received a prior discharge and against whom the IRS proposed a $600,000 deficiency, with interest.138 The Tax Court questioned whether the IRS should have even issued the deficiency notice based on dubious Forms 1099-G issued by the Federal Deposit Insurance Corporation (FDIC) and why the IRS had not contacted the FDIC to determine the basis of the forms.

In Ronald J. Allison v. Commissioner,139 the Tax Court held that the automatic stay did not apply when a chapter 7 case is reopened. Ronald Allison filed for chapter 7 bankruptcy protection in June 1989, was granted a discharge of indebtedness in September 1989, and the case was subsequently closed. In November 1990, the IRS issued a notice of deficiency for tax year 1988. In February 1991, Allison filed a petition with the Tax Court for a redetermination of the deficiency and asked the bankruptcy court to reopen his chapter 7 case. After the bankruptcy court reopened the case, Allison filed a notice with the Tax Court to stay the deficiency redetermination under section 362(a) of the Bankruptcy Code.

The Tax Court denied Allison’s request to stay the Tax Court proceeding, stating that nothing in the language of section 350(b) or 362(a) of the Bankruptcy Code authorizes a bankruptcy court to continue the imposition of the automatic stay once it has been terminated following discharge. Citing Moody v. Commissioner140 and In re Trevino,141 the Tax Court noted that the ability to retain jurisdiction after a case has been closed, dismissed, or discharged does not, absent an order from the bankruptcy court, reactivate the automatic stay. The court also noted that Allison had not showed that the bankruptcy court was planning to consider the issues before the Tax Court.

The Tax Court held that a bankruptcy court order denying the taxpayers a discharge had the effect of terminating the automatic stay. The court also held that when the bankruptcy court vacated that order (after the taxpayers petitioned the Tax Court), the stay was not automatically reinstated. The Tax Court cited Allison v. Commissioner, 97 T.C. 544 (1991), where the Tax Court noted that the Bankruptcy Code imposes the automatic stay when a bankruptcy petition is filed but does not equate the reopening of a closed bankruptcy case with the filing of a bankruptcy petition.142

The Tax Court held that the automatic stay in bankruptcy is terminated on the dismissal of a bankruptcy case and is not reactivated on the case’s subsequent reinstatement.143

Citing In re De Jesus Saez,144 the Tax Court concluded first that the bankruptcy court’s dismissal order terminated the automatic stay. The Tax Court also rejected the IRS’s alternative argument that the automatic stay was reinstated when the bankruptcy court reinstated the Guerras’ case, citing Kieu v. Commissioner145 and Allison v. Commissioner146 as analogous cases. The court held in Kieu that the automatic stay is not reinstated on the reopening of a bankruptcy case in which the debtors had received a discharge. In Allison, the Tax Court held that the automatic stay was not reinstated when a bankruptcy court decided to retain jurisdiction over a case in which it had confirmed a chapter 11 bankruptcy plan.

In its argument, the IRS relied on In re Diviney,147 where the bankruptcy court held that the reinstatement of a bankruptcy case causes the automatic stay to be reactivated. The Tax Court noted that it was not obliged to find that the automatic stay was reinstated in this case and that the bankruptcy court was not without means to bring about a stay of the proceedings in the Tax Court. Other bankruptcy courts have held that the stay is reinstated on filing a subsequent petition.148

In In re Helene Ulrich,149 Helene Ulrich and her husband, Albert Huddleston, filed a chapter 7 bankruptcy petition when the IRS issued a notice of fiduciary liability to Huddleston. Huddleston filed a Tax Court petition without first obtaining relief from the automatic stay from the bankruptcy court.

The IRS subsequently moved in the bankruptcy court for retroactive relief from the automatic stay to permit Huddleston’s Tax Court case to proceed. The bankruptcy court ordered that the automatic stay be partially vacated nunc pro tunc, to authorize the Tax Court petition that was filed in violation of the stay in bankruptcy. In Chamberlain v. Commissioner,150 the Tax Court previously ruled that a Tax Court petition filed in violation of the automatic stay is invalid and cannot be validated “by a modification of the stay after the fact.”

In Reagoso v. Commissioner,151 the Tax Court ruled that the Tax Court petition filed while a bankruptcy petition was pending must be dismissed for lack of jurisdiction because section 362(a)(8) of the Bankruptcy Code prohibits a debtor from filing a Tax Court petition when the stay is in effect. The court noted that, under I.R.C. section 6213, the Reagosos had 150 days after the automatic stay was lifted in which to file a new petition because the deficiency notice was issued while the stay was in force.

The Ninth Circuit BAP held, in In re McDaniel,152 that a levy by the IRS was in violation of the automatic stay because the bankruptcy court’s order confirming the chapter 11 plan provided that the trust income remained the property of the bankruptcy estate after plan confirmation.

The automatic stay may be applicable even though it is subsequently determined that the bankruptcy petition is invalid because it was improperly filed, as was the case in Wekell v. United States.153

In In re Kroll,154 the district court affirmed a bankruptcy court’s rejection of Louis and Helen Kroll’s request in a chapter 13 case to turn the residence over to the bankruptcy estate that was seized prepetition. The court approved a motion filed by the IRS to lift the automatic stay in order to proceed with an administrative sale of the Krolls’ residence. The bankruptcy court determined that the Krolls lacked any equity in the property as a result of the federal tax lien. The court also ruled that the IRS’s interest was not adequately protected and that the property was not necessary for a legitimate plan of reorganization. The district court noted that if the property is of inconsequential value or benefit to the estate, no useful purpose will be served by turning the property over to the estate.

The automatic stay is not applicable to a partner that has not filed a petition, and as a result the IRS is free to collect any tax that may have been assessed against that partner.155

The district court held that an order granting the IRS retroactive relief from the automatic stay validated a postpetition assessment that otherwise would have been void as a violation of the stay.156

In In re Haedo,157 the bankruptcy court refused to lift the automatic stay in a chapter 11 case to allow the government to set off a couple’s postpetition tax refund against substantial section 6672 penalties assessed against the couple, because the refund may have partially belonged to the wife, who did not file.

The bankruptcy court held that the IRS violated the automatic stay by levying on abandoned assets after the debtor received a discharge but before the bankruptcy case was closed. However, the court refused to impose damages because the debtor suffered no injuries.158 The court disagreed with In re Walker159 and In re Debeaubien160 that property is abandoned when a trustee files an abandonment report, concluding that property is not abandoned under 11 U.S.C. section 554(c) until a case is closed.

A district court held that the IRS violated the automatic stay in a corporation’s bankruptcy case by willfully selling the debtor’s property and ordered the IRS to pay damages and attorney’s fees.161

The district court162 lifted a chapter 13 automatic stay to permit the IRS to appeal a finding in a prior chapter 7 proceeding that an individual’s tax liabilities were dischargeable.

(k) Tax Offset

Bankruptcy Code section 553 allows a creditor to offset a claim against a debt the creditor owes to the bankrupt. At the time the petition is filed, there is an automatic stay that prevents an immediate setoff. The right of setoff exists and, with the approval of the court, the actual setoff may take place. See § 10.3(m) below for a discussion of the right of the debtor to offsets. This right also applies to taxes.

Section 362(b) of the Bankruptcy Code provides that the setoff of an undisputed prepetition tax liability against a prepetition income tax refund does not violate the automatic stay. If either the tax refund or the tax liability arises in the postpetition period, the setoff is stayed. The setoff could not be taken if, prior to the setoff, an action was commenced under section 505(a) to determine the amount or the legality of the tax. However, if the setoff is tolled during the 505(a) hearing, the taxing authority may hold the refund. Setoff provision appears to apply only to income taxes.

This change is consistent with local rules existing in many jurisdictions resulting in minimal impact. However, it has been pointed out by some writers that the decision in Seminole Tribe of Florida163 may preclude the debtor from recovering tax refunds that were set off improperly by a state taxing authority.

For the IRS to have the right to offset a tax refund against a liability of a taxpayer, the IRS must prove that:

• The IRS has a claim against the debtor that arose before the bankruptcy filing.
• The IRS owes a debt to the debtor that arose before the bankruptcy filing.
• The claim and debt are mutual obligations.164

In John E. Sanford III v. Commissioner,165 the Tax Court held that Sanford’s Tax Court petition was not filed in violation of the automatic stay because it was filed after the bankruptcy court had entered an order discharging Sanford from all dischargeable debts. The court noted that “the automatic stay was terminated on that date [discharge] by virtue of the express terms of 11 U.S.C. section 362(c)(2)(C).”

The right to the portion of a tax refund that accrued prepetition is property of the bankruptcy estate even though the tax year has not ended. The fact that the refund amount does not become fixed until the end of the tax year does not limit the broad applicability of section 541(a) of the Bankruptcy Code.166 Courts generally have held that the right to a tax refund arises at the end of the tax year to which the refund relates.167

It is not necessary to determine the amount of the debt owed to the debtor prior to the bankruptcy filing in order for setoff to be available to the creditor.168 For example, if a bankruptcy petition is filed by a calendar-year taxpayer on February 2, the tax refund would be considered prepetition even though the tax refund is not due until April 15.

The courts are not in agreement as to the question of whether it is proper to allow setoff when a chapter 11, 12, or 13 plan provides for full payment of the tax claim.

The bankruptcy court in United States v. Johnson169 noted that a number of courts, in factually distinguishable cases, have held that the IRS can set off a prepetition tax refund with a prepetition tax obligation after the bankruptcy petition is filed.170

In In re Mason,171 it was held that a creditor who has a right of setoff does not forfeit that right upon confirmation in the chapter 13 plan. However, in In re Crabtree,172 the bankruptcy court held in a chapter 11 case that the IRS has no right of setoff after confirmation when the plan provides for payment of the tax obligation.

In Norton,173 the court refused to allow the setoff. The bankruptcy court gave the IRS notice and an opportunity to have its objections to the proposed plan heard. The IRS did not object to the plan. The Third Circuit held that, upon confirmation, the IRS became bound to that plan and to the payment schedule that would satisfy its claim in full. The court noted that to allow the IRS to retain an overpayment as extra security on the debt would seriously compromise the powers of the bankruptcy court, the capacity of debtors to rehabilitate, and the equitable distribution that the Bankruptcy Code is designed to foster.174

In In re Gribben,175 the district court vacated the bankruptcy court’s ruling that, because the IRS had offset the refunds without first seeking relief from the automatic stay, the offset was void. The bankruptcy court had concluded that the intervening determination of dischargeability eliminated the IRS’s claim so that an offset was no longer possible. The district court noted that the right of offset is very much favored by the Bankruptcy Code because it would be unfair to permit the debtor to collect all debt owed to him or her while refusing to recognize the debtor’s debts to others.

In In re Rush-Hampton Industries,176 the bankruptcy court allowed the corporation to offset its 1978 federal income tax liability for $43,893 in taxes and $48,457 in interest against a request for refund due to an overpayment of tax. The government did not request a relief from the stay before making the offset.

The court declined to allow the IRS’s offset of postpetition interest because to do so would “reward the IRS for offsetting prior to receiving relief from the automatic stay.” However, the Eleventh Circuit177 saw it differently and vacated the decision and remanded for reconsideration of the denial of the right to set off the postpetition interest, holding that appellant would have been entitled to such setoff if it had timely moved to lift the stay.

The district court concluded that 11 U.S.C. section 553 preserved the IRS’s right to offset if the overpayment and the underpayment arose prepetition. The court rejected the trustee’s contention that the refund was owed to the estate and not the prepetition debtor and, therefore, that the debts lacked mutuality and the IRS had no right of offset. The court reasoned that the right to refund accrues on the last day of the taxable year, so that the right to the refund accrued to the prepetition debtor.

In In re Dowdle,178 the bankruptcy court granted John Dowdle’s motion to recover the offset refund when the IRS applied Dowdle’s 1992 tax refund to his 1993 federal income tax liability. Within 90 days, Dowdle filed a bankruptcy petition. He filed a motion to recover the offset refund on the basis that the government’s seizure of his property within 90 days of his bankruptcy petition must be set aside. The IRS moved to dismiss Dowdle’s motion, arguing that the government had not waived sovereign immunity. The bankruptcy court noted that the IRS had not filed a proof of claim against Dowdle but that he had initiated the action.

A district court179 has reversed a bankruptcy court’s decision that accepted an administrative freeze placed by the IRS on a couple’s tax refund because of the ruling in Citizens Bank of Maryland v. Strumpf.180 Under the Supreme Court ruling, the district court noted, the retention of property subject to a right of setoff does not violate the automatic stay, at least so long as the creditor acts diligently in seeking relief from the stay to enforce its right. The case was remanded for the lower court to determine the basis on which the IRS proceeded in this case. On remand the bankruptcy court determined that the IRS violated the automatic stay under section 362(a)(3) by freezing the debtors’ tax refund.181 The district court affirmed the bankruptcy court’s judgment and determined that the refund was property of the bankruptcy estate and the unauthorized control exercised by IRS by placing a freeze violated section 362(a)(3). It concluded that an award of damages for emotional distress was appropriate.182

In In re Hudson,183 the bankruptcy court held that the automatic stay does not prohibit the collection of a postpetition debt from postpetition property of the debtor. Thus, the court explained that it was not necessary for the IRS to get relief from the stay to pursue collection of the postpetition debt from Hudson.

In United States v. Reynolds184 (another chapter 13 case), the IRS did not object to the confirmation of the plan. Later, it filed a proof of claim and set off the tax refund by the amount of the tax obligation. The Fourth Circuit stated:

[T]he IRS violated the automatic stay and that the Reynoldses’ plan provided for payment of the 1979 tax liability as a priority claim, binding the IRS to accept it. On appeal, the district court, after granting the motion of the chapter 13 trustee to intervene, affirmed on the same grounds. The court added that although the IRS was a secured creditor, by virtue of its right of setoff under 11 U.S.C. section 553(a) (1982), the Reynoldses could recover the portion of the refund retained by the IRS because the confirmed bankruptcy plan provided “adequate protection” of the IRS’s security interest, 11 U.S.C. sections 361, 362(d)(1) (1982).185

Two circuit courts186 have held that the application of setoff is permissible, not mandatory, and lies within the equitable discretion of the court. A similar decision was reached in United States v. Johnson.187

Vivian Johnson filed a chapter 13 petition in March 1991, and her plan, which was confirmed in July 1991, provided that her outstanding 1987 tax obligation of $1,828 was to be paid in full as a classified unsecured priority claim. The IRS filed its claim asserting a right to set off the 1987 obligation.

Johnson filed her 1990 tax return in April 1991, postpetition but preconfirmation, and was due to receive a refund of $1,550. The government asserted that, under Bankruptcy Code section 507, it had an unsecured priority claim for $278 (which Johnson did not dispute) and a secured claim of $1,550. In August 1991, the government filed a motion to lift the automatic stay to set off the 1990 tax refund against Johnson’s 1987 tax obligation. However, Johnson asked that the court allow her to repay her obligation using her confirmed plan and that it order the IRS to issue the refund.

The bankruptcy court denied the government’s motion, but ordered that Johnson demonstrate that the government’s claim would be protected before a refund check was issued. The court held that the IRS claim against Johnson arose before the bankruptcy filing and that a portion of the tax refund that accrued prepetition was property of the bankruptcy estate even though the tax year had not ended, making both the claim and refund mutual obligations.

The court was unable to determine whether it was proper to allow setoff when the confirmed chapter 13 plan provides for full payment of the tax obligation. Therefore, the court ordered a hearing to consider whether Johnson could demonstrate that the IRS would be adequately protected should the court rule not to allow the IRS to offset the claim.

Thus, the court was persuaded that the debtor would provide adequate protection before the IRS was required to issue a refund check. The presumption is made that if the creditor is adequately protected, the setoff will not be allowed.

In In re Sound Emporium,188 the court allowed the IRS to offset a subordinate claim against debt owed by the U.S. Army to the bankrupt debtor. In a chapter 13 case,189 the court held that a tax refund due to postpetition overpayments could not be offset against a prepetition chapter 13 tax claim that was approved in the plan. In Dominguez,190 the IRS was allowed to offset a prepetition tax refund against a prepetition dischargeable liability.

A chapter 11 debtor is not entitled to offset its claim for overpaid employment taxes for five years against the IRS’s proof of claim, because the debtor’s overpayment claim was untimely. While the bankruptcy court rejected the IRS’s position that the taxpayer failed to make a claim for refund or credit on the basis that the taxpayer sought the credits only as an offset to the IRS’s proof of claim, and no request for a refund had to be made, the court concluded that any claim for credit regarding the taxpayer’s 1986–1990 quarterly taxes was untimely under section 6511 of the I.R.C.191

The bankruptcy court held that the Education Department violated the automatic stay when it offset the taxpayer’s $537 refund check against a prepetition student loan.192 The court ordered the Department of Education to return the refund and pay the attorney’s fees of $450.

In United States v. Chapter 11 Trustee of Combined Thoroughbred Agencies,193 the district court affirmed a decision of the bankruptcy court that held that the government was not entitled to a setoff of a tax refund against a penalty. The bankruptcy court found that the penalty was an unsecured claim without priority because it was not a compensation for pecuniary loss; therefore, permitting a setoff would be inequitable to the unsecured creditors. The bankruptcy court ruled that the IRS had violated the automatic stay by setting off the refund against the penalty without court approval. The bankruptcy court also held that the government had waived its right to a setoff by failing to assert a setoff when it filed a proof of claim.

The district court noted that, although setoffs are encouraged in appropriate circumstances, the denial of preference is appropriate where the debt does not reflect a pecuniary loss to the government. The court held that, because the government admitted that the penalty was not the result of a pecuniary loss, the government had no right to setoff.

In In re Pettibone Corp.,194 Pettibone Corp. both overpaid and underpaid its tax liability in substantial amounts over a number of years. Pettibone filed for chapter 11 and included in the reorganization plan the method of calculating the company’s total tax and interest liability as approved by the bankruptcy court. On appeal, Pettibone asked the district court to determine whether the accounting method used by the IRS and approved by the bankruptcy court was an allowable method of dealing with the overpayments and underpayments and applicable interest.

The IRS offset earliest overpayments against earliest underpayments and calculated the interest earned on the overpayments from the date the overpayment was made until the date the underpayment was due. The district court affirmed the bankruptcy court’s conclusion that the IRS’s method of offsetting the taxes and interest from Pettibone’s over- and underpayments was proper. The district court rejected the bankruptcy court’s determination that the debts were nonmutual by noting that the IRS’s attempt to offset its liability to Pettibone by the amounts owed the IRS was an indication of mutual debt. The district court concluded that the IRS was not performing setoffs within the meaning of the Bankruptcy Code.

In Pettibone Corp. v. United States,195 the Seventh Circuit affirmed the district court judgment to allow the continuous offsetting. The circuit court agreed with the district court’s characterization of the netting of tax overpayments and underpayments as an accounting method, not the type of setoff or offset contemplated by the Bankruptcy Code. The court noted that unless the parties have distinct obligations to each other, the concept of “setoff” makes no sense. As discussed in § 11.2(h) of this text, the appeals court remanded with directions for the lower court to reduce the judgment due to a change in the method of calculating the interest.

Because the taxing authority’s right to effect the setoff arose before the bankruptcy commenced, the bankruptcy court held that its rights were unaffected by the Bankruptcy Code.196 The court noted that since a taxing authority’s obligation to pay a refund arises on the last day of the tax year, the state department of revenue properly offset a refund for 1999 against a liability for 1994, given that the taxpayer did not file his bankruptcy petition until April 10, 2000, and did not file his state tax return for 1999 until April 17, 2000.

After filing her bankruptcy petition, a debtor filed her income tax return for the prior year, which entitled the debtor to a refund of overpaid taxes. Although the debtor’s prior tax debt was then discharged, the IRS set off the debtor’s tax refund against her debt. The debtor then listed the overpayment as an exempt asset and claimed that the refund was not subject to setoff. The appellate court first held the statutory injunction against efforts to collect a discharged debt did not affect the IRS’s statutory right to setoff.197 The overpayment owed by the IRS to the debtor arose prepetition, at the end of the tax year, regardless of when the debtor filed her return. The Fifth Circuit also held that the overpayment was not subject to exemption since the debtor’s right to the refund was limited to the amount exceeding her tax liability; since her liability exceeded the overpayment, the overpayment never became an asset of the estate subject to exemption.

A setoff is not considered a levy under I.R.C. section 6703(c)(1). In David L. Morgan v. United States,198 the district court held that the setoffs did not constitute a levy prohibited by I.R.C. section 6703(c)(1). The court noted that a levy would involve an IRS action to acquire possession of a taxpayer’s property; a setoff is the application of funds already in the government’s possession against a taxpayer’s outstanding tax liability.

The Ninth Circuit held that for purposes of waiver of sovereign immunity and setoff under section 106(b) of the Bankruptcy Code, all agencies of the United States, except those acting in some distinctive private capacity, are a single governmental unit. Therefore, the court concluded, if a person prevailed against the United States on tort claims against the Federal Bureau of Investigation, the IRS’s claims against the person’s bankruptcy estate may be reduced by the amount of the tort judgment.199

The Ninth Circuit noted that section 106(b) of the Bankruptcy Code provides: “There shall be offset against an allowed claim or interest of a governmental unit any claim against such governmental unit that is property of the estate.” The Ninth Circuit accepted the United States’ contention that “governmental unit” refers to the United States as a whole rather than to particular agencies. The court stated that the United States reaches this position out of a commendable sense of fairness and reciprocity because it often seeks to be treated as a single unitary creditor under the offset provisions of section 553 of the Bankruptcy Code.

The Ninth Circuit BAP held that federal agencies, except those acting in a distinctly private capacity, are a single entity for purposes of setoff under section 553 of the Bankruptcy Code.200 Hawaiian Airlines, Inc., filed a chapter 11 petition, and it was subsequently determined that Hawaiian Airlines overpaid its federal air transportation excise taxes. The bankruptcy court, having previously held that the United States is a unitary creditor, allowed the U.S. government to offset the Hawaiian Airlines tax overpayment against prepetition claims of other federal agencies. The BAP for the Ninth Circuit agreed.

(l) Assignment of Tax Refunds

For companies that have previously operated successfully but are currently sustaining operating losses, the claim for a tax refund may be used as additional security for an existing loan or as collateral for a new loan. Where a bankruptcy petition is filed prior to the time the tax is paid, it is not clear whether the debtor in possession (trustee) or the lender is entitled to the refund.

At least two issues are important in determining who is entitled to the tax refund. First, it must be ascertained whether state or federal law dealing with perfecting of interest applies. State laws are based on the Uniform Commercial Code, but section 9-104 provides that the code is not applicable to certain transactions, including those where the security interest is subject to a statute of the United States. If held applicable, the statute that applies is the Federal Assignment of Claims Act (Claims Act).201 Under this statute, it would be difficult to protect a security interest in a tax refund, because an assignment cannot be filed until the claim has been allowed in an amount certain and a warrant has been issued for its payment. In Martin v. National Surety Co.,202 the Supreme Court held that the transfer of funds after payment had been made by the government was of no concern to the government but only to the parties involved in the transaction. This case involved an assignment of a claim of a contractor that had not filed a bankruptcy petition, but the applicability of the Claims Act would not be different.203 In two subsequent cases, the Supreme Court reaffirmed its basic holding in Martin.204 The decision in Martin did, however, differ from the Supreme Court’s ruling in National Bank of Commerce v. Downie.205

The second issue, once it has been determined that state and not federal law applies, is the time of the assignment of the refund. In In re Ideal Mercantile Corp.,206 the Second Circuit’s Court of Appeals held that, because the customary refunds claim had not been allowed or paid at the time the bankruptcy petition was filed, the Claims Act was still applicable. Because there was no compliance with the Claims Act, the assignment of claims was not perfected and was made immediately before the petition. Thus, under prior law (Bankruptcy Act), this assignment was an act of bankruptcy. Commitment of an act of bankruptcy is no longer an issue under the Bankruptcy Code, but the timing of the selection of a security interest is.

The Ninth Circuit took a different view from that of the Second. It held, in In re Freeman,207 that the assignment of the entire tax refund by the wife to the husband in a divorce settlement was dependent on local law and that, under California law, a future right could be assigned. Also, the court held that the date of assignment of the claim is the date to use, not the date the claim was paid.208

It should be realized that these cases were under the Bankruptcy Act. In addition to the conflict between the circuit courts, the problem of this assignment being a preference if it is for an antecedent debt is further complicated by section 547(e)(3) of the Bankruptcy Code, which states that a “transfer is not made until the debtor has acquired rights in the property transferred.” It has been held that a right is not acquired in a situation involving a carryback of a tax loss until the end of the tax year in which the loss occurred.209 Thus, if the debtor files for a refund more than 90 days prior to the petition date and immediately assigns this right to a creditor, and if the claim is allowed and paid after the petition is filed, it is not clear how the courts will rule on the ability of the debtor to transfer this right prior to the filing of the petition.210

One other case of interest is In re Lagerstrom,211 wherein the debtor assigned his 1968 income tax refund to his attorney one month prior to bankruptcy. The attorney failed to file a financial statement. The court ruled that the transaction was not meant to create a security interest but was attempting to make an outright conveyance of the refund to his attorney. Thus, in certain cases, it may be better to seek and obtain conveyance of the tax refund rather than take a security interest.212 The bankruptcy court, in In re David Paul Johnson,213 held that a tax refund that was no part of a plan is not property of the estate and is not subject to the automatic stay. The court would not set aside the right to the tax refund that had been obtained by the state of Utah’s Department of Social Services.

(m) Waiver of Sovereign Immunity

Section 106 of the Bankruptcy Code provides that a governmental unit (federal, state, local, etc.) is deemed to have waived sovereign immunity with respect to any claim against itself which is property of the estate and which arose from the same transaction or occurrence that resulted in the governmental unit’s claim. Legislative history indicates that the filing of a proof of claim against the estate by a governmental unit is a waiver of sovereign immunity with respect to compulsory counterclaims arising from the same transaction or occurrence. Thus, the governmental unit cannot receive a distribution from the estate without subjecting itself to liability.214

Effective October 22, 1994, section 106 of the Bankruptcy Code was modified to expressly provide for a waiver of sovereign immunity by governmental units with respect to monetary recoveries as well as declaratory and injunctive relief. The waiver does not, however, apply to punitive damages. The changes to section 106 of the Bankruptcy Code will overrule two Supreme Court cases that have held that the states and federal government are not deemed to have waived their sovereign immunity by virtue of the prior provisions of section 106(c) of the Bankruptcy Code. For example, the Supreme Court, in Hoffman v. Connecticut Department of Income Maintenance,215 held that even if the state did not file a claim, the trustee in bankruptcy may not recover a money judgment from the state notwithstanding section 106(c). Thus, a preference could not be recovered from the state. In United States v. Nordic Village, Inc.,216 the Supreme Court held that a trustee could not recover a postpetition payment by a chapter 11 debtor to the IRS.

Section 106(d) is clarified by the Bankruptcy Reform Act of 1994 to allow a compulsory counterclaim to be asserted against a governmental unit only where such unit has actually filed a proof of claim in the bankruptcy case. The IRS filed proof of claim based on unpaid taxes, which also were the basis for prepetition levies against a third party.217 The debtor objected that the nominee/alter ego liability levies were wrongful, and the bankruptcy court agreed. The district court reversed, upholding the government’s argument that there is no waiver of sovereign immunity for a wrongful levy action in bankruptcy. The court found that section 106 of the Bankruptcy Code creates no independent waiver of immunity, nor does the IRS waive immunity by filing a claim in the bankruptcy. The court also found that I.R.C. section 7526(a)(1) did not give the debtor standing to challenge nominee/alter ego status on behalf of a third party.

In Odessa H. Taylor v. United States,218 the district court affirmed the bankruptcy court’s decision that the waiver of sovereign immunity provided for in section 106(a) of the Bankruptcy Code was triggered by the government’s “right to payment”—by the “existence” of the claim—regardless of whether the government had filed a claim. The court noted that to decide otherwise would, in effect, allow the government to receive payment on a claim without waiving sovereign immunity, whereas the mere filing of a claim would constitute a waiver.

Section 106(b) of the Bankruptcy Code provides that the debtor may offset against the allowed claim of a governmental unit, up to the amount of the allowed claim, any claim of the debtor against the governmental unit. This is without regard to whether the claim arose from the same transaction or occurrence.

Section 106 of the Bankruptcy Code also permits the bankruptcy court to determine the amount and dischargeability of tax liabilities or other claims owed by the debtor prior to or during a bankruptcy case, whether the governmental unit has filed a proof of claim or not. In addition, legislative history indicates that the authority of the bankruptcy court over governmental units is not limited to tax or other governmental claims. The court is permitted to bind the government on other matters such as allowing the debtor in possession or trustee to assert avoidance powers provided for in a bankruptcy case against a governmental unit.219

In In re VN. DePrizio Construction Co.,220 the bankruptcy court allowed the debtor to recover four payments made to the IRS as preferences. The United States asked the court to reconsider that summary judgment, arguing that the government did not waive its sovereign immunity in the proceeding by filing its prepetition tax claims. The bankruptcy court denied the government’s motion to reconsider, concluding that the government waived its sovereign immunity pursuant to 11 U.S.C. section 106(a). The bankruptcy court noted that under I.R.C. section 106(a), the United States is deemed to have waived sovereign immunity with respect to any claim against it that is property of the estate and that arose out of the same transaction or occurrence out of which its claim arose. The court agreed with the trustee’s contention that the claims arose from the same transaction because a logical relationship existed between the claims, reasoning that the antecedent debts giving rise to the preference claims were the unpaid portion of the taxes serving as the basis for the United States’ claims against the state.

The Sixth Circuit BAP affirmed the dismissal of a bankruptcy trustee’s adversary proceeding filed against the Georgia Department of Revenue, holding that the state did not waive sovereign immunity by filing an unrelated proof of claim in the underlying bankruptcy proceeding.221

I.R.C. section 6503 suspends the running of the statute of limitations during the period when the taxpayer is in bankruptcy. However, the provision suspending the statute of limitations applies only to I.R.C. sections 6501 and 6502, and not to I.R.C. section 6229(f), which governs bankrupt partners under the 1982 Tax Equity and Fiscal Responsibility Act (TEFRA). Thus, the limitations period may expire before the IRS is aware that a partner has gone bankrupt.

(n) Offers in Compromise

The IRS may accept an offer from the taxpayer when the IRS determines that the tax liability will most likely not be collected. The federal or state tax authority’s objective in compromising the tax is to collect as much of the potential liability as is feasible—as soon as possible and at the least cost.

Bean222 suggests that an offer in compromise may be used when the debtor is insolvent and does not have the cash flow to pay the debt over a reasonable period of time, and when an individual has just emerged from liquidation under chapter 7 or chapter 11. Bean indicates that the taxpayer should not use the offer in compromise if it is a calculated stall tactic or if the taxpayer is contemplating bankruptcy and the taxes are dischargeable.223

For federal income tax purposes, the taxpayer should use Form 656 to make the offer. On this form, the taxpayer must describe the tax liability, indicate the amount and terms of the offer, and describe the basis for the compromise.

Along with Form 656, an individual will complete Form 433-A; a business, including a sole proprietorship, partnership, or corporation, will complete Form 433-B. In addition to personal data, these forms require the taxpayer to provide information about bank accounts, bank credit cards or credit lines, and real and other property. Analyses of assets and liabilities and of income and expenses must be included.

The IRS may require that the compromise remain effective, with the taxpayer keeping current for any installment payments, for 5 years, to allow the IRS to keep prior and current refunds including benefits from prior years’ net operating losses. The initial agreement may provide that, if the taxpayer defaults on the terms of the agreement, the entire amount of the tax liability will be due, less any payments made under the agreement to that date.

It may be difficult to estimate the minimum bid that the IRS will accept. Bean suggests that the IRS, in determining the amount that may be acceptable, may look at the net equity in assets plus the present value of future installments the taxpayer could make.224

The IRS has made special efforts to streamline the offer-in-compromise review process. The collection staff of the IRS informs the taxpayer of the availability of the offer in compromise and helps in preparing the necessary paperwork.

In describing the offer-in-compromise process, Kirchheimer225 indicates that once an offer in compromise is submitted, it is assigned to a revenue officer or tax examiner for an investigation that will usually require 6 to 12 months. The investigation will involve a review of the taxpayer’s financial statements (Form 433-A or Form 433-B) to determine their accuracy. The offer in compromise will be evaluated to see that it fits within the IRS guidelines. Typically, the collection division will check various records, including motor vehicle records and records at the county office of the taxpayer’s residence and neighboring counties, to find unreported assets.226 Additional investigations that are considered necessary by the collection department will be made, to determine that the taxpayer has made a full disclosure of assets and future earnings potential.

The IRS has revised the Appeals Manual to include contingent agreement language to add to Form 870 for offers in compromise as well as new instructions on case handling when bankrupt taxpayers object to the government’s proof of claim or request that the bankruptcy court determine a tax liability. For additional information, see Manual Transmittal 8-241 (12-05-94).

The bankruptcy court held that the IRS may reopen and revoke its acceptance of a couple’s offer in compromise if false information was submitted by one of the spouses, regardless of the couple’s intent and regardless of whether the IRS relied on either spouse’s representations.227

The bankruptcy court ruled that a tax debt was dischargeable under the 240-day rule of section 507(a)(8)(A)(ii) of the Bankruptcy Code. The court rejected the IRS’s argument that an offer in compromise was still pending after the agency told the taxpayer that he would have to submit a new offer.

The IRS sent a letter advising the taxpayer that the author had consulted IRS attorneys, who originally rejected the offer and indicated that three things need to occur before the offer could be accepted, including resubmission of the offer on a revised form, amendment to clarify that the amount deposited would be paid within a time certain after acceptance, and submission of additional substantiation of taxpayer’s financial circumstances.

The court ruled that the February 1995 IRS letter terminated the offer. A letter from the IRS taking a position legally inconsistent with the notion of a pending offer should be construed as terminating the pendency of the offer.228

The bankruptcy court refused to allow the IRS to reopen an offer in compromise on the ground that the debtor had concealed assets from the IRS.229 Citing Jones v. United States,230 the bankruptcy court stated that falsification and concealment under the regulation means more than incorrect but less than fraud and requires a deliberate act or omission. It was the court’s conclusion that the taxpayer may have legitimately believed at the time he made the offer in compromise that the trust was not available to him, because of the prior levy on the trust.

In calculating the equity in assets, the taxpayer should use liquidation values that could be obtained in a quick sale of assets over a relatively short period of time. The proceeds available should be reduced by any taxes that must be paid on the disposition, plus all cost to sell the assets. The property listed in I.R.C. section 6634 that is exempted from levy should be excluded from the equity in assets.

Generally, future income will be considered in determining the amount of the settlement. An individual will normally be allowed to deduct necessary living expenses, at a comfortable level, from the income.

In addition to the federal government, states may consider an offer in compromise. Often these programs are similar to the IRS’s agreement; however, the process is relatively new for many states, and it may be much more difficult to reach an agreement with a state.

In a heavily redacted legal memorandum,231 Kathryn A. Zuba, chief, branch 2 (collection, bankruptcy, and summonses), has concluded that once an offer in compromise has been terminated, it cannot be reinstated by the IRS.

(o) Impact of Settlement

Once an agreement is finalized between the taxpayer and the IRS, it is considered a final judgment. In In re West Texas Marketing Corp.,232 the bankruptcy court dismissed an adversary proceeding brought by the government to recover an excess amount that was refunded under the settlement agreement. The court ruled that the prior settlement had conclusively determined the refund owed to the trustee and that the court thus lacked jurisdiction to consider the government’s complaint. The district court affirmed.

On appeal, the government argued that the lower courts erred by concluding that the settlement represented a final judgment. The Fifth Circuit held that the bankruptcy court had correctly refused to hear the government’s attempt to relitigate issues decided by the settlement agreement, but remanded for consideration of the applicability of rule 60(a) of the Federal Rules of Civil Procedure to correct any possible clerical errors. The circuit court rejected the government’s argument that the settlement agreement did not constitute a final judgment for res judicata purposes because the agreement did not include a final amount due. Citing Fiataruolo v. United States,233 the court concluded that the settlement agreement was a final judgment because it clearly provided the means by which the final amount owed could be calculated. The court noted that the government signed away its rights to litigate the case further by agreeing to dismiss the previous action with prejudice.

The Fifth Circuit noted that Rule 60(a) of the Federal Rules of Civil Procedure, which provides that clerical mistakes and errors in a judgment arising from oversight or omission may be corrected by a court at any time, might provide the government relief with respect to any miscalculations.

In Alexander v. United States,234 the Fifth Circuit held that a tax may not be assessed if it is not assessable, even though a compromise was reached on the tax liability in question. According to the IRS, Thomas Alexander’s signature on the Form 870-P would constitute an offer to enter into a binding settlement to accept the adjustments. The Form 870-P stated that an executed settlement would be binding absent proof of fraud, malfeasance, or misrepresentation and that no claim or refund based on the partnership items would be allowable. The IRS accepted the offer and made an assessment. It was subsequently determined that the tax was not assessable.

The Fifth Circuit ruled that the terms of the settlement agreement did not preclude Alexander’s refund claim. The court reasoned that the settlement agreement merely precluded any claim for refund based on any change in the treatment of partnership items. The Fifth Circuit concluded that the adjustments to the partnership items were firm and binding but that assessment of a deficiency based on those adjustments was time-barred. The circuit court found support in Ewing v. United States.235

In Ewing, the plaintiff-taxpayer mistakenly paid a time-barred deficiency after entering into a section 7121 closing agreement with the IRS. The court construed this amount as an “overpayment” under section 6401, which the IRS was ordered to refund. The Fourth Circuit concluded that the closing agreement, though valid and enforceable, did not preclude this particular action; instead, it simply agreed to the amount of income, gains, losses, deductions, and credits attributable to various businesses in which taxpayers were partners. The Fourth Circuit also noted that the taxpayers did not agree that they would abstain from claiming any refund that might be available to them under I.R.C. section 6401.

The Fifth Circuit in Alexander pointed out that the key distinction between Ewing and this case is the provision in Form 870-P prohibiting any claim for refund based on any change in the treatment of partnership items. The IRS argued that Ewing is distinguishable because Alexander specifically agreed not to prosecute any claim for refund or credit. This interpretation of the settlement agreement, according to the Fifth Circuit, disregards the restrictive, qualifying language emphasized earlier and the IRS has simply failed to establish how Alexander’s refund claim is in any way based on a change in the treatment of partnership items.

In a 1992 field service advice,236 the IRS advised that the acceptance of an offer in compromise does not result in discharge of indebtedness income. In analyzing the issue, the IRS first looked to I.R.C. section 7122 and the related regulations. I.R.C. section 7122 allows the IRS to compromise, among other items, a taxpayer’s tax liability. Furthermore, Treas. Reg. section 301.7122-1(a) provides that “a compromise relates to the entire liability of the taxpayer (including taxes, ad valorem penalties, and interest) with respect to which the offer in compromise is submitted and all questions of such liability are conclusively settled thereby.” The IRS found further support for its position in Office Memorandum 19866,237 which concludes that a taxpayer does not have discharge of indebtedness income when the statute of limitations on the collection of a tax debt expires or when an offer in compromise of tax debt is accepted by the IRS. The analysis in Office Memorandum 19866 cited Eagle Asbestos & Packing Co. v. United States.238 In Eagle Asbestos, the court determined whether a taxpayer had income in a case in which a compromised tax debt included interest that the taxpayer had deducted. Because the intent of the parties was to extinguish all tax liabilities for all items that made up the offer in compromise, the court held that the taxpayer did not have income.

Based on these authorities, the IRS concluded that a taxpayer does not realize income from the discharge of a tax liability pursuant to an offer in compromise even though the taxpayer may have economic gain.

§ 10.4 BANKRUPTCY COURTS

(a) Jurisdiction

Section 505 of the Bankruptcy Code authorizes the bankruptcy court to determine the tax liability of a debtor, provided the tax issue had not been contested and adjudicated before the commencement of the bankruptcy case. The bankruptcy court in In re Mary Frances Richcreek239 refused to redetermine the tax that had been previously contested and adjudicated by the Tax Court. If Tax Court proceedings are pending at the time the bankruptcy petition is filed, the debtor and trustee have several options. If the debtor wishes to continue the Tax Court case and the trustee agrees to intervene, the bankruptcy judge will lift the automatic stay on the proceedings under Bankruptcy Code section 362(a)(8), and the Tax Court’s decision will bind both the debtor and the estate.240 Under conditions where the trustee prefers to contest the tax claim in the bankruptcy court and the debtor agrees to have his or her personal liability also decided in the bankruptcy court, the issues regarding the tax claims against the estate and the debtor will be determined by the bankruptcy court.

The automatic stay does not operate in the case of an appeal of a Tax Court decision that was made before the petition was filed.

Section 362(a)(8) of the Bankruptcy Code states that the filing of a bankruptcy petition operates as a stay against the commencement or continuation of a proceeding before the U.S. Tax Court; however, the Ninth Circuit concluded that section 362(a)(8) has no application to appeals following the termination of proceedings in the Tax Court.241

Once a plan has been confirmed and the debtor has started making payments under the plan, it is difficult for the bankruptcy court to reopen the case to hear tax issues that were not resolved.242

The district court also held that, even though the government had not filed a proof of claim for the 1971 through 1973 tax liabilities in the bankruptcy case, it was not estopped from asserting the deficiencies.

In Richard A. Anderson v. United States,243 a Ninth Circuit bankruptcy appellate panel held that the bankruptcy court had jurisdiction to hear a case that involved the extent to which a tax lien attached to a pension benefit that was not part of the estate. The panel noted that the bankruptcy court had jurisdiction because the plan continued to remain the property of the debtor. In this case, Richard Anderson had a vested interest of $85,000 in a pension plan, and the IRS had filed two tax liens prior to the petition but had not levied against Anderson’s interest in the pension plan.

If the debtor and trustee cannot agree on which forum should decide the case, the final decision is left to the bankruptcy judge. Singer suggests:

[The judge] can refuse to lift the stay on the Tax Court proceeding. In that case, the trustee would be allowed to litigate the tax claim in the bankruptcy court and the Internal Revenue Service could require the debtor to litigate his personal liability there by filing a complaint to determine dischargeability. If the IRS does not file such a complaint, the stay against the Tax Court proceedings would be lifted after the bankruptcy case closes and the debtor could relitigate the issues in the Tax Court.

[The judge also] can allow the debtor to litigate his personal liability in the Tax Court concurrently with the trustee’s litigation of the same claim in the bankruptcy court. According to the conferee’s explanation, the decision of the first court to rule on the tax claim would be conclusive on the other court.244

These procedures apply to individual debtors. It is not clear whether corporate debtors have the same rights as individuals to litigate in the Tax Court.

If the bankruptcy court lifts the automatic stay, the debtor would not be precluded from filing a petition (if timely) in the Tax Court to challenge an asserted tax deficiency.245

I.R.C. section 6871(a) provides that, upon the appointment of a receiver for the taxpayer in any receivership, the tax may be assessed, and claims for a deficiency are to be presented to the court before which the receivership is pending. No petition for any redetermination of the tax can be filed with the Tax Court after the receiver is appointed. The Tax Court held in Dennis B. Levine246 that it is the appointment of a receiver that invokes the prohibition of the filing of the petition with the Tax Court, even though some—but not all—of the assets are under the control of the court.

The Tenth Circuit held that a Tax Court ruling against the couple while the husband was in bankruptcy stands.247 The wife argued that an earlier Tax Court decision was not final because of her husband’s subsequent bankruptcy, and, as a result, this could not be the basis for the later summary judgment against her. The appeals court rejected her argument and in an unpublished opinion allowed the ruling to stand against the wife even though the Tax Court had dismissed the action against her husband because he was in bankruptcy.

(b) Awarding Attorneys’ Fees

The Ninth Circuit held that bankruptcy courts are courts of the United States within the meaning of I.R.C. section 7430 and, thus, have jurisdiction to award attorney’s fees.248 The Ninth Circuit rejected the Eleventh Circuit’s reasoning in In re Brickell Investment Corp.249 and concluded that the Fourth Circuit’s decision in In re Grewe250 is a more reasonable interpretation. Section 7430(c)(6), according to the Ninth Circuit, allows for attorney’s fees in any civil action brought in a court of the United States (including the Tax Court and the U.S. Claims Court). The Ninth Circuit interpreted the language very broadly, while the Eleventh Circuit read it narrowly and concluded that, based on the special reference to the Tax Court and claims court, Congress would have mentioned bankruptcy courts if it had wanted to include them. Both the Ninth and the Fourth Circuit found that Congress intended the statute to apply broadly to civil tax litigation in all federal courts.

While the Ninth Circuit held that the bankruptcy court had jurisdiction to award attorney’s fees, it denied the Yochums’ motion for attorney’s fees, on the basis that the government’s position was substantially justified.

(c) Sole Agency Rule

Treas. Reg. section 1.1502-77(a) requires the parent corporation to act as the agent of its subsidiaries in all procedural matters in situations where consolidated returns were filed.

In J&S Carburetor Co. v. Commissioner,251 deficiencies were assessed against the parent corporation and its subsidiary for years in which consolidated returns were filed. Prior to the issuance of the deficiency notice, the parent corporation had filed a bankruptcy petition. The automatic stay provision of the Bankruptcy Code precluded the parent from commencing litigation in the Tax Court. Thus, the subsidiaries that had not filed bankruptcy petitions tried to contest the deficiencies in the Tax Court.

The IRS claimed that the subsidiaries were precluded from filing a petition with the Tax Court under the sole agency rule of Treas. Reg. section 1.1502-77(a). The subsidiaries argued that they should not be deprived of the opportunity to file a petition contesting the claims of the IRS because the parent corporation filed a bankruptcy petition. The subsidiaries also argued that this situation is an analogy to the situation where a spouse is entitled to file a petition to contest deficiencies on a joint return where the other spouse has filed bankruptcy.

The Tax Court held that an exception to the agency rule did not exist and it did not have the power to create one. Because the parent corporation had exclusive authority to file the petition to contest the deficiencies, the Tax Court held that it lacked jurisdiction over the petition filed by the subsidiaries. The court concluded that the taxpayer’s vast understatement of income for 1977, combined with other evidence, showed a clear pattern of deceit.

(d) Tax Avoidance

A case may be dismissed if the bankruptcy plan is used to avoid tax liability.252 Dean S. Hazel, a tax protester, filed for bankruptcy under chapter 13. The IRS objected to confirmation of the taxpayer’s plan on the basis that it had not been proposed in good faith as required by section 1325(a)(3) of the Bankruptcy Code. The district court affirmed the bankruptcy court’s denial of Hazel’s petition on the basis that Hazel’s plan “abuses both the spirit and purpose of chapter 13” by permitting the taxpayer to use the plan to obtain “a discharge of Federal tax liabilities which he never intended to pay.”

§ 10.5 MINIMIZATION OF TAX AND RELATED PAYMENTS

There are several steps that a debtor in financial difficulty might take to reduce the cash outflow for taxes or to obtain tax refunds.

(a) Estimated Taxes

A company having financial problems may, after paying one or more installments of estimated taxes, determine that it should recompute its estimated tax liability. Downward recomputations may show that no additional payments are necessary. If it is determined that too much tax was paid, a quick refund can be obtained by filing Form 4466 immediately after the taxable year ends.

(b) Prior-Year Taxes

The IRS allows companies that owe taxes from the previous year to extend the time for payment to the extent that the tax will be reduced because of an expected net operating loss in the current year. This request is made on Form 1138. To obtain a quick refund of taxes previously paid, Form 1139 must be filed within one year after the end of the year in which the net operating loss occurred and can be filed only after Form 1120 for the loss year has been filed.

(c) Pension Funding Requirements

An employer may be able to obtain a funding waiver if it can show that substantial business hardship exists and that funding the pension would be adverse to the interests of the plan’s participants in the aggregate. If the funding cannot be waived, payments may be deferred under Rev. Rul. 66-144.253

1 Also known as Taxpayer Bill of Rights III (Pub. L. No. 105-206, 112 Stat. 685, enacted July 22, 1998).

2 The term “district director” is generally not used within the IRS as a result of the reorganization of the IRS beginning in July 2000. However, the IRS has not been able to make all of these changes in the IRS regulations, rules, procedures, Internal Revenue Manual, and so on. The term “district director” may be replaced with “insolvency group,” “central insolvency operation,” and so on.

3 Id.

4 I.R.C. § 6872; Treas. Reg. § 301.6872-1.

5 11 U.S.C. § 505(a)(1).

6 McKowen v. IRS, 370 F. 3d. 1023 (10th Cir. 2004).

7 SIPA No. LA 92-01156 KM (Bankr. C.D. Cal. Oct. 7, 1997).

8 68 B.R. 463, 466 (Bankr. 9th Cir. 1986).

9 In re William Herbert Hunt, 95 B.R. 442 (Bankr. N.D. Tex. 1989).

10 181 B.R. 358 (Bankr. S.D. Ill. 1995).

11 In re Leavell, 124 B.R. 535, 549 (Bankr. S.D. Ill. 1991); see also In re Isom, 901 F.2d 744, 746 (9th Cir. 1990); In re Dillard, 118 B.R. 89, 92 (Bankr. N.D. Ill. 1990).

12 In re Fyfe, 186 B.R. 290 (Bankr. N.D. Ga. 1995).

13 In re Lyle, 193 B.R. 750 (Bankr. E.D. N.C. 1995).

14 In re Edward R. Fitzsimmons, No. 4-80-02300 HN (Bankr. N.D. Cal. Apr. 29, 1996).

15 In In re Latham Exploration Co., Inc., 83 B.R. 423 (W.D. La. 1988).

16 United States v. Huckabee Auto Co., 783 F.2d 1546 (11th Cir. 1986); Brandt-Airflex v. Long Island Trust Co., 843 F.2d 90 (2d Cir. 1988).

17 101 B.R. 306 (Bankr. M.D. Fla. 1989), rev’g 86 B.R. 695 (M.D. Fla. 1988).

18 98 T.C. 383 (1992).

19 44 T.C. 420 (1965).

20 897 F.2d 1032 (10th Cir. 1990).

21 In Florida Peach Corporation v. Commissioner, 90 T.C. 678 (1988).

22 62 T.C.M. (CCH) 1337 (1991).

23 142 B.R. 499 (Bankr. M.D. Fla. 1992); see City Vending of Muskogee, Inc., 898 F.2d 122 (10th Cir. 1990); In re Quattrone Accountants, Inc., 895 F.2d 921 (3rd Cir. 1990); In re Washington Manufacturing Co., 120 B.R. 918 (Bankr. M.D. Tenn. 1990); In re Palm Beach Resort Properties, Inc., 51 B.R. 363 (Bankr. S.D. Fla. 1985); and Tapp v. Fairbanks North Star Borough (In re Tapp), 16 Bankr. 315 (Bankr. D. Alaska 1981).

24 See Penking Trust V. Sullivan County, 196 B.R. 389, 402 (Bankr. D. Tenn. 1996) and In re Cumberland Farms Inc. 175 B.R. 138 (Bankr. D. Mass. 1994).

25 2002-15 CB 746.

26 2004 Bankr. LEXIS 422 (April 2, 2004).

27 978 F.2d 29 (1st Cir. 1992), cert. denied 507 U.S. 961 (1993).

28 Pettibone Corp. v. Easley, 935 F.2d 120, 122 (7th Cir. 1991). See In re Xonics, Inc., 813 F.2d 127, 130–32 (7th Cir. 1987); In re Chicago, Rock Island & Pacific R.R., 794 F.2d 1182, 1186–87 (7th Cir. 1986). See also Pacor, Inc. v. Higgins, 743 F.2d 984, 994 (3d Cir. 1984); Goodman v. Phillip R. Curtis Enterprises, Inc., 809 F.2d 228, 232–33 (4th Cir. 1987); National City Bank v. Coopers & Lybrand, 802 F.2d 990, 994 (8th Cir. 1986); In re Gardner, 913 F.2d 1515, 1518–19 (10th Cir. 1990).

29 Hutchins v. IRS, 67 F.3d 40 (3d Cir. 1995).

30 1993 U.S. App. LEXIS 34208; 73 A.F.T.R.2d (RIA) 882; 15 F.3d 1083 (9th Cir. 1993).

31 See, e.g., Cohen v. United States, 115 F.2d 505 (1st Cir. 1940); In re Byerly, 154 B.R. 718 (Bankr. S.D. Ind. 1992); In re Millsaps, 133 B.R. 547 (Bankr. M.D. Fla. 1991); In re Diez, 45 B.R. 137 (Bankr. S.D. Fla. 1984); In re Onondaga Plaza Maintenance Co., 206 B.R. 653 (Bankr. N.D.N.Y. 1997); In re G-I Holdings Inc., 2003 U.S. Dist. LEXIS 16317 (D.N.J. 2003); In re Pelullo, 2004 Bankr. LEXIS 243 (Bankr. E.D. Pa. 2004); In re Bissett, 1999 Bankr. LEXIS 1462 (Bankr. E.D. Pa. Nov. 29, 1999).

32 171 B.R. 549 (Bankr. W.D. Va. 1994).

33 For additional discussion of the determination of tax in “no asset” cases, see Report of the ABA Tax Section Task Force on the Tax Recommendations of the National Bankruptcy Review Commission 153–55 (1997).

34 In re Indian Motorcycle Co., 259 B.R. 458 (Bankr. 1st Cir. 2001).

35 In re Numed Healthcare Inc., No. 2001 U.S. Dist. LEXIS 19264 (M.D. Fla. Oct. 12, 2001).

36 In re Weber, 215 B.R. 887 (D. Kan. 1997); aff’d 1999 U.S. App. LEXIS 6304 (10th Cir. 1999).

37 151 B.R. 156 (N.D. Ill. 1992).

38 In re Unroe, 937 F.2d 346 (7th Cir. 1991); see In Re International Horizons, Inc., 751 F.2d 1213, 1216 (11th Cir. 1985).

39 In re Hambright, 216 B.R. 781 (W.D. Mich. 1997).

40 In re Greenig, 152 F.3d 831 (7th Cir. 1998).

41 In re Kragness, 82 B.R. 553 (Bankr. D. Oreg. 1988).

42 85 B.R. 799 (Bankr. N.D. Ill. 1988).

43 765 F.2d 547 (5th Cir. 1985).

44 161 B.R. 60 (Bankr. D. Or. 1993). See In re Bailey, 151 B.R. 28 (Bankr. N.D.N.Y. 1993).

45 146 B.R. 557 (Bankr. D. Minn. 1992) (en banc).

46 No. 5-87-00259; LEXIS, 88 TNT 107-19 (Bankr. W.D. Va. 1988).

47 84 B.R. 361 (E.D. Pa. 1988). See In re William D. Rains, 139 B.R. 158 (Bankr. D. Md. 1992) (proof of claim was not timely filed because it was not in the same nature as the initial claim and the claim for $40,000 was not reasonably within the amount of the timely filed claim of $13,000). See also In re AM Intern., Inc., 67 B.R. 79 (N.D. Ill. 1986).

48 80-2 USTC (CCH) ¶ 9737 (S.D.N.Y. 1980). See United States v. Roberson, 188 B.R. 364 (D. Md. 1995) and In re Unroe, 937 F.2d 346 (7th Cir. 1991).

49 No. 387-00294-P7 (Bankr. D. Or. Sept. 8, 1993).

50 977 F.2d 1202 (7th Cir. 1992).

51 In re Jackson, 220 B.R. 273 (Bankr. W.D. Va. 1998).

52 In re S.T. Patrick, 96 B.R. 358 (Bankr. M.D. Fla. 1989).

53 1989 Bankr. LEXIS 2022 (Bankr. D. Idaho 1989).

54 In re Richard J. Morrell, 69 B.R. 147 (N.D. Cal. 1986).

55 In re F.C.M. Corp., 1987 U.S. Dist. LEXIS 15275 (S.D. Fla. 1987).

56 95 B.R. 197 (Bankr. D. Col. 1989). See In re Herd, 840 F.2d 757, 759 (10th Cir. 1988), and Reliable Elec. Co., Inc. v. Olson Constr. Co., 726 F.2d 620, 623 (10th Cir. 1984).

57 BAP No. EC-93-1121-AsRJ (Bankr. 9th Cir. Aug. 31, 1993).

58 In re Taylor, 140 F.3d 1040 (5th Cir. 1998).

59 969 F.2d 866 (10th Cir. 1992).

60 159 B.R. 546 (Bankr. 9th Cir. 1993).

61 99 B.R. 978 (Bankr. 9th Cir. 1989).

62 33 F.3d 1064 (9th Cir. 1994). In an unpublished memorandum the Ninth Circuit also held that §§ 501 and 502 of the Bankruptcy Code authorize federal tax claims priority status regardless of when a proof of claim is filed and that § 726(a)(1) of the Bankruptcy Code provides that priority claims are entitled to first distribution regardless of when a proof of claim is filed. In re Mantz, 1994 U.S. App. LEXIS 22735 (9th Cir. 1994).

63 20 F.3d 555 (2d Cir. 1994).

64 47 F.3d 818 (6th Cir. 1995).

65 In re Davis, 81 F.3d 134 (11th Cir. 1996).

66 In re Waindel, 65 F.3d 1307 (5th Cir. 1995).

67 In re Osborne, 76 F.3d 306 (9th Cir. 1996).

68 907 F.2d 114 (9th Cir. 1990).

69 166 B.R. 875 (Bankr. E.D. Tenn. 1993).

70 986 F.2d 154 (6th Cir. 1993).

71 In re Larry Merritt Co., 169 B.R. 141 (E.D. Tenn. 1994).

72 See In re Allegheny Int’l, Inc., 954 F.2d 167 (3d Cir. 1992); In re Fullmer, 962 F.2d 1463 (10th Cir. 1992).

73 Raleigh, Chapter 7 Trustee v. Illinois Department of Revenue, 530 U.S. 120 (2000).

74 In re Placid Oil Co., 988 F.2d 554 (5th Cir. 1993); In re Fullmer, 962 F.2d 1463 (10th Cir. 1992).

75 173 B.R. 398 (Bankr. E.D. Wis. 1994).

76 Resyn Corp. v. United States, 851 F.2d 660 (3d Cir. 1988); In re Landbank Equity Corp., 973 F.2d 265 (4th Cir. 1992); United States IRS v. Charlton, 2 F.3d 237 (7th Cir. 1993).

77 In re Brown, 82 F.3d 801 (8th Cir. 1996). See In re Gran, 964 F.2d 822 (8th Cir. 1992); In re Uneco, Inc., 532 F.2d 1204 (8th Cir. 1976).

78 In re Farrell, 211 B.R. 79, 97-1 U.S. Tax Cas. (CCH) ¶ 50,395; 79 A.F.T.R.2d (P-H) 2037 (Bankr. M.D. Fla. 1997).

79 United States v. Kearns, 177 F.3d 706 (8th Cir. 1999).

80 In re Armstrong, 217 B.R. 192 (Bankr. N.D. Tex. 1997).

81 117 S. Ct. 849 (1997).

82 In re Todd A. Stephenson, 262 B.R. 871 (Bankr. W.D. Okla. 2001).

83 171 B.R. 415 (Bankr. S.D. Fla. 1994), aff’d 168 B.R. 434 (S.D. Fla.1994).

84 In re AWB Assocs., 144 B.R. 270 (Bankr. E.D. Pa. 1992); In re 499 W. Warren Street Assocs. Ltd., 143 B.R. 326 (Bankr. N.D.N.Y. 1992); In re Ledgemere Land Corp. 135 B.R. 193 (Bankr. D. Mass. 1991).

85 In re Cumberland Farms, Inc., 175 B.R. 138 (Bankr. D. Mass. 1994), aff’d 78 F.3d 10 (1st Cir. 1996).

86 No. 383-01063; LEXIS, 87 TNT 230-12 (Bankr. M.D. Tenn. 1987), aff’d 87 B.R. 52 (M.D. Tenn. 1988).

87 125 B.R. 805 (N.D. Cal. 1991).

88 2006-22 I.R.B. 943.

89 In July 2005, the IRS advised the Office of the U.S. Trustee that its insolvency operation was proceeding with plans to consolidate the functions for initial processing of all new bankruptcy cases and closing actions on cases that have been discharged or dismissed and other administrative functions previously performed by the Special Procedures section in various offices at one centralized location (its Philadelphia campus).

90 Id. § 505(b).

91 Id.

92 105 B.R. 86 (Bankr. M.D. Fla. 1989), aff’d 115 B.R. 365 (Bankr. M.D. Fla. 1990).

93 86-2 USTC (CCH) ¶ 9568 (D.C.N.Y. 1986).

94 No. 390-37282-RCM-7 (Bankr. N.D. Texas 1991).

95 See supra note 2.

96 158 B.R. 813 (Bankr. 9th Cir. 1993).

97 895 F.2d 1277 (9th Cir. 1990).

98 419 U.S. 7 (1974).

99 1994 U.S. App. LEXIS 933 (4th Cir. 1993).

100 16 F.3d 619 (5th Cir. 1994).

101 18 F.3d 768 (9th Cir. 1994).

102 799 F.2d 1091 (5th Cir. 1986).

103 1993 Bankr. LEXIS 2034 (Bankr. C.D. Ill 1993).

104 904 F.2d 477 (9th Cir. 1990).

105 205 B.R. 394 (Bankr. N.D. Ill. 1997).

106 In re Macagnone, 216 B.R. 668 (Bankr. M.D. Fla. 1997).

107 In re Macagnone, 240 B.R. 444 (M.D. Fla. 1999).

108 In re Sideris, 1997 Bankr. LEXIS 1995, 98-1 U.S. Tax Cas. (CCH) ¶ 50,104, 80 A.F.T.R.2d (RIA) 8326 (Bankr. N.D. Ga. 1997).

109 In re Young, 1997 Bankr. LEXIS 1893, 80 A.F.T.R.2d (RIA) 8250 (Bankr. N.D. Ill. 1997).

110 Fuller v. Fair, No. 00429 (Pa., Nov. 25, 1997).

111 In re Custom Distribution Services Inc., 224 F. 3d 235 (3d Cir. 2000).

112 Sterling Consulting Corp. v. United States, 245 F.3d 1161 (10th Cir. 2001).

113 1981 C.B. 688, § 1146(b).

114 Sheinfeld and Caldwell, Taxes: An Analysis of the Tax Provisions of the Bankruptcy Code and the Bankruptcy Tax Act of 1980, 55 Am. Bankr. L. J. 97, 129, 130 (1981).

115 In re Dearing, 1996 U.S. Dist. LEXIS 9126, 96-2 U.S. Tax Cas. (CCH) ¶ 50.422 (E.D. Wash. 1996).

116 2006-48 I.R.B. 995.

117 In re Freeman, 86 F.3d 478 (6th Cir. 1996).

118 In re Taylor, 132 F.3d 256 (5th Cir. 1998); rehearing denied 140 F.3d 1040 (5th Cir. 1998).

119 In re Potomac Iron Works, 217 B.R. 170 (Bankr. D. Md. 1997).

120 1996 U.S. Dist. LEXIS 19447 (M.D. Fla. 1996).

121 2005–6 I.R.B. 470.

122 I.R.C. § 6658(a)(2).

123 I.R.C. § 6658(b).

124 11 U.S.C. § 362(a)(5).

125 186 B.R. 747 (Bankr. M.D. Fla. 1995).

126 See infra note 2.

127 Kalb v. Feuerstein, 308 U.S. 433, 443 (1940); Borg-Warner Acceptance Corp. v. Hall, 685 F.2d 1306, 1308 (11th Cir. 1982).

128 749 F.2d 670 (11th Cir. 1984).

129 Bronson v. United States, 46 F.3d 1573 (Fed. Cir. 1995).

130 308 U.S. 433 (1940).

131 143 B.R. 950 (Bankr. N.D. Okla. 1992). See 1992 U.S. Dist. LEXIS 12008 (N.D. Okla. Mar. 3, 1992).

132 No. 85-C-1225 (E.D. Wis. 1987).

133 In re Norton, 717 F.2d 767 (3d Cir. 1983).

134 Citizens Bank of Maryland v. Strumpf, 516 U.S. 16 (1995).

135 134 F.3d 536 (3rd. Cir. 1998).

136 141 B.R. 959, 92-1 USTC (CCH) ¶ 50,281 (N.D. Ill. 1992), reh’g denied, 1992 U.S. Dist. LEXIS 6088 (N.D. Ill. 1992); see In re Bulson, 117 B.R. 537, 540 (Bankr. 9th Cir. 1990), aff’d, 974 F.2d 1342 (9th Cir. 1992); In re Price, 13 B.R. 259, 270 (Bankr. N.D. Ill. 1991).

137 944 F.2d 320 (6th Cir. 1991).

138 Eifert v. Commissioner, T.C. Memo. 1997-214, 73 T.C.M. (CCH) 2736 (1997).

139 97 T.C. 544 (1991).

140 95 T.C. 655 (1990).

141 78 B.R. 29 (Bankr. M.S. Pa. 1987).

142 Kieu v. Commissioner, 105 T.C. 387 (1995).

143 Guerra v. Commissioner, 110 T.C. 271 (1988).

144 721 F.2d 848 (1st Cir. 1983).

145 105 T.C. 387 (1995).

146 97 T.C. 544 (1991).

147 211 B.R. 951 (Bankr. N.D. Okla. 1997), aff’d 225 B. R. 762 (Bankr. 10th Cir. 1998).

148 In re Nail, 195 B.R. 922, 925-26 and 931-32 (Bankr. N.D. Ala. 1996) (chapter 13 case, stay reinstated); In re Bennett, 135 B.R. 72 (Bankr. S.D. Ohio 1992) (creditor seems to have assumed such a reinstatement reimposed the stay); but see In re Burke, 198 B.R. 412, 416 (Bankr. S.D. Ga. 1996) (reopening simply did not reimpose stay).

149 No. 88-10415-B (Bankr. E.D. La. Nov. 9, 1992).

150 Tax Ct. No. 29771-89 (July 19, 1991).

151 66 T.C.M. (CCH) 850 (1993), aff’d 39 F.3d 1171 (3rd Cir. 1994).

152 BAP No. SC 92-1749-JERO (Bankr. 9th Cir. 1993).

153 14 F.3d 32 (9th Cir. 1994).

154 1994 U.S. Dist. LEXIS 11851, 74 A.F.T.R.2d (RIA) 6161 (W.D. Mich. 1994).

155 In United States v. Wright, No. IP 93-1402 C (S.D. Ind. July 15, 1994).

156 In re Siverling, 179 B.R. 909 (Bankr. E.D. Cal. 1995), aff’d 77 A.F.T.R.2d (RIA) 1067, 96-1 U.S. Tax Cas. (CCH) P50134 (E.D. Cal. 1996).

157 1997 Bankr. LEXIS 502, 79 A.F.T.R.2d (RIA) 2340 (Bankr. S.D.N.Y. Apr. 7, 1997).

158 In re Weisberger, 205 B.R. 727 (Bankr. M.D. Pa. 1997).

159 151 B.R. 1006 (Bankr. E.D. Ark. 1993).

160 27 B.R. 713 (Bankr. E.D. Tenn. 1983).

161 Hanna Coal Co. v. IRS, 218 B.R. 825 (W.D. Va. 1997).

162 Weiss v. United States, 2000 U.S. Dist. LEXIS 10663 (E.D. Pa. 2000).

163 116 S. Ct. 1114 (1996)

164 See Braniff Airways, Inc. v. Exxon Co., U.S.A., 814 F.2d 1030, 1035 (5th Cir. 1987).

165 T.C.M. (CCH) 2571 (1992).

166 In re Doan, 672 F.2d 831, 833 (11th Cir. 1982); see generally Segal v. Rochelle, 382 U.S. 375 (1965), 86 S. Ct. 511, 15 L.Ed.2d 428 (1966) (potential claims for loss carryback tax refund realized after the end of year in which taxpayer files bankruptcy petition, for losses suffered prior to petition filing, are property of the bankruptcy estate).

167 In re Harbaugh, 1989 WL 139254 (W.D. Pa. 1989), aff’d, 902 F.2d 1560 (3d Cir. 1990); In re Rozel Industries, Inc., 120 B.R. 944, 949 (Bankr. N.D. Ill. 1990); In re Ferguson, 83 B.R. 676, 677 (Bankr. E.D. Mo. 1988); In re Mason, 79 B.R. 786, 787 (Bankr. N.D. Ill. 1987); In re Dominguez, 67 B.R. 526, 528 (Bankr. N.D. Ohio 1986).

168 Braniff Airways, Inc. v. Exxon Co., USA, supra note 164 at 1036.

169 136 B.R. 306 (Bankr. M.D. Ga. 1991).

170 See cases cited supra note 167: In re Harbaugh, 1989 WL 139254 (chapter 7 case); In re Rozel Industries, Inc., 120 B.R. at 951–52 (chapter 11 case); In re Ferguson, 83 B.R. at 677–78 (chapter 13 case); In re Mason, 79 B.R. at 788 (chapter 13 case); In re Dominguez, 67 B.R. at 529 (chapter 13 case). See also Still v. United States In re W.L. Jackson Mfg. Co.). 50 B.R. 506, 508 (Bankr. E.D. Tenn. 1985) (chapter 11 case that converted to chapter 7).

171 79 B.R. at 788.

172 76 B.R. 208, 210 (Bankr. M.D. Fla. 1987).

173 In re Norton, 717 F.2d 767 (3d Cir. 1983).

174 Id. at 774.

175 158 B.R. 920 (S.D.N.Y. 1993).

176 159 B.R. 343 (Bankr. M.D. Fla. 1993).

177 In re Rush-Hampton Industries, 98 F.3d 614 (11th Cir. 1996).

178 164 B.R. 43 (Bankr. M.D. Pa. 1994).

179 In re Holden, 217 B.R. 161 (D. Vt. 1997), 258 B.R. 323 (D. Vt. 2000).

180 516 U.S. 16 (1995).

181 In re Holden, 236 B.R. 156 (Bankr. D. Vt. 1999).

182 United States v. Holden, 2000 U.S. Dist. LEXIS 12825 (D. Vt. 2000).

183 168 B.R. 448 (Bankr. S.D. Ga. 1994).

184 764 F.2d 1004 (4th Cir. 1985).

185 764 F.2d at 1006.

186 In re Southern Industrial Bank Corp., 809 F.2d 329, 332 (6th Cir. 1987); In re Norton, 717 F.2d at 772, supra note 173.

187 Supra note 169.

188 84-2 USTC (CCH) ¶ 9950 (Bankr. W.D. Tex. 1984).

189 In re A.E. Burrow, 84-2 USTC (CCH) ¶ 9758 (D.C. Utah 1984).

190 67 B.R. 526 (Bankr. D.C. Ohio 1986).

191 In re Dunhill Medical, Inc., 1996 Bankr. LEXIS 435 (Bankr. D.N.J. 1996).

192 In re Blake, 1998 Bankr. LEXIS 1515; 82 A.F.T.R.2d (RIA) 7343 (Bankr. D. Md. 1998).

193 1991 U.S. Dist. LEXIS 16731 (E.D.N.Y. 1991).

194 161 B.R. 960 (N.D. Ill. 1993).

195 1994 U.S. App. LEXIS 24273 (7th Cir. 1994).

196 In re Ramirez, 266 B.R. 441 (Bankr. D. Minn., Sept. 12, 2001).

197 In re Luongo, 259 F.3d 323 (5th Cir. 2001).

198 1991 U.S. Dist. LEXIS 11810 (E.D. Ark. 1991).

199 In re Doe, 58 F.3d 494 (9th Cir. 1995).

200 In re HAL, Inc., 196 B.R. 159 (Bankr. 9th Cir. 1996), aff’d 122 F.3d 851 (9th Cir. 1997).

201 31 U.S.C. ¶ 203 (1954).

202 300 U.S. 588 (1937).

203 Id. at 595.

204 Segal v. Rochelle, 382 U.S. 375 (1965); United States v. Shannon, 342 U.S. 288 (1952).

205 218 U.S. 345 (1950).

206 244 F.2d 828 (2d Cir. 1957).

207 489 F.2d 431 (9th Cir. 1973).

208 Id.

209 Segal v. Rochelle, supra note 204.

210 For a more detailed discussion on the assignment of tax refunds, see Novick and Seif, Perfecting Security Interests in Federal Tax Refund Claims, 12 U.C.C.L.J. 34 (1979).

211 300 F. Supp. 538 (N.D. Ill. 1969). See In re Sturgis Printing Co., 1 Bankr. Ct. Dec. (CRR) 1338 (Sept. 18, 1975).

212 Novick and Seif, supra note 210 at 46.

213 36 B.R. 956 (Bankr. Utah 1983).

214 S. Rep. No. 989, 95th Cong., 2d Sess. 29, 30 (1978). In In re Community Hospital of Rockland County, 5 B.R. 11 (D.C.N.Y. 1980), it was held that the bankruptcy court lacks jurisdiction to hear the debtor’s complaint when the government has not filed a proof of claim, even though the government was listed as a creditor in schedules filed with the court.

215 492 U.S. 96 (1989).

216 112 S. Ct. 1011 (1992).

217 United States v. Braeview Manor, Inc., 87 AFTR2d paragraph 2001- 813 (N.D. Ohio Mar. 26, 2001).

218 148 B.R. 361 (Bankr. S.D. Ga. 1992).

219 See Remke, Inc., 5 B.R. 299 (Bankr. B.C. Mich. 1980).

220 1994 Bankr. LEXIS 1252 (Bankr. N.D. Ill. 1994).

221 In re ABEPP Acquisition Corp., 215 B.R. 513 (B.A.P. 6th Cir. 1997).

222 Bean, Offer in Compromise, Proc., 9th Annual Reorganization & Bankruptcy Conf. 1 (1993).

223 Id.

224 Id. at 2.

225 62 Tax Notes 257 (1994).

226 Id.

227 In re Jones, 196 B.R. 542 (Bankr. D. Idaho 1996).

228 In re Hobbs, 1996 Bankr. LEXIS 698 (Bankr. N.D. Iowa 1996).

229 In re Motter, 1997 Bankr. LEXIS 304, 79 A.F.T.R.2d (P-H) 1676 (Bankr. M.D. Fla. 1997).

230 196 B.R. 542 (Bankr. D. Idaho 1996).

231 ILM 200113031; LTRServ, Apr. 9, 2001, p. 1782.

232 12 F.3d 497 (5th Cir. 1994).

233 8 F.3d 930 (2d Cir. 1993).

234 44 F.3d 328 (5th Cir. 1995).

235 914 F.2d 499 (4th Cir. 1990), cert. denied, 500 U.S. 905 (1991).

236 FSA 1998-297, 98 TNT 197-93 (Oct. 13, 1998).

237 I-201-84 (Nov. 26, 1984).

238 348 F.2d 528 (Ct. Cl. 1965).

239 No. IP-86-2978WP-V; LEXIS, 87 TNT 230-14 (Bankr. S.D. Ind. 1987).

240 Singer, Determination of Tax Liability, p. 10 (mimeograph).

241 William P. Cheng v. Commissioner, 938 F.2d 141 (9th Cir. 1991).

242 In William Thomas Plachter, Jr. v. United States, 1992 U.S. Dist. LEXIS 17234 (S.D. Fla. 1992).

243 149 Bankr. 591 (Bankr. 9th Cir. 1992).

244 Supra note 240.

245 S. Rep. No. 1035, 96th Cong., 2d Sess. 49 (1980).

246 54 T.C.M. (CCH) 1064 (1987).

247 Beery v. Commissioner, 1998 U.S. App. LEXIS 31081; 99-1 U.S. Tax Cas. (CCH) P50,207; 82 A.F.T.R.2d (RIA) 7323 (10th Cir. 1998).

248 In re Yochum, 89 F.3d 661 (9th Cir. 1996).

249 922 F.2d 696 (11th Cir. 1991).

250 4 F.3d 299 (4th Cir. 1993).

251 932 T.C. 166 (1989).

252 Hazel v. Commissioner, 696 F.2d 473 (6th Cir. 1989).

253 1966-1 C.B. 91; see Rev. Rul. 84-18, 1984-1 C.B. 88.