09 Jan IRS to Chapter 13 Debtors: File Your Returns by February 5!
We all know that individual tax returns are due on April 15 (or a day or two later if April 15 is on a weekend). But Congress inserted a little tax time craziness into sections 1308 and 1307 of the new and drastically unimproved Bankruptcy Code of 2005. Section 1308(a) states:
(a) Not later than the day before the date on which the meeting of the creditors is first scheduled to be held under section 341 (a), if the debtor was required to file a tax return under applicable nonbankruptcy law, the debtor shall file with appropriate tax authorities all tax returns for all taxable periods ending during the 4-year period ending on the date of the filing of the petition.
At first reading, this section appears to only be dealing with those returns the debtor “was required to file” prior to the 341 hearing or “First Meeting of Creditors.” For example, if it’s February 5th, 2012, and I’m a debtor in bankruptcy, it can’t be said that I “was required” to file my 2011 return. After all, the IRS gives me until April 15.
But like many provision of the Bankruptcy Code, this one’s a little murky. And section 1308(b) provides:
(1) Subject to paragraph (2), if the tax returns required by subsection (a) have not been filed by the date on which the meeting of creditors is first scheduled to be held under section 341 (a), the trustee may hold open that meeting for a reasonable period of time to allow the debtor an additional period of time to file any unfiled returns, but such additional period of time shall not extend beyondâ€”
(A) for any return that is past due as of the date of the filing of the petition, the date that is 120 days after the date of that meeting; or
(B) for any return that is not past due as of the date of the filing of the petition, the later ofâ€”
(i) the date that is 120 days after the date of that meeting; or
(ii) the date on which the return is due under the last automatic extension of time for filing that return to which the debtor is entitled, and for which request is timely made, in accordance with applicable nonbankruptcy law. [emphasis added].
Reading both 1308(a) and (b) together, along with a few tea leaves and tarot cards thrown in for good measure, we see that the requirement of 1308(a) applies even to returns not yet due. So if you haven’t filed your 2011 return, and your 341 hearing is scheduled for February 6, you’d better have your return filed by February 5!
And what if I don’t file my return prior to my 341?
If you don’t, the trustee “may hold open that meeting for a reasonable period of time to allow the debtor an additional period of time to file any unfiled returns” as noted above. At the very least, that holds up confirmation of your plan. And if you have a not-so-friendly Chapter 13 trustee, she just might not hold the meeting open and instead proceed under section 1307(e), which provides:
(e) Upon the failure of the debtor to file a tax return under section 1308, on request of a party in interest or the United States trustee and after notice and a hearing, the court shall dismiss a case or convert a case under this chapter to a case under chapter 7 of this title, whichever is in the best interest of the creditors and the estate.
What this means is that, in our example, if you don’t have your return filed by February 5, the U.S. Trustee or a “party in interest” (i.e., pretty much anyone including your crazy ex-wife) may file a motion, and the court “shall dismiss a case or convert a case under this chapter to a case under chapter 7.”
This presents huge problems for self-employed debtors
For most W-2 employees, filing tax returns isn’t that big of an undertaking, assuming they get their W-2 from their employers in a timely fashion. Still, getting the return filed by February 5, or even a few weeks later, can be difficult when the debtor may be dealing with issues in his bankruptcy case.
But for self-employed debtors, this requirement presents an impossibility. Many self-employed debtors must first file corporate or partnership returns prior to filing their own individual tax returns.
Furthermore, holding the first meeting open accomplishes nothing. Trustees have the right to demand annual tax returns under section 521 or to require the debtor to furnish the trustee the last year’s return even after confirmation. After all, what’s the difference between a case filed on December 31 and one filed on January 1? Why should one case be administered under the draconian requirements of 1308(a) and the other, filed a day earlier, escape these requirements?
But the IRS needs the returns to file their claims on time!
No they don’t. Governmental creditors already get 180 days to file claims because we assume the government can’t possibly do anything on time. So for that January 1 bankruptcy petition, the IRS has 180 days after that to file its claim–way beyond April 15.
Would the IRS really do this?
Yes, apparently it would. The IRS Office of General counsel in North Carolina reminded bankruptcy lawyers in the South Carolina bar of this in a letter dated August 11, 2011–which, amazingly was signed by a staff attorney in “Group 1, business/self-employed.” I say, “amazingly” because the IRS attorney signing this letter should know that there’s no earthly way debtors can pull partnership and corporate returns out of their ears in early February, then follow up with a quick 1040 filing.
Mom says just because you can doesn’t mean you should
There is nothing in the Code requiring the IRS to hassle debtors by filing unnecessary motions like this. As mom used to say, “just because you can doesn’t mean you should.” Ditto for the IRS. Searching the hills of North Carolina for illegal stills would be a better use of IRS resources.
And if they persist, there’s the 1040WAG
Okay, I just made that up. But here’s what it is. It’s a 1040 return where the debtor takes a wild-assed guess (hence the “WAG”) at what he should put down, then files it. Voila, no more problems. He then amends the return at a later date (filing a 1040X–there really is such a thing) when he obtains W-2s, other records, partnership returns, corporate returns, and so on. Problem solved! This is, after all, what the government asked for.
Of course, this accomplishes nothing but allowing the debtor to assert compliance with a nonsensical rule which should not be enforced. Instead, it would be better if the IRS focused on its core mission–collecting taxes.
Postscript: On both a personal and professional level, I genuinely like the people I’ve come in contact with at the IRS on behalf of my clients. I do, however, object to the Office of Division Counsel in North Carolina threatening debtors with dismissal for failing to do something which is impossible. Chapter 13 bankruptcy is about paying creditors back, including the IRS. The IRS should work to assist debtors to accomplish this goal, rather than threatening hard-working, honest Americans in the throes of the worst economy since the Great Depression.
For one of the few decisions analyzing this issue, see In re French, Case No. 06-20066 (Bankr. E.D.W.I. 2006). In addition, United States v. Novello, Case No. 08-2362-JAR, a U.S. District Court case in Kansas , is worth reading. In Novello, the U.S. District Court reversed the Bankruptcy Court’s use of section 105 (allowing the court to issue any order necessary to carry out the provisions of the Code) to deny the IRS’s motion to dismiss the case. After explaining that the Bankruptcy Court improperly used section 105–albeit in a common-sense fashion–the District Court admonished the IRS by stating: “In so ruling, the Court repeats the observations of the bankruptcy court in this case as well as in McCluney, that a motion to dismiss brought under Â§ 1307(e) is discretionary and that once a return is filed soon after the motion to dismiss, that statuteâ€™s purpose has been fulfilled. The bankruptcy court was understandably frustrated by the tactics of the United States and the resulting inequity to the debtor. As the bankruptcy court noted, just because the IRS has the power to pursue such a motion does not mean it should seek to enforce it with â€œunwavering tenacityâ€ under any and all circumstances. The United States has succeeded on appeal. Upon remand, however, it would behoove the United States to consider whether the gain incurred by continued pursuit of its motion to dismiss under the circumstances of this case comes at the cost of its goodwill with the bankruptcy court.” Words of wisdom–sounds like something mom would say.
And for even more reading on this fascinating subject, see “Pre-Petition Tax Returns, Post-Petition Tax Payments, and Proper Characterization of State Tax Claims” by Texas Assistant Attorney General, Kimberly Walsh.
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