Unscheduled Debts in Bankruptcy

Unscheduled Debts in Bankruptcy

11 U.S.C. Section 523 provides an exception to discharge for a debt:

(3) neither listed nor scheduled under section 521(a)(1) of this title, with the name, if known to the debtor, of the creditor to whom such debt is owed, in time to permit—
if such debt is not of a kind specified in paragraph (2), (4), or (6) of this subsection, timely filing of a proof of claim, unless such creditor had notice or actual knowledge of the case in time for such timely filing; or
if such debt is of a kind specified in paragraph (2), (4), or (6) of this subsection, timely filing of a proof of claim and timely request for a determination of dis¬chargeability of such debt under one of such paragraphs, unless such creditor had notice or actual knowledge of the case in time for such timely filing and request;

In a chapter 7 bankruptcy case, a debtor’s failure to list a debt on the schedules does not prevent it from being discharged, unless (1) a deadline was set for creditors to file proofs of claim and the creditor did not have actual knowledge of the bankruptcy case in time to file a proof of claim by the deadline or (2) the creditor had grounds (for example fraud) to object to the dischargeability of the debt and did not have actual knowledge of the bankruptcy case in time to file the objection by the deadline to do so. Whether the creditor was listed in the schedules or received formal notice of the bankruptcy is not the determining factor. In re Cerrudo, 214 B.R. 500 (Bkcy.N.Dist .Okl. 1997).

The rationale of the Cerrudo holding is that, in a chapter 7 bankruptcy case, no deadline is initially set for creditors to file proofs of claim, and, unless a deadline is later set at the request of the trustee because he has decided to administer some assets, no deadline is ever set. Therefore, in a “no-asset” chapter 7 case, it never becomes too late for a creditor to file a “timely” proof of claim.

The Cerrudo decision holds that a bankruptcy court therefore will not reopen a chapter 7 bankruptcy case for the purpose of amending the schedules to add a debt. Whether the debt is scheduled is not relevant.

The result would be different in a chapter 13 case, because a deadline to file proofs of claim is set at the beginning of every chapter 13 case. In a chapter 13 case, if the creditor does not have actual knowledge of the bankruptcy case in time to file a timely proof of claim, then the debt is excluded from the discharge.

The “actual knowledge of the case” required by Section 523(a)(3)(B) does not require actual receipt of the official bankruptcy notice, and it does not require knowledge of the deadline to file. The key word is “case”. Actual knowledge that the debtor has filed bankruptcy is all that this section requires, as long as the knowledge is received in time for the creditor to have a chance to check the bankruptcy court for deadlines and to file a dischargeability objection within the deadline. In re Walker, 927 F.2d 1138, 1144-45 (10th Cir. 1991).

Creditors who prove that they did not receive timely knowledge of the bankruptcy case under 11 U.S.C. Section 523(a)(3)(B) do not receive an automatic exception to discharge; rather, they receive an opportunity to file their objection to dischargeability after the original deadline. In re Schicke, 290 B.R. 792, 799 (10th Circuit B.A.P. 2003).

SSA Cannot Offset Social Security Benefits to Recoup Overpayment Debt Discharged in Bankruptcy

SSA Cannot Offset Social Security Benefits to Recoup Overpayment Debt Discharged in Bankruptcy

When the Social Security Administration discovers that it has overpaid benefits, it is required to offset future benefits to recoup the overpayment. An interesting question is whether this situation is in the nature of a debt, which would mean that it is dischargeable in bankruptcy, or whether the reduction is simply part of the definition of future benefits.

The Court of Appeals for the Seventh Circuit answered this question in In re Neavear, 674 F.2d 1201 (7th Cir. 1982). The 2013 opinion of the United States Bankruptcy Court for the Southern District of Illinois in Zimmerman vs. Social Security Administration (In re Zimmerman), Case No. 11-41386, Adversary No. 12-4076, describes the Neavear decision as follows:

In that case, the debtor received disability benefits for approximately eleven years without informing SSA that during the latter three years, he was self employed as a real estate broker. When he later became disabled and entitled to receive benefits again, SSA commenced a proceeding to offset the earlier payments (that were improperly received) against Neavear’s future benefits. An administrative law judge found that Neavear had been overpaid $19,818.10 in disability benefits, and that his future benefits must be reduced in satisfaction of the overpayment debt. The debtor subsequently filed a chapter 7 bankruptcy proceeding, listing on his schedule of debts a $19,818.10 overpayment debt owed to SSA. After receiving a discharge, SSA continued to reduce his disability benefits in an attempt to recover the debt. Neavear filed a complaint in the bankruptcy court seeking a declaration that the overpayment debt had been discharged.

The issue in Neavear was “whether § 207 of the Social Security Act, 42 U.S.C. § 407 (1976), confers on the Social Security Administration … a blanket exemption from the operation of the bankruptcy laws, so that a debt owing to the SSA because of an overpayment of benefits cannot be discharged in bankruptcy.” Id. The court held that “SSA enjoys no such immunity from the bankruptcy laws and that the overpayment debt is dischargeable….” Id.

The Court of Appeals for the Third Circuit addressed the issue in Lee v. Schweiker, 739 F.2d 870 (3d Cir. 1984). It held:

We conclude that, in spite of statutory or contractual provisions providing for “recoupment” of previous overpayments, the primary purpose of these [social-welfare] statutes is to provide income security to the recipients. Once a bankruptcy petition is filed, the income provided by Social Security benefits should be protected by the automatic stay. The right of SSA to recover pre-petition debts should be subject to the limitations on setoff, just as it is limited by the provisions for exemption and discharge, In re Neavear, 674 F.2d 1201 (7th Cir. 1982), rather than treated as part of a “contract” between the government and the debtor. Accordingly, we hold that SSA may not recoup previous overpayments from benefits payable after a bankruptcy petition is filed.

Based on these authorities, it appears that the Social Security Administration cannot offset post-petition social security benefits to recoup pre-petition overpayments.

An obvious exception to this rule would exist when the debtor does not receive a discharge or when the Social Security Administration files and prevails in an adversary proceeding under 11 U.S.C. Section 523(a) to determine that the overpayment resulted from the debtor’s fraud.

Another exception, or more accurately distinguishable situation, was identified in the Zimmerman opinion cited above. There, the debtor had received a lump-sum workers compensation settlement pre-petition. The Social Security Act requires the Social Security Administration to allocate a lump-sum workers compensation benefit across a longer period of time and to reduce future social security benefits until that time elapses. The Social Security Administration continued that reduction after the debtor filed bankruptcy, and the debtor sued for violations of the automatic stay and discharge injunction. The court, granting summary judgment for the Social Security Administration, acknowledged that any pre-petition obligation to the SSA was discharged but held that the reduction was part of the formula defining future benefits and was not affected by the discharge.

Dischargeability of Tax Debt in Bankruptcy

Dischargeability of Tax Debts in Bankruptcy

The following tax debts are not dischargeable:

1. Fraud, evasion (fraud penalties, as opposed to negligence penalties, would appear on the transcript).

2. Debt for on business payroll withholding tax (does not include employer portion of FICA) or state sales tax.

3. Debt for a tax year whose return was due (including any extension) less than 3 years before bankruptcy filed (date actually filed irrelevant).

4. Debt for tax assessed within 180 days before bankruptcy was filed, plus, if an offer in compromise was pending during that period, the days it was pending plus ___ days.

5. Debt for tax years as to which the return was filed within 2 years before bankruptcy was filed.

6. Debts to the IRS for tax years as to which the IRS has filed a “substitute for return” (SFR).

7. Debts for tax years as to which the return was filed late. In re Mallo, 2014 WL 7360130 (10th Cir. Dec. 29, 2014). This exception to discharge is the subject of vigorous ongoing debate and is certain to find itself in the United States Supreme Court sooner of later. The 10th Circuit’s holding was even more pro-IRS that the IRS’s position, which was that the mere late filing of a tax return (barring difficulties with other rules) should prevent discharge only if an SFR was filed.

The 3-year period, and possibly other tax-dischargeability periods, are tolled by the pendency of a bankruptcy and by the pendency of a “collection due process” (CDP) hearing, plus 90 or 180 days.

It is possible that a debt is not priority but also not dischargeable (e.g., tax return filed less than 2 years ago for a tax year whose return was due more than 3 years ago).

Tax liens are not affected by bankruptcy except in a chapter 13, 11, or 12 plan.

Federal tax transcripts are available at http://www.irs.gov/individuals/get-transcript (or at least that was the case until the IRS’s website was hacked in May 2015).

State tax return and tax debt information is available by faxing a tax status request form to Oklahoma Tax Commission at 918-581-2087 (for Northern and Eastern District). It must be signed by the debtor and state his social security number and name. The OTC will provide the form on request.

Effect of Bankruptcy Discharge on Tax Liens

Effect of Bankruptcy Discharge on Tax Liens

A tax lien remains on a debtor’s property in spite of a bankruptcy discharge of the tax debt, the same as a bank’s lien stays on a vehicle securing a discharged debt.

That said, I have seen the IRS spontaneously release a lien securing discharged debt, but I have no idea why they did it.
A tax lien does not apply to assets acquired after the bankruptcy is filed, so, if the debtor does not own real property or investments (retirement or otherwise), the remaining tax lien is not that burdensome. Car titles do not show the tax lien. It is against the law to sell any assets covered by the lien (i.e., all assets), so the client’s citizenship will prevent him from selling his vehicles. However, he can just drive them until they wear out, unless the tax authority seizes them, which is unusual.

If the debtor owns real property, he can use a chapter 13 plan that “crams down” the tax lien to its value, which is the equity in his house and vehicles and all assets. Clothes and furniture are not worth much. Cram-down works on tax liens same as vehicle liens. When the debtor finishes his chapter 13 plan, the tax lien is considered satisfied.

The IRS and Oklahoma Tax Commission used to have voluntary programs allowing a chapter 7 debtor to set up an arrangement to obtain a release of a tax lien by paying the value of his equity in all his assets in installments. In other words, a chapter 7 cram-down. If this option would be helpful to a client, I can speak with the tax authorities to determine whether these programs still exist.