No. 8540456-7United States Bankruptcy Court, D. Kansas
April 3, 1990
Carol Clark, Lentz Clark, Mission, Kansas.
Candice Marie Will, Tax Division of U.S. Department of Justice, Washington, D.C., Office of U.S. Attorney, Topeka, Kansas.
Joseph I. Wittman, Topeka, Kansas, Trustee
Property of the Estate — Trustees — Prepetition EstimatedTax Payments. — A bankruptcy trustee was not entitled to recover prepetition estimated tax payments as property of the estate. After the debtor made a tax payment, he retained a right to have it credited against his tax liability and to have any excess refunded to him. Congress did not intend to apply Internal Revenue Code § 1398 in a fashion such as when the debtor failed to make an election, the estate became entitled to a refund of the entire estimated tax payment.
PUSATERI, Bankruptcy Judge
See Sec. 541(a)(1) at ¶ 9501.
Voidable Transfers — Preferences — Estimated Tax Payment— No Antecedent Debt. — An estimated tax payment was not a transfer to the government which constituted a preference avoidable under Section 547(b) of the Bankruptcy Code. The payment was not made for an antecedent debt since it was made on an April 1 date and was not due to the government until April 15 of that year.
See Sec. 547(b) at ¶ 9529.
Fraud — Taxes — Proof by Trustee. — An estimated tax payment to the government before a debtor filed for bankruptcy was not a fraudulent conveyance. The court could not find that the payment was a fraudulent conveyance upon proof of the debtor’s insolvency at the time of the transfer. The trustee could not prove the elements of Section 548(a)(2)(A) or (b)(1) of the Code.
See Sec. 548(a) and (b) at ¶ 9540 and 9541.
This adversary proceeding is before the court on renewed motions for summary judgment filed by the United States of American on behalf of the Internal Revenue Service (the government) and the debtor Ralph Weir. The government appears by Candice Marie Will and Benjamin L. Burgess, Jr. The debtor appears by Carl Clark. The plaintiff trustee appears by Joseph I. Wittman. The court has reviewed the relevant pleadings and is now ready to rule.
The following facts are uncontroverted. In March of 1985, the debtor sold some stock, realizing a capital gain of $150,000. On April 1, 1985, on the advice of his attorney and accountant, the debtor made a $27,000 first quarter estimated income tax payment to the government for his 1985 taxes. He made this payment because he had the large capital gain, he wanted to avoid penalties for underestimating his 1985 income tax liability, and he had the cash available from the sale to make the payment and did not know whether he would still have the money when the tax came due. The debtor filed for bankruptcy on May 20, 1985. He did not elect to split his tax year as permitted under 26 U.S.C. § 1398(d) and the time has passed for him to do so.
In 1984, the debtor had taxable income of $40,309 and tax liability of $7,965 before a general business credit of $1,277 and a tax on recapture of investment tax credit of $19, for an ultimate liability of $6,707. In 1985, he had taxable income of $76,880 and tax liability of $31,823. Besides the $27,000 estimated tax payment, he had $3,935 in federal income tax withheld and had to pay $888 more when he filed his return (excluding penalties and interest).
The trustee filed this adversary proceeding to try to recover the estimated tax payment as property of the estate, a voidable preference, or a fraudulent conveyance. This court had previously denied motions for summary judgment due to unresolved factual issues. It now appears sufficient facts are established to permit a decision on the government’s and the debtor’s renewed motions for summary judgment.
CONCLUSIONS OF LAW
Federal Rule of Civil Procedure 56, governing grants of summary judgment, is made applicable to bankruptcy proceedings by Bankruptcy Rule 7056. F.R.Civ.P. 56 provides that this Court must grant summary judgment “if the pleadings, depositions, answers to interrogatories, and admissions on file, together with the affidavits, if any, show that there is not a genuine issue as to any material fact and that the moving party is entitled to judgment as a matter of law.” In considering a motion for summary judgment the Court must examine all the evidence in a light most favorable to the party against whom summary judgment is sought. Summary judgment is inappropriate if an inference can be deduced from the facts which would allow the nonmovant to prevail. The court must consider factual inferences tending to show triable issues in the light most favorable to the existence of those issues. Where different ultimate inferences may properly be drawn, the case is not one for summary judgment. United States v. O’Block, 788 F.2d 1433, 1435 (10th Cir. 1986).
At this stage of the proceeding, the trustee’s claims essentially all revolve around an interpretation of a tax code provision found at 26 U.S.C. § 1398 (IRC § 1398). Subsection (a) of that statute provides that the section applies to a chapter 7 bankruptcy case in which the debtor is an individual, like the instant one. Subsection (d)(2) provides that such a debtor may elect to treat the year of his bankruptcy as two taxable years, the first ending the day before he files his petition and the second beginning the day he files. The legislative history explains the effect of this provision:
As a result of the debtor’s making the election, his or her Federal income tax liability for the first short taxable year becomes (under bankruptcy law) an allowable claim against the bankruptcy estate as a claim arising before bankruptcy. Accordingly, any tax liability for that year is collectible from the estate, depending on the availability of estate assets to pay debts of that priority. Inasmuch as any such tax liability for an electing debtor’s first short taxable year is not dischargeable, the individual debtor remains liable for any amount not collected out of the bankruptcy estate (new 11 U.S. Code sec. 523(a)(1)). If the debtor does not make the election, no part of the debtor’s tax liability from the year in which the bankruptcy case commences is collectible from the estate, but is collectible directly from the individual debtor.
H.R. Rep. No. 833, 96th Con., 2d Sess. 21 (1980); S. Rep. No. 1035, 96th Cong., 2d Sess. 26 (1980), both reprinted in Collier on Bankruptcy, Special Supplement, Text of Bankruptcy Tax Act of 1980 with House and Senate Reports (1981). The trustee argues that when the debtor fails to make this election, the provision means not only that the debtor’s 1985 income tax is not collectible from his estate, but also that any estimated tax (and presumably any withholding) payments the debtor made before he filed his bankruptcy petition must be returned to the estate for distribution to his creditors. He attempts to fit this reading of the statute into each of the three theories noted above, that is, that the estimated tax payment is property of the estate or its transfer to the government constituted a voidable preference or fraudulent conveyance.
First, the trustee argues he is entitled to turnover of the estimated tax payment as property of the estate. Essentially, he contends that when the debtor filed his bankruptcy petition, his prior estimated tax payment became property of the estate which could be applied only to the estate’s income tax liability, not to the debtor’s, and when the debtor failed to make the election under IRC § 1398, the estate became entitled to a refund of the entire estimated tax payment because the government had no claim against it for the debtor’s 1985 tax year. The court believes this theory extends IRC § 1398 further than Congress intended it to go. As pointed out by the debtor, under Bankruptcy Code § 541(a)(1), 11 U.S.C. § 541(a)(1), the debtor’s estate is comprised only of “all legal or equitable interests of the debtor in property as of the commencement of the case.” After he had made the estimated tax payment, so far as the court is aware, the debtor retained only the right to have the payment credited against his 1985 tax liability and to have any excess refunded to him. The trustee has cited no authority for the proposition the debtor could somehow have obtained a refund of any of the payment before the end of his tax year and without otherwise paying his tax liability in full. The estate would be entitled to share in any refund due the debtor, In re Koch, 14 B.R. 64 (Bankr.D.Kan. 1981), and would not be liable for any additional income tax owed by the debtor for 1985, In re Turboff, 93 B.R. 523 (Bankr.S.D.Tex. 1988), but IRC § 1398
does not entitle it to recover prepetition estimated tax payments as property of the estate.
Next, the trustee argues the estimated tax payment constituted a preference avoidable under Code § 547(b). To establish this, he must be able to prove the payment was:
(1) to or for the benefit of a creditor;
(2) for or on account of an antecedent debt owed by the debtor before such transfer was made;
(3) made while the debtor was insolvent;
(4) made —
(A) on or within 90 days before the date of the filing of the petition; . . . and
(5) that [the payment] enables [the government] to receive more than such creditor would receive if —
(A) the case were a case under chapter 7 of this title;
(B) the transfer had not been made; and
(C) such creditor received payment of such debt to the extent provided by the provisions of this title.
11 U.S.C. § 547(b); see 11 U.S.C. § 547(g). The government and the debtor have generally denied that the payment meets these criteria.
In its renewed motion, the government specifically directs the court’s attention to the ordinary course of business or financial affairs exception contained in Code § 547(c)(2). However, the government has the burden of proof on this defense, § 547(g), and the evidence at this point is not sufficient to permit the court to find as a matter of law that the debtor incurred the tax obligation in the ordinary course of his business or financial affairs, or that he made the payment in the ordinary course of his business or financial affairs, or that he made it according to ordinary business terms. The debtor’s deposition indicates he realized capital gains only occasionally between 1979 and 1985 and has not routinely made quarterly estimated tax payments at least since the 1970’s. This payment was apparently the only one he made in 1985. The government’s brief assumes the debtor was required to pay an estimated tax without indicating why this was so, but also indicates if he had to pay it, he was only required to pay about $1,700. Under these circumstances, the court cannot conclude on summary judgment that the $27,000 payment was made according to ordinary business terms.
The debtor contends the trustee cannot satisfy the fifth requirement of § 547(b) because the government is the only priority creditor other than the trustee and the debtor’s attorney, and so the government would receive full payment so long as other assets are sufficient to pay those administrative expenses. While the court believes the administrative expenses would not affect the calculation under this requirement and so the debtor’s argument is even stronger than he makes it, the court believes the debtor is nevertheless wrong on this point. The legislative history makes clear that the government would not receive any payment toward the debtor’s 1985 tax obligation from his bankruptcy estate because the debtor failed to make the election provided by IRC § 1398. To this extent, the trustee correctly construes the statute.
Despite the invalidity of the arguments most pressed by the government and the debtor in their motions, the court concludes they are entitled to judgment as a matter of law on the trustee’s preference claim. The second requirement of § 547(b) is that the debtor made the payment for a debt he owed before he made the payment, an “antecedent” debt. Assuming the debtor was required to make a quarterly estimated tax payment, it was not due until April 15, 1985, 26 U.S.C. § 6654(c), so his payment on April 1 was not for an antecedent debt. If he was not required to make an estimated tax payment, his 1985 taxes were not due until April 15, 1986, well after he actually made the payment. Again, the payment was not for an antecedent debt. The court concludes as a matter of law that the trustee will not be able to prove that the estimated tax payment was “for or on account of an antecedent debt owed by the debtor before such transfer was made.”
Finally, the trustee seeks to avoid the payment under Code § 548 as a fraudulent conveyance. At this stage, it appears the trustee is claiming the debtor:
(2)(A) received less than a reasonably equivalent value in exchange for such transfer or obligation; and
(B)(i) was insolvent on the date that such transfer was made or such obligation was incurred, or became insolvent as a result of such transfer or obligation.
11 U.S.C. § 548(a). However, as the debtor points out, the Internal Revenue Code imposes a tax on gross income, which includes income from dealings in property, minus permissible deductions. IRC §§ 1(c), 61 63. Therefore, when the debtor sold his stock at a profit of $150,000, he incurred a significant potential tax liability. In return for his payment, the government gave him credit, dollar for dollar, against that potential tax liability and the right to a refund if he ultimately owed less. The debtor gained the certainty that his potential capital gain tax liability was paid but gave up the right to use the $27,000 for about one year.
The trustee contends the debtor received nothing in return for his payment, because his 1985 tax liability was not yet due and owing. If the court were to accept this argument, it would have to hold all estimated tax payments and taxes withheld from wages satisfied the less than reasonably equivalent value test of § 548(a)(2)(A) in the year that bankruptcy is filed, and consequently, hold all such payments to be fraudulent conveyances upon proof of the debtor’s insolvency at the time of the transfer. The court will not do so. The trustee also asserts here that the debtor’s failure to elect under IRC § 1398 retroactively makes his prepetition payment one for no value since the government has no prepetition claim against his bankruptcy estate for 1985 income tax. However, like the property of the estate argument rejected above, this theory extends § 1398 beyond Congress’ intent. It is based on the assumption the “reasonably equivalent value” required under Code § 548 must be value received by the estate, not by the debtor alone, even though the estate did not exist at the time of the transfer. The court does not believe a statute passed to allow debtors to benefit by funneling tax liability through their bankruptcy estates before the liability passes to them should be construed to penalize them if they forego the benefit. The trustee’s theory would funnel prepetition tax payments into bankruptcy estates in all cases even though prepetition tax liability would bypass the estates where the debtors fail to make the IRC § 1398 election. This result can be avoided simply by holding that value received by the debtor satisfies the “reasonably equivalent value” test of § 548(a)(2)(A) although his bankruptcy estate might not have received the value. Consequently, the court concludes the trustee has failed to come forward with sufficient evidence to support a factfinding in his favor on an issue on which he has the burden of proof, and so summary judgment against him is proper on his claim based on § 548(a)(2)(A) and (B)(i).
For these reasons, the motions by the government and the debtor are hereby granted on the trustee’s claims that the debtor’s estimated tax payment is: (1) property of the estate; (2) a preference under § 547(b); or (3) a fraudulent conveyance under § 548(a)(2)(A) and (B)(i).