Opinion
CASE NO. 18-3417-RLM-12
07-13-2020
IN RE: Robin S. RICHARDS, Marianna K. Richards, Debtors
Wendy D. Brewer, Fultz Maddox Dickens PLC, Indianapolis, IN, Debtors.
Wendy D. Brewer, Fultz Maddox Dickens PLC, Indianapolis, IN, Debtors.
ORDER SUSTAINING DEBTORS' OBJECTION TO IRS CLAIM #3-4 And OVERRULING IRS' OBJECTION TO CLAIM #28
Robyn L. Moberly, United States Bankruptcy Judge Robin and Marianna Richards (the "debtors") filed this chapter 12 case on May 3, 2018. Theirs is the lead case of three jointly administered chapter 12 cases filed by members of the Richards family. The three cases have been on the same track, with each of the three cases having been filed on the same day. Their chapter 12 plans were confirmed on October 22, 2018. The debtor's plan provided that any tax claims arising from the additional liquidation of farm assets in 2018 during the pendency of the bankruptcy case would qualify for priority-stripping treatment under § 1232 and shall be treated as unsecured claims and discharged. The debtors sold farm assets post petition during 2018.
The related member cases are Eric and Catherine Richards, No. 18-3418-RLM-12 and Aaron and Angela Richards, No. 18-3419-RLM-12.
On March 29, 2019, the debtors, along with the debtors in the member cases, sent the § 1232(d)(2) notice to the IRS of the filing of their 2018 return. They included a copy of their 2018 federal tax return (the "1040 return") (which included the income from the 2018 sale of farm assets and showed a tax liability of $100,716) and their 2018 pro forma 1040 federal tax return (the "pro forma return") (which excluded the income from the 2018 sale of farm assets and showed a tax liability of $33,391). The debtors' March 29th notice triggered the 180 day deadline under § 1232(d)(3) for the IRS to file its claim for 2018 taxes. The IRS failed to file a proof of claim within that timeframe and on October 28, 2019, pursuant to § 1232(d)(3), the debtors filed a claim on its behalf ("Claim #28") for $67,325. After the 180-day period imposed by § 1232(d)(3), the IRS amended its claim for 2016 and 2017 taxes. This amendment of the proof of claim for the 2016 and 2017 tax liability included tax liabilities for 2018 for the first time. The most recent amendment was filed by the IRS on March 10, 2020 as Claim #3-4 ("IRS Claim #3-4") for $61,751.
To arrive at the amounts contained in their respective claims, the debtors and the IRS calculated the difference between the 1040 return liability ($100,716) and the pro forma ($33,391) which resulted in the tax liability related to the 2018 sale of farm assets entitled to § 1232 treatment ($67,325). Both applied the 2018 tax payments made by the debtors ($38,965) to the pro forma liability ($33,391) effectively reducing that amount to $0. The dispute here centers on how the remainder of the 2018 tax payments ($5,574) should be applied. The debtors assert that after utilizing § 1232(d)(3), their total 2018 tax liability was $33,391, which they overpaid by $5,574. Therefore, this amount is a refund to which they are entitled. However, the IRS takes the position that the $5,574 should be applied to the tax liability arising from the § 1232(d)(3) farm sale income which otherwise is discharged as an unsecured debt in this bankruptcy. Therefore, after applying the $5,574 to the unsecured farm sale income, the IRS argues the remaining unsecured tax liability for 2018 is now $61,751. Quite obviously, the actual amount of the tax claim 2018 is unimportant because whatever the amount, it will be discharged in the bankruptcy. The issue boils down to whether the sums paid which exceed the 2018 tax liability, after applying section § 1232(d)(3), should be applied by the IRS to the unsecured 2018 tax that will be discharged, or refunded to the Debtors.
The debtors objected to the IRS Claim #3-4 and the IRS objected to Claim #28. Both have filed responses to the other's objections. The Court held a hearing on the debtors' objection to the IRS Claim #3-4 on May 12, 2020. The debtors' response to the IRS's objection to Claim #28 was not due and was not filed until May 26, 2020. However, the parties' respective objections are so interrelated and were discussed at the May 12th hearing such that the Court has determined that additional hearing on the IRS's objection to Claim #28 is not needed. The debtors seek only to strike the IRS's Claim #3-4 and to overrule the IRS's objection to Claim #28. Thus, before the Court are issues related to the allowance and disallowance of claims against the estate, over which this Court has core jurisdiction under 28 U.S.C. § 157(b)(2)(B).
Debtors' Objection to IRS Claim #3-4
The IRS does not dispute that it filed Claim#3-4 out of time but argues that the late claim should be allowed because its untimely filing was due to "excusable neglect". The IRS did not file a Motion to Extend time to file its claim but argues Rule 9006(b)(1) should apply.
Rule 9006(b)(1) of the Federal Rules of Bankruptcy Procedure allows a court within its discretion to allow a late filing if the failure to file within the specified period set by the bankruptcy rules or the court was due to excusable neglect. "Excusable neglect" is not limited to situations where the late filing was due to circumstances beyond the reasonable control of the late filer. It includes omissions caused by inadvertence, mistake or carelessness. Pioneer Investment Srvs. Co. v. Brunswick Assoc. Ltd. P'ship , 507 U.S. 380, 113 S.Ct. 1489, 123 L.Ed. 2d 74 (1993). Factors considered in whether a failure to act was due to excusable neglect include (1) prejudice to the debtor if the late filing is allowed; (2) length of delay and its impact on the judicial proceedings; (3) the reason for the delay and whether the circumstances that caused the late filing were within the reasonable control of the movant and (4) whether the movant acted in good faith. A court may consider "all relevant circumstances" in its excusable neglect analysis. Pioneer , 507 U.S. at 395, 113 S.Ct. at 1489 ; In re KMart Corp ., 381 F.3d. 709,714 (7th Cir. 2004) ; F.D.I.C. v. J.P. Morgan Acceptance Corp ., 958 F.Supp.2d 1002, 1008 (S.D. Ind. 2013). The movant seeking allowance of a late claim bears the burden of proving excusable neglect. In re Motors Liquidation Company , 600 B.R. 482, 488 (Bankr S.D.N.Y. 2019).
The IRS submitted the declaration of Elizabeth Medina, a bankruptcy specialist with the Insolvency Unit of the IRS, who was assigned to this lead case and the two related member cases in April 2019. [Declaration of Elizabeth A. Medina, Dkt 85-1]. Taxpayers' returns information is stored in the IRS's Integrated Data Retrieval System (IDRS) and she became aware on August 6, 2019 that the debtors had submitted the pro forma return. [Medina dec., ¶8]. She received the pro forma return and the 1040 return on August 15, 2019. [Medina dec. ¶9]. Upon review, she realized that the IRS had incorrectly processed the pro forma return instead of the 1040 return in the two member cases and determined that all the debtors in the three cases needed to file 1040X returns. She received the 1040X return for the debtors here on August 27, 2019 [Medina dec, ¶10, 11 and 13]. That same day, she sent the 1040X returns to the IRS Campus in Cincinnati, Ohio. It was the practice of the Insolvency Unit to wait until the particular IRS campus to which the return was assigned actually processed the return before filing a claim in the bankruptcy case. The debtors' return was not processed until April 6, 2020. [Medina dec., ¶14]. Yet, over five months earlier on November 27, 2019, Medina learned that the debtors had filed Claim #28 on the IRS' behalf. [Medina dec., ¶15]. On December 23, 2019, Medina prepared what was later filed as Claim 3-3 and on February 20, 2020 prepared what was later filed as Claim 3-4. Although she prepared Claim #3-4 on February 20, 2020, a technical glitch with the electronic proof of claim system prevented the claim from being filed on that date. [Medina Dec. ¶20, 21]. Claim #3-4 was actually filed on March 10, 2020. Medina was also teaching other IRS employees in October and November 2019 which prevented her from performing her duties as Bankruptcy Specialist. [Medina dec., ¶15].
The IRS does not challenge the sufficiency of the notice given on March 29, 2019 nor the manner in which it was communicated to the IRS. Thus, it can be reasonably inferred that the notice was directed to someone who had responsibility to see that a timely claim was filed. Medina herself avers that as of August 6, 2019 she was aware that the debtors had filed the pro forma return. Attached to the debtors' supplemental brief was a printout of an August 15, 2019 email thread between the debtors' attorney and Medina where Medina indicated she would file a claim for the 2018 taxes in all three cases once she received the 1040 returns. Medina in that email thread even provided an efax number. Medina averred in her declaration that she received both the 1040 return and the pro forma return on August 15, 2019. Granted, Medina determined that the debtors here as well as the debtors in the companion cases needed to amend their returns and file 1040X returns, but Medina received those 1040X returns less than two weeks later, well before the 180-day deadline.
Control over the circumstances of the delay under the third Pioneer factor weighs heavily in an analysis of excusable neglect. In re Dixie Management Group, Inc. No. 01-71901, Adv. 03-7051, 2003 WL 21434766, at *2 (Bankr. C. D. Ill. June 19, 2003) ("[t]he single most important factor under Pioneer is control over the circumstances of the delay"). Here, the reason for the delay and the circumstances surrounding it decisively favor the debtors. The reason for the delay in filing the claim was due to the IRS' self-imposed constraint that a proof of claim is not filed until after the campus to which the claim is assigned has processed the return. However, this excuse is unpersuasive since the IRS could have filed an estimated claim as a placeholder before the expiration of the 180-day deadline and could have later amended that claim once the Cincinnati campus processed the returns. The filing of the claim was well within the IRS's control because it managed to file a timely amended claim on May 4, 2019 which included the 2018 taxes (or at least filed it close enough to the deadline that the debtors did not file a claim on the IRS's behalf) in the companion case of Eric and Catherine Richards, No. 18-3418. In the Aaron and Angela Richards case, No. 18-3419, the IRS likewise filed a late 2018 claim on December 23, 2019 but did not respond to the debtors' objection to it and so that late claim has been stricken. In case No 18-3419, the debtors filed a claim on the IRS's behalf to which the IRS has not objected.
Claim #3-4 was filed nearly a year after the IRS received notice by letter of the filing of the debtors' 2018 taxes and copies of the 1040 return and the pro forma return. The deprioritized tax claims for 2018 are Class 6 claims under the confirmed plan. Both Class 6 and Class 7 claims (non-§ 1232 related general unsecured claims) are discharged when the debtors receive a discharge. Class 6 and 7 Claims are paid pro rata from the balance of proceeds from lands sales, lawsuits and agricultural operations as well as plan payments remaining after satisfaction of Class 3, 4 and 5 claims. The IRS's delay impacted the administration of the case as the chapter 12 trustee cannot determine the pro rata shares of the Class 6 and 7 claimants without a viable 2018 tax claim. The Court makes no determination as to whether the IRS acted in bad faith when it amended its Claim #3-4 beyond the 180-day period and after the debtors filed Claim #28. Nothing else in the record indicates that the IRS did not act in good faith. For purposes here, however, the first, second and third Pioneer factors fall in the debtors' favor. The IRS's delay in filing its claim was not due to excusable neglect and its untimely filing cannot be allowed on that basis.
While the Court has determined that the neglect causing the late filed claim was not excusable, it bears mentioning that an "excusable neglect" defense might not be available here. Fed. R. Bankr. P. 9006 (b)(1) generally provides that a late filing can be excused in cases where the filing deadline is provided for "by these rules or by a notice given thereunder or by order of court". So, for the IRS to be afforded the excusable neglect defense under Fed. R. Bankr. P. 9006(b)(1), the 180-day deadline must be a deadline provided for by the bankruptcy rules , a notice given under the bankruptcy rules , or a court order. While Fed. R. Bankr. P. 3002(c)(1) provides the deadline in which to file a pre petition tax claim in a chapter 12 case, there appears to be no rule-counterpart to § 1232(d) which establishes the 180-day deadline for post petition § 1232 tax claims. The confirmation order did not specify the deadline in which to file such claims. Reading Fed. R. Bankr. P. 9006(b)(1) literally, the deadline which the IRS neglected was not established by a bankruptcy rule , a notice given under a bankruptcy rule , or a court order and Fed. R. Bankr. P. 9006(b)(1) does not apply.
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IRS's Objection to Claim #28
The IRS objects to Claim #28, urging that it be allowed in the amount as set forth in the IRS Claim #3-4. Section 1232(d)(3) provides that a governmental unit cannot amend a claim filed by a debtor, but it does not expressly prohibit it from objecting to the claim. However, sustaining the IRS' objection to Claim #28 effectively amends Claim #28 and would allow the IRS to do indirectly what it by statute is prohibited from doing directly. Nonetheless, the Court will address the IRS's argument.
Section 1232(d)(4) provides that § 1232-eligible claims shall be allowed under § 502(a), (b) or (c) in the same manner as if the claim had arisen pre-petition. In turn, § 502(b)(1) provides that a claim shall be allowed "except to the extent that such claim is unenforceable against the debtor and property of the debtor under any agreement or applicable law ...". The IRS argues that, for an offset to occur, there must be an "overpayment". Applicable tax law and Treasury regulations provide that an "overpayment" occurs only when a taxpayer pays more than what she owes for a particular tax period. The IRS argues that the 2018 taxes paid by the debtors, after application against the pro forma liability, should have been further applied to the total tax liability as shown on their 1040 return. The IRS argues that the pro forma itself is not a return, but merely an analytical tool by which to determine the § 1232 taxes subject to deprioritization. To determine whether there is an "overpayment", the taxes paid must be measured against the amount of tax due as shown on the debtors' 1040 return, not the pro forma. Applying the 2018 taxes paid ($38,965) against the 1040 liability ($100,716) results in remaining liability of $61,751. Application of the remaining $5574 in tax payments against the 2018 liability of $67,325 renders the same result. The amount of the taxes paid did not exceed the amount of taxes owed and thus there is no "overpayment" and hence no "refund". Thus, Claim #28 is unenforceable and must be disallowed to the extent it exceeds $61,751.
The Court believes this argument misses the mark, given the purpose of § 1232. First, the IRS applied the $5574 against the § 1232 eligible taxes that are to be treated as general unsecured claims subject to discharge. In a case with similar facts, a bankruptcy court determined that withheld taxes cannot be offset against § 1232 deprioritized debt. In re DeVries , No. 19-00181, 2020 WL 2121260 at *5 (Bankr. N. D. Iowa April 28, 2020). In that case, the IRS objected to confirmation of chapter 12 plan that provided for the IRS to deliver tax refunds to the estate for refunds withheld during the 2017 tax year. The debtors there had incurred a significant tax debt from the pre petition sale of farm assets that, but for § 1232 treatment, would have been entitled to priority status. The amount of the debtors' withheld taxes exceeded the tax liability as shown on their pro forma return and indicated that they were entitled to a refund. The IRS argued that it properly exercised its right to setoff under § 553. Unlike the confirmed plan here, the proposed plan in DeVries did not expressly provide that the plan provided the exclusive means of post petition payment and that collection on a claim by offset was prohibited. (Plan, ECF #23 ¶11.03).
The DeVries court determined that § 1232 and § 553 were in conflict. It found that § 1232 was the more specific, and thus, it governed over the more general § 553. It discussed the legislative history behind § 1232 and concluded that
Congress intended the priority-stripping provision to be interpreted to promote successful reorganizations of family farming operations – by limiting the impact of substantial capital gains taxes that tend to follow the sale of farm land or equipment – and to put that capital into the farmers' hands—not the taxing authorities. Allowing taxing entities to setoff withheld taxes against these capital gain taxes runs directly counter to these objectives.
DeVries at *5. (emphasis added). The court overruled the IRS's objection and confirmed the plan that provided that the IRS refund the withheld taxes to the debtors.
The IRS here applied the overpayment to § 1232 taxes that were to be treated as general unsecured, dischargeable claims. The confirmed plan here provides that the chapter 12 trustee shall pay the IRS its pro rata share of these claims from plan payments and other sources. Applying $5574 to the § 1232-qualifed 2018 taxes favored treatment of the IRS's general unsecured claim over those of other creditors in the same class. The plan specifically prohibits payment of such claims in any other manner, including setoff. Even had the confirmed plan not so provided, the IRS's right to setoff is suspect under DeVries . The court concludes that that Claim #28 is not unenforceable under § 502(b)(1) and thus overrules the IRS's objection.
Accordingly, the Court ORDERS that
(1) the debtors' objection to the IRS Claim #3-4 is SUSTAINED and Claim #3-4 shall be STRICKEN; and
(2) the IRS's objection to Claim #28 is OVERRULED. Claim #28 shall be allowed as filed.