Legitimate bankruptcy planning does not include electing to roll over $41,000 in tax refunds to a tax year after filing. Bankruptcy Judge Thomas J. Tucker denied a couple’s discharges under Section 727(a)(2)(B) for making a transfer with intent to hinder the chapter 7 trustee by making a transfer after filing.
It’s little consolation to the debtors, but Judge Tucker ruled that the elections were not grounds for denial of discharge under Sections 727(a)(2)(A) and (a)(4)(A) for a transfer within a year before filing with intent to hinder, delay or defraud or for fraudulently and knowingly making a false oath.
To add insult to injury, the debtors ultimately turned over the refunds to the trustee, meaning that they didn’t receive discharges and lost the refunds.
Innocent Debtors?
The couple were not conniving crooks. The husband’s health was deteriorating from cancer until he was forced to stop working. Pressed by creditors, the couple were forced to sell business assets.
The couple’s tax returns were exceedingly complex because it was unclear how much in capital gains tax they would have to pay from the sale of business assets that had been depreciating over the years. And they weren’t preparing their own tax returns.
The debtors employed a tax accountant they had used for 25 years and who knew their affairs. By the time the accountant was able to complete and file their returns, the returns were almost one year beyond the April 15 deadline for tax year 2018. Expecting to have substantial tax liability, the couple had paid a $13,000 installment just before the six-month extension expired.
As it turned out, they had overpaid their 2018 taxes by about $40,000. When they filed their returns five months before filing in chapter 7, they elected to have their 2018 overpayment applied to their 2019 tax liabilities. The debtors made the election based on a fear that they would have gains again in 2019, resulting in taxes they could not pay were they to take cash refunds that they might lose to creditors who were pressing for payment.
The tax situation remaining complex, the debtors were again late in filing their 2019 returns. They filed their chapter 7 petition in August 2020 and filed their 2019 returns about three weeks later. Again, it turned out that they were entitled to a refund, but again they elected to have the $41,00 refund applied toward their 2020 tax liabilities.
The debtors’ schedules were faulty. They listed the $13,000 installment they had made but claimed that their tax refunds were “unknown,” even though they knew three weeks after filing that they were entitled to a $41,000 refund. They made the same false representations at the meeting of creditors, after they had filed their returns showing a $41,000 refund.
The trustee investigated, learned the size of the refunds, and filed an adversary proceeding to deny the debtors’ discharges. The debtors turned over the tax refund demanded by the trustee, but the trustee pursued denial of discharge.
The April 17 opinion by Judge Tucker is a tour de force in terms of laying out the elements of denial of discharge. The trustee prevailed on only one of three theories, but one is enough to deny discharge.
Grounds for Discharge Denied
A debtor will lose a discharge under Section 727(a)(2)(A) for a transfer within a year before bankruptcy made with intent to hinder, delay or defraud a creditor or the trustee.
With regard to the election in their 2018 returns, Judge Tucker said the couple had “no such intent with respect to any creditor.” He said their “sole intent” was to have enough money to pay their 2019 taxes.
Judge Tucker went on to say:
Such intent does amount to an intent to give preferential treatment to those two taxing authorities, which were creditors of the Debtors, compared to the treatment of other creditors. But as a matter of law, a debtor’s mere intent to prefer one creditor over other creditors cannot be deemed an intent “to hinder, delay, or defraud” a creditor or creditors, within the meaning of § 727(a)(2)(A).
Similarly, the debtors did not lose their discharges as a result of their 2019 returns under Section 727(a)(4)(A), which proscribes making a false oath.
The trustee contended that the debtors should lose their discharges by having testified at the meeting of creditors that they didn’t know how much they would have in tax returns, when they had already filed their 2019 returns showing a $41,000 refund.
Judge Tucker said that the trustee had failed to prove that the debtors had made false statements “fraudulently.” Although the statements were false, he said that the debtors knew for a fact that the trustee would see their tax returns. Perhaps giving the debtors the benefit of the doubt, the judge said he was persuaded that the debtors “could not possibly have intended to deceive or mislead the Trustee about their tax refunds when they made their false statements about them.”
The Post-Petition Transfer
Having dodged two bullets, the debtors were hit by a third, Section 727(a)(2)(B). That section deprives a debtor of a discharge for making a post-petition transfer of estate property with intent to hinder, delay or defraud a creditor or the trustee.
The trustee took the position that the election to apply the $41,000 2019 refund to the couple’s 2020 taxes was a transfer of estate property. Judge Tucker agreed. By a preponderance of the evidence, he agreed that the election was made with intent to hinder the trustee.
More precisely, Judge Tucker said that the debtors did not actually hinder the trustee, because they turned the refund over to the trustee. Still, he said it was the debtors’ intent “that matters,” even though there was no actual harm.
Judge Tucker denied the debtors’ discharges because he found them to have had an “actual subjective intent” to hinder the trustee in making the election for the 2019 refund to be applied to 2020 taxes.
Legitimate bankruptcy planning does not include electing to roll over $41,000 in tax refunds to a tax year after filing. Bankruptcy Judge Thomas J. Tucker denied a couple’s discharges under Section 727(a)(2)(B) for making a transfer with intent to hinder the chapter 7 trustee by making a transfer after filing.
It’s little consolation to the debtors, but Judge Tucker ruled that the elections were not grounds for denial of discharge under Sections 727(a)(2)(A) and (a)(4)(A) for a transfer within a year before filing with intent to hinder, delay or defraud or for fraudulently and knowingly making a false oath.
To add insult to injury, the debtors ultimately turned over the refunds to the trustee, meaning that they didn’t receive discharges and lost the refunds.