EFFECT OF OFFERS IN COMPROMISE ON THE 240DAY PERIOD OF SECTION 507(a)(8)(A)(ii) OF THE BANKRUPTCY CODE

(COMMISSION TRACK NUMBER 313)

Present Law

Any income tax assessed within 240 days of the debtor's bankruptcy petition is excepted from discharge. Bankruptcy Code Section 507(a)(8)(A)(ii). If an offer in compromise is made during the 240-day period, the 240-day period is expanded by thirty days plus the time the offer is pending.

In Chapter 7, this section applies primarily to contested issues that have been recently resolved. For example, assume the I.R.S. chooses a 1992 tax return for audit in 1994. The case is docketed in the Tax Court in 1995 and decided in May 1996. Despite the tax being more than three years old, this section gives the government eight months to collect the new assessment before the tax can be discharged in bankruptcy.

In Chapter 13, this section can trap an unwary debtor. A general requirement of most judges is that all tax returns must be filed before a Chapter 13 plan will be confirmed. With regard to tax years that are more than three years old, if the nonfiler complies by filing tax returns before filing the bankruptcy petition, this section may give the tax priority status. This happens if the tax on the returns is assessed prepetition by the I.R.S. Such a tax would be payable in full in Chapter 13. If the nonfiler complies by filing tax returns post-petition, this section has no application. The tax would be payable only with best efforts.

Several ancillary holdings should be noted. If a bankruptcy filing is made within the 240-day period, the 240-day period does not run while the automatic stay is in effect. United States v. Richards (In re Richards), 994 F.2d 763 (10th Cir. 1993); and West v. United States (In re West), 5 F.3d 423 (9th Cir. 1993 (240-day period stayed during bankruptcy plus an additional six months).

When two offers in compromise were made within the 240-day period, one court held that only the first offer in compromise should be used to expand the nondischargeability period. Callahan v. United States (In re Callahan), 168 B.R. 272 (Bankr. D. Mass. 1993).

Offers in compromise made prior to assessment do not affect the 240-day period. United States v. Aberl (In re Aberl), 78 F.3d. 241 (6th Cir. 1996). Aberl holds that the offer in compromise is not counted, even if the offer is made preassessment but is pending postassessment.

The 240-day period stops running when an offer is accepted for processing. Romagnolo v. United States (In re Romagnolo), 195 B.R. 801 (Bankr. M.D. Fla. 1996). The 240-day starts running again when an offer is rejected, regardless of a further appeal by the taxpayer. United States v. Klein (In re Klein), 189 B.R. 505 (C.D. Cal. 1995).

Proposals Before the Commission

Commission Track Number 313. Commissioner Shepard proposes that (a) the 240-day period be expanded to include preassessment offers; and (b) the 240-day period be expanded by any outstanding offer and not just the first offer. Santa Fe Discussion Issues, p. 10, Item II.B.3.

The Justice Department proposes that (a) the 240-day period be expanded to one year; and (b) Section 507(a)(8)(A) be expanded to include employment and excise taxes in addition to income taxes See our response to Commission Track Number 335. Justice Proposal, p. 92-93.

The Internal Revenue Service proposes that (a) the 240-day period be expanded to include preassessment offers; and (b) the 240-day period by stayed by installment agreements (in addition to offers in compromise). IRS Proposal, p. 43. See also Unnumbered Government Working Group proposal.

Task Force Position

Provided Bankruptcy Code Section 523(a)(1)(C) is not given an expansive reading by the courts and Chapter 13 remains available to pay nonpriority/nondischargeable obligations with best efforts, the Task Force proposes that (a) the 240-day period be expanded to one year; and (b) the one-year period be stayed by any pending offer. Such period should not be affected by installment payment agreements.

Reasons for Position

The Task Force agrees with the concept that the I.R.S. ought to have a reasonable amount of time to collect an assessed tax before it becomes dischargeable. Aberl and Callahan highlight fact patterns where the government did not receive the full 240-day period. Amending the statute to provide that any pending offer stays the 240-day period should cure these anomalies.

The Justice Proposal to enlarge the 240-day period to one year must be read in conjunction with other Bankruptcy Code sections. Current case law makes it uncertain whether tax relief can be obtained in Chapter 7. The willful attempt to evade or defeat standard of Bankruptcy Code Section 523(a)(1)(C) has been interpreted to mean that any nonpayment of tax results in the underlying obligation being nondischargeable. See, Toti v. United States (In re Toti), 24 F.3d 806 (6th Cir. 1994) (taxpayer had wherewithal to file his return and pay his taxes, but he did not fulfill his obligation; held, tax liability nondischargeable), cert. denied, 115 S.Ct. 482 (1994); Bruner v. United States (In re Bruner), 55 F.3d 195 (5th Cir. 1995) (agreed with analysis in Toti); and see our response to Commission Track Number 602, infra. In Track Commission Track Number 213, the government proposes expanding the denial of the superdischarge in section 1328(a) to all nondischargeable taxes in Chapter 7. If the government is willing to recognize relief for tax debtors under willful intent and allow relief in Chapter 13, then expanding the nondischargeability period to one year seems reasonable.

The Internal Revenue Service recommendation to stay the 240-day period for installment agreements should be rejected unequivocally. Given the frequency with which installment agreements are entered, this rule could make the nondischarge period for a tax unlimited. In turn, this rule would harm compliant taxpayers who are trying to pay off their tax while benefitting those taxpayers who thumb their noses at the government and say no to an installment agreement.

The proposal for expanding section 507(a)(8)(A) to include employment taxes and excise taxes highlights a significant information problem. See our response to this proposal, Commission Track number 335, infra. The rules in section 507(a)(8)(A)(i) and (ii) are time sensitive. For example, without a tax history, it is impossible to know when the I.R.S. accepted an offer in compromise and when it subsequently rejected the same offer. From a practitioner's perspective, it remains very difficult to obtain tax history information (MFTRA or MFTRA-X) from the Internal Revenue Service. It is almost impossible to obtain this information from some state and local taxing authorities. If these provisions are expanded, a corresponding rule should be passed requiring taxing authorities to make tax histories readily available. Without these tax histories, a taxpayer proceeds blindly with no ability to navigate these complex rules.

Questions, comments or suggestions? kbercik@taxcounsellor.com

Last updated June 1, 1997