Internal Revenue Ser v. Luongo ( 2001 )

Revised August 9, 2001
IN THE UNITED STATES COURT OF APPEALS
FOR THE FIFTH CIRCUIT
_______________
No. 00-10475
_______________
In the Matter of: CONSTANCE LUONGO,
Debtor.
* * * * *
INTERNAL REVENUE SERVICE,
Appellee,
v.
CONSTANCE LUONGO,
Appellant.
---------------------------------
Appeal from the United States District Court
for the Northern District of Texas
---------------------------------
July 18, 2001
Before BARKSDALE, EMILIO M. GARZA and BENAVIDES, Circuit Judges.
BENAVIDES, Circuit Judge:
Factual and Procedural Background
This case involves a debtor’s claim to recover an income tax
overpayment for her 1997 tax year. Pursuant to 26 U.S.C. §
6402(a) of the Internal Revenue Code1 and 11 U.S.C. § 553(a) of
1
Section 6402(a) of the I.R.C. provides:
In the case of any overpayment, the Secretary . . . may credit
the amount of such overpayment . . . against any liability in
respect of an internal revenue tax on the part of the person
who made the overpayment and shall . . . refund any balance to
such person.
the Bankruptcy Code,2 the Internal Revenue Service (“IRS”) setoff
her overpayment against her unpaid 1993 tax liability, a
liability which had been discharged under § 727 of the Bankruptcy
Code. After the setoff occurred, the debtor moved to reopen her
case, and filed amended schedules which for the first time listed
her 1997 income tax overpayment as an exempt asset under § 522.
The IRS did not file any objection to the reopening of the case
or the amended schedules. The bankruptcy court granted the
motion to reopen and her schedules were amended. The
plaintiff/debtor, Constance Luongo, then brought an action in the
bankruptcy court to recover her 1997 tax overpayment. She
asserted that the setoff executed by the IRS was improper because
(1) the 1993 tax debt had been discharged in bankruptcy, and (2)
the 1997 tax overpayment had been exempted from her bankruptcy
estate. In response, the IRS argued that the bankruptcy court
lacked jurisdiction or that it should abstain from hearing the
matter. The IRS further asserted that Bankruptcy Code § 553
preserved the IRS’ right to setoff under § 6402(a),
notwithstanding the discharge of debtor’s unpaid 1993 tax debt or
her attempt to exempt the 1997 overpayment. The case was
submitted to the bankruptcy court on cross-motions for summary
judgment.
The bankruptcy court adopted the opinion in Alexander v.
2
“Although no federal right of setoff is created by the
Bankruptcy Code, 11 U.S.C. § 553(a) provides that, with certain
exceptions, whatever right of setoff otherwise exists is preserved
in bankruptcy.” Citizens Bank of Maryland v. Strumpf, 516 U.S. 16,
18, 116 S.Ct. 286, 289 (1995).
2
Internal Revenue Service, 225 B.R. 145 (Bankr. W.D. Ky. 1998),
and granted plaintiff’s motion for summary judgment. Construing
the conflicting mandates of the two sections in favor of the
debtor, the bankruptcy court in Alexander held that the language
in § 522(c) that “property exempted under this section is not
liable . . . for any debt of the debtor that arose . . . before
the commencement of the case . . .” took precedence over the
language of § 553(a) that “this title [the Bankruptcy Code] does
not affect any right of a creditor to offset. . . .” The IRS
appealed and the district court reversed. The district court
held that based on the clear and unambiguous language of § 553(a)
the IRS’ right of setoff was unaffected by Luongo’s claims that
the tax overpayment is exempt property and the tax liability was
discharged in the bankruptcy proceeding. Appellant Luongo filed
a timely notice of appeal.
While neither the district court nor the bankruptcy court
afforded the IRS’ jurisdictional claims meaningful discussion in
their respective opinions, we address these claims first as they
are necessarily antecedent to any determination of the merits.
In so doing, we conclude that the bankruptcy court had
jurisdiction to resolve the debtor’s tax dispute and did not
abuse its discretion in not abstaining. Further, we hold (1)
that the IRS permissibly setoff Appellant’s prepetition tax
overpayment against her discharged debt and (2) that Appellant
could not exempt the overpayment under § 522. Because we find
that Appellant could not properly exempt the overpayment at
issue, we do not reach the exemption issue decided below -- that
3
is, whether § 522(c) prevents a creditor from exercising its
right to setoff preserved in § 553. The judgment of the district
court is AFFIRMED.
Analysis
I. Jurisdiction and Abstention
The IRS contends first that the bankruptcy court lacked
jurisdiction to consider this matter, or in the alternative,
should have abstained. Section 505 authorizes bankruptcy courts
to determine the amount or legality of any tax liability of the
estate or the debtor. 11 U.S.C. § 505(a)(1).3 This authority,
however, is not unlimited. Section 505(a)(2)(B) provides that
the bankruptcy court may not determine –
(B) any right of the estate to a tax refund, before the
earlier of –
(i) 120 days after the trustee properly requests
such refund from the governmental unit from which
such refund is claimed; or
(ii) a determination by such governmental unit of such
request.
The IRS contends that the language of § 505(a)(2)(B) precludes a
bankruptcy court from deciding the personal tax liability of the
debtor. It relies on the inclusion of the terms “the estate” and
“the trustee” to argue that § 505 contemplates that only a
trustee may obtain a tax refund in bankruptcy court, and then
3
Section 505(a)(1) provides:
Except as provided in paragraph (2) of this subsection, the
court may determine the amount or legality of any tax, any
fine or penalty relating to a tax, or any addition to tax,
whether or not previously assessed, whether or not paid, and
whether or not contested before and adjudicated by a judicial
or administrative tribunal of competent jurisdiction.
4
only if the trustee is seeking a refund on behalf of the estate.
Initially, we note that the IRS’ reading of this subsection
is contrary to the broad grant of jurisdiction in § 505(a)(1)
permitting a bankruptcy court to determine “the amount or
legality of any tax, any fine or penalty relating to a tax, or
any addition to tax, whether or not previously assessed, whether
or not paid, and whether or not contested before and adjudicated
by a judicial or administrative tribunal of competent
jurisdiction.” Furthermore, the legislative statements
accompanying § 505 make clear that the section “authorizes the
bankruptcy court to rule on the merits of any tax claim involving
an unpaid tax, fine, or penalty relating to a tax, or any
addition to a tax, of the debtor or the estate.” 124 Cong.Rec. H
11110 (daily ed. Sept. 28, 1978) (remarks of Rep. Edwards
introducing the House amendment)(emphasis added), reprinted in,
1978 U.S.C.C.A.N. 5787, 6436, 6490. And under the paragraph
heading “Jurisdiction of the tax court in bankruptcy cases,” the
legislative statements instruct that “the bankruptcy judge will
have authority to determine which court will determine the merits
of the tax claim both as to claims against the estate and claims
against the debtor concerning his personal liability for
nondischargeable taxes.” 124 Cong.Rec. 32414 (1978) (Statement
of Representative Edwards), reprinted in 1978 U.S.C.C.A.N. 6436,
6492-93 (emphasis added); 124 Cong.Rec. 34014 (1978) (Statement
of Senator DeConcini), reprinted in 1978 U.S.C.C.A.N. 6505, 6562;
see also Begier v. IRS, 496 U.S. 53, 64-65 n. 5, 110 S.Ct. 2258,
2266 n. 5, 110 L.Ed.2d 46 (1990) (“Because of the absence of a
5
conference and the key roles played by Representative Edwards and
his counterpart floor manager Senator DeConcini, we have treated
their floor statements on the Bankruptcy Reform Act of 1978 as
persuasive evidence of congressional intent.”). The IRS cites no
case supporting its restrictive reading of the bankruptcy court’s
jurisdiction under § 505. On the contrary, absent the express
statutory limitations in § 505(a)(2)(A) and (B), bankruptcy
courts have universally recognized their jurisdiction to consider
tax issues brought by the debtor, limited only by their
discretion to abstain.4 In re Hunt, 95 B.R. 442, 445 (Bankr.
4
The dissent would dismiss Luongo’s action on the ground that
the bankruptcy court’s jurisdiction extends only to claims for
refunds that benefit the estate. We cannot agree. The dissent’s
conclusion would have a far-reaching impact on the scope of the
bankruptcy court’s jurisdiction over tax matters. Yet, no court
has recognized such a limitation. Several courts have, however,
recognized the right of a debtor to bring a refund action. See In
re Ryan, 64 F.3d 1516, 1520 (11th Cir. 1995) (allowing Chapter 7
debtor to maintain a refund action in bankruptcy court upon
compliance with treasury regulations); In re Gribben, 158 B.R. 920,
924 (S.D.N.Y. 1993) (concluding that Ҥ 106(a) waives the
Government’s sovereign immunity where a bankrupt debtor seeks a
refund in circumstances where the IRS has exercised the right under
§ 553(a) of the Bankruptcy Code to offset that refund against other
tax liabilities.”).
Section 505(a)(2)(B), like § 505(a)(2)(A), limits the
jurisdictional grant in § 505(a)(1). Section 505(a)(1) grants the
bankruptcy court jurisdiction over any tax claim, including refund
claims; § 505(a)(2)(B) then prescribes the limits particular to the
bankruptcy court’s ability to determine a refund. The intended
purpose of subsection (a)(2)(B) was to prevent a refund claim from
languishing in the administrative processes, not to restrict the
scope of the bankruptcy court’s jurisdiction over tax refunds to
those benefitting the estate. In re St. John’s Nursing Home, Inc.,
154 B.R. 117, 120 (Bankr.D.Mass. 1993). Section 505(a)(2)(B) thus
permits the bankruptcy court to make a determination of a refund if
the taxing authority does not act upon a refund claim within 120
days. Although not disputed by the parties, we note, in response
to the dissent, that Luongo complied with the requirements of §
6
505(a)(2)(B) by filing her annual tax return. See 26 C.F.R. §
301.6402-3(a)(5) (1994) (“A properly executed individual . . .
income tax return . . . shall constitute a claim for refund or
credit . . . for the amount of the overpayment disclosed by such
return”). The IRS, by setting off the overpayment against the
discharged tax liability, made a “determination” in accordance with
§ 505(a)(2)(B) of Luongo’s refund-request for the overpayment.
Even the dissent’s focus on the language “the right of the
estate to a refund” does not support its position that §
505(a)(2)(B) deprives the bankruptcy court of jurisdiction to hear
Luongo’s claim. In this regard, the dissent mistakenly concludes
that property listed as exempt by the debtor does not fall in this
category. On the contrary, it is a fundamental principle of
bankruptcy law that only property of the estate may be exempted by
the debtor. Owen v. Owen, 500 U.S. 305, 308 (1991). The estate
comprises “all legal or equitable interests of the debtor in
property as of the commencement of the case.” 11 U.S.C. § 541(a).
In the present case, any overpayment made by Luongo occurred
prepetition and any right to a refund is therefore property of the
estate. Kokoszka v. Belford, 417 U.S. 642, 645-58, 94 Sct. 2431,
2433-35 (1974). Upon proper recognition that exempted property
first enters the estate and that the estate has a right to any
refund in the present case, it becomes clear that our holding does
not read the term “right of the estate” out of the statute as
alleged by the dissent.
The dissent concedes that Luongo could bring a claim for a
determination of her tax liability. The dissent, however, would
not allow Luongo to bring her refund claim. The dissent’s
distinction apparently derives, in part, from its premise that
general unsecured creditors, not the debtor, are the intended
beneficiaries of § 505(a). Relying on this premise, the dissent
endeavors to rewrite the language of § 505(a)(2)(B) by converting
“the right of the estate to a refund” into “a refund that benefits
the estate.” While seemingly a benign distinction, the dissent’s
erroneous limitation of the estate to “property which will be used
to pay the creditors,” renders it significant. The dissent’s
ultimate result is thus to permit only refunds that benefit
creditors, not “what Luongo seeks through her action– a refund
solely for her own benefit.” Under the dissent’s interpretation,
even the trustee could not seek a refund if the debtor had listed
it as exempt on her schedules, thereby preventing the bankruptcy
court from protecting the debtor’s use of exemptions to gain a
fresh start regardless of who filed the refund action. The
dissent’s limitation on the bankruptcy court’s jurisdiction also
ignores the fact that a bankruptcy court is entitled to determine
the debtor’s nondischargeable tax liability. Congress’ allowance
7
N.D. Tex. 1989) (“[T]he reported decisions uniformly recognize
the Bankruptcy Court’s jurisdiction to determine a debtor’s tax
liability . . . .”).
The bankruptcy court’s ability to abstain is premised on
Congress’ use of the word “may” in § 505. In re Beisel, 195 B.R.
378, 379 (Bankr. S.D. Ohio 1996) (“Section 505(a)(1) allows but
does not require the Bankruptcy Court to determine a debtor’s tax
liabilities.”). The factors frequently cited by the courts in
deciding whether to abstain include the complexity of the tax
issues to be decided, the need to administer the bankruptcy case
in an orderly and efficient manner, the burden on the bankruptcy
court’s docket, the length of time required for trial and
decision, the asset and liability structure of the debtor, and
the prejudice to the taxing authority. In re Hunt, 95 B.R. at
445. Several courts have also taken into consideration what they
identify as the two-fold purpose of § 505: (1) “affording a forum
for the ready determination of the legality or amount of tax
claims, which determination, if left to other proceedings, might
delay conclusion of the administration of the bankruptcy estate,”
In re Diaz, 45 B.R. 137, 138 (Bankr. S.D. Fla. 1984), and (2)
“providing an opportunity for the trustee, on behalf of the
creditor, to contest the validity and amount of a tax claim when
the debtor has been unwilling or unable to do so.” In re
of the bankruptcy court to make such a determination undermines the
dissent’s assertion that § 505 serves the limited purpose of
allowing the bankruptcy court to adjudicate tax matters affecting
the estate or benefitting creditors.
8
Millsaps, 133 B.R. 547, 554 (Bankr. M.D. Fla.1991); see also City
of Amarillo v. Eakens, 399 F.2d 541, 543-44 (5th Cir. 1968) (“The
amendment, by authorizing redeterminations in those instances
where the tax claim was never appealed, serves to protect
creditors of the bankrupt from the bankrupt’s lack of
diligence.”).
The bankruptcy courts that have focused on these
requirements consider general unsecured creditors, not the
debtor, the intended beneficiaries of § 505(a). In re Williams,
190 B.R. 225, 227 (Bankr. W.D. Pa. 1995); In re Tropicano Inc.,
128 B.R. 153, 161 (Bankr. W.D. Tex. 1991). These courts conclude
that when neither of the above two purposes would be served by a
bankruptcy court determination of a chapter 7 debtor’s tax
liability, abstention is warranted. These cases improperly view
§ 505 in isolation without proper deference to the other goals of
the Bankruptcy Code. The bankruptcy court’s responsibility in
administering the estate is not only to achieve a fair and
equitable distribution of assets to the creditors, but also to
“relieve the honest debtor from the weight of oppressive
indebtedness and permit him to start afresh.” Local Loan v.
Hunt, 292 U.S. 234, 244, 54 S.Ct. 695, 699 (1934). Thus, a court
should consider the impact of the abstention not only on the
general administration of the estate, but also on the debtor. In
re Smith, 122 B.R. 130, 133-134 (M.D. Fla. 1990) (declining to
exercise discretion because it would not assist the debtor to
have a fresh start in life).
9
Another touchstone of the abstention inquiry is the
substantive law governing the material issues. When bankruptcy
issues are at the core of a dispute, it would be absurd for a
bankruptcy court to abstain from deciding those matters over
which it has particular expertise. On the other hand, simply
because tax law is somehow implicated does not automatically
trigger abstention. Just as bankruptcy courts are often called
upon to apply state law in resolving bankruptcy matters, so too
may they apply tax law in appropriate circumstances.5 In tax
cases, the issue of abstention often arises with respect to
questions of dischargeability. Many of the courts that have
abstained cite the legislative history that:
. . . in the case of nondischargeable Federal income
taxes, the IRS would be required to issue a deficiency
notice to an individual debtor, and the debtor could
then file a petition in the Tax Court–or a refund suit
in a district court–as the forum in which to litigate
his personal liability for a nondischargeable tax.
124 Cong. Rec. H 11110 (Sept. 28, 1978, remarks of Rep. Edwards);
S 17427 (Oct. 6, 1978, identical remarks of Sen. DeConcini).
This quote and the cases relying on it are predicated on the non-
dischargeability of the tax. Where the determination of
dischargeability or other bankruptcy specific issues is fully
resolved, we agree with the IRS that there is no reason why the
suit cannot be heard by a district court, the Tax Court, or the
5
“Bankruptcy courts routinely interpret state law in order to
resolve disputes in bankruptcy cases.” In re Wilson, 85 B.R. 722,
727 (Bankr.E.D.Pa.1988). For example, the bankruptcy court may
avoid a preference under 11 U.S.C. § 547 or a fraudulent transfer
under 11 U.S.C. § 548, even though these defenses are intertwined
with state law.
10
Court of Federal Claims.6 Our case, on the other hand, is more
analogous to those cases where the court was faced with the
preliminary bankruptcy question of whether the tax liability was
dischargeable. See In re Shapiro, 188 B.R. 140, 143 (Bankr. E.D.
Pa. 1995)(concluding that while the bankruptcy court is the
appropriate forum to determine the bankruptcy issue of
dischargeability, it would be inappropriate for the bankruptcy
court to decide the amount of the debtor’s non-dischargeable
liability, which relies on non-bankruptcy law); In re Wood, 1994
WL 759753 (Bankr. N.D. Ga. Nov. 21, 1994) (court abstained from
fixing the amount of the debt but set a trial with regard to the
issue of dischargeability); In re Gosciniak, 1994 WL 585928, at
*3 (Bankr. S.D. Ind. May 25, 1994) (court ruled on
dischargeability but abstained from deciding amount of
liability). In the instant case, Appellant was not requesting
the bankruptcy court to determine the amount of her tax
liability, but instead whether her tax overpayment, by virtue of
exemption or dischargeability, was protected from setoff by the
IRS.
In In re Shapiro, the bankruptcy court noted several cases
which follow the increasing trend of “dismissing a pending
adversary proceeding which does not involve bankruptcy law
issues, upon dismissal of the bankruptcy case itself.” 188 B.R.
at 148 (citing Chapman v. Currie Motors, Inc., 65 F.3d 78 (7th
6
Taxpayers can appeal adverse determinations by the IRS to
the Tax Court or Court of Federal Claims, or they can pay any
assessment and bring suit in the district court. I.R.C. § 7422.
11
Cir. 1995)). In Chapman, the Seventh Circuit found that the
bankruptcy court properly abstained from deciding a “related to”
proceeding where the resolution of the matter did not rely on
bankruptcy law and neither party alleged that the objectives of
the Bankruptcy Code would be impaired. 65 F.3d at 82. We find
such reasoning persuasive. Accordingly, we hold that where
bankruptcy issues predominate and the Code’s objectives will
potentially be impaired, bankruptcy courts should generally
exercise jurisdiction.7 Conversely, absent any bankruptcy issues
or implication of the Code’s objectives, it is usually
appropriate for the bankruptcy court to decline or relinquish
jurisdiction. We recognize, of course, that there may be
instances where exceptional factors involving judicial economy,
fairness and convenience to the litigants, or the simplicity of
the non-bankruptcy issues involved may counsel otherwise. See In
re Smith, 866 F.2d 576, 580 (3d Cir. 1989). Such instances
should be rare and we trust bankruptcy courts will exercise their
jurisdiction prudently.
We now consider the application of this standard to the
present case. This Court reviews the bankruptcy court’s decision
not to abstain for an abuse of discretion. Matter of Howe, 913
F.2d 1138, 1143 (5th Cir. 1990). In this case, Appellant
7
Such bankruptcy objectives include, but are not limited to,
ensuring the efficient administration and equitable distribution of
the estate for the benefit of the creditors and protecting the
debtor’s right to a fresh start. See In re Henderson, 18 F.3d
1305, 1307 (5th Cir. 1994) (recognizing “the Bankruptcy Code’s
important objective of allowing the debtor to gain a fresh start in
his financial life.”).
12
received a discharge of her 1993 tax liability pursuant to § 727
of the Bankruptcy Code. The IRS then exercised its right to
setoff established in § 6402 of the I.R.C. and preserved in § 553
of the Bankruptcy Code. Finally, Appellant claimed her tax
overpayment as an exempt asset under § 522 of the Bankruptcy
Code. We begin the abstention inquiry by identifying the
material issues: first, whether Appellant could exempt her tax
overpayment under § 522; second, whether § 522(c) immunizes
exempt property from setoff; and third, whether §§ 524(a)(2) and
553 of the Bankruptcy Code permit a creditor to setoff against
discharged debt. The resolution of these issues, although
involving the IRS’ right to setoff under § 6402(a) of the I.R.C.,
was governed predominantly by bankruptcy law. Notably, there is
no dispute over the amount of the parties’ respective tax
liabilities or that outside of bankruptcy the IRS would have the
right to setoff. Instead, the resolution of this matter required
the bankruptcy court to interpret conflicting sections of the
Bankruptcy Code and to determine the proper scope of the parties’
rights to dischargeability, exemption, and setoff. Such
determinations are best made by the bankruptcy court. The second
prong of the abstention inquiry also counsels in favor of the
bankruptcy court retaining jurisdiction. Appellant’s rights to
the integrity of her discharge and to the use of her exemptions
are integral to the Code’s objective in providing a fresh start.
Under the circumstances presented here, the bankruptcy court’s
decision not to abstain was clearly proper.
13
II. IRS’ Right to Setoff
On May 19, 1998, Appellant Luongo filed for relief under
Chapter 7 of the Bankruptcy Code. At the time of her filing she
owed the IRS $3,800 in unpaid taxes from her 1993 tax year. On
August 15, 1998, Appellant filed her 1997 income tax return
showing an overpayment of $1,395.94. The bankruptcy court
entered an order on September 10, 1998 discharging Appellant’s
personal liability for her 1993 income tax deficiency.
Subsequently, in November 1998, the IRS executed its claim to
setoff and applied all of Appellant’s 1997 tax overpayment to her
unpaid 1993 tax liability.8
Appellant first argues that the discharge of her 1993 tax
liability under § 524(a)(2) bars the IRS from executing its claim
to setoff. Section 524(a)(2) provides:
(a) A discharge in a case under this title –
(2) operates as an injunction against the commencement or
continuation of an action, the employment of process, or an
act, to collect, recover, or offset any such debt as a
personal liability of the debtor, whether or not discharge
of such debt is waived;
11 U.S.C. § 524(a)(2) (emphasis added). There is an apparent
inconsistency between § 524(a)(2)’s prohibition on offsets and §
553's recognition of setoff rights. Section 553(a) provides:
(a) Except as otherwise provided in this section and
8
A setoff or offset is “[a] deduction; a counterclaim; a
contrary claim or demand by which a given claim may be lessened or
canceled.” BLACK’S LAW DICTIONARY 1085 (6th Ed. 1990). Setoff is
distinguished from recoupment in that a setoff is “[a] counter-
claim demand which defendant holds against plaintiff, arising out
of a transaction extrinsic of plaintiff’s cause of action.” BLACK’S
LAW DICTIONARY 1372 (6th Ed. 1990).
14
sections 362 and 363 of this title, this title does not
affect any right of a creditor to offset a mutual debt by
such creditor to the debtor that arose before the
commencement of the case under this title against a claim of
such creditor against the debtor that arose before the
commencement of the case . . . .
We agree with the vast majority of courts considering the
relationship between § 524(a) and § 553 that a debtor’s discharge
in bankruptcy does not bar a creditor from asserting its right to
setoff. See In re Davidovich, 901 F.2d 1533 (10th Cir. 1990); In
re Buckenmaier, 127 B.R. 233 (9th Cir. B.A.P. 1991); Posey v.
Dept. of Treasury, 156 B.R. 910 (W.D.N.Y. 1993); Reich v.
Davidson Lumber Sales Emp. Ret. Plan, 154 B.R. 324 (D. Utah
1993); In re Thompson, 182 B.R. 140 (Bankr. E.D. Va. 1995); In re
Runnels, 134 B.R. 562 (Bankr. E.D. Tex. 1991); In re Morgan, 77
B.R. 81 (Bankr. S.D. Miss. 1987); In re Conti, 50 B.R. 142(Bankr. E.D. Va. 1985); In re Ford, 35 B.R. 277 (Bankr. N.D. Ga.
1983); In re Shaw Constr. Corp., 17 B.R. 744 (Bankr. E.D. Pa.
1982); Krajci v. Mt. Vernon Consumer Discount Co., 16 B.R. 464(Bankr. E.D. Pa. 1981). But see In re Dezarn, 96 B.R. 93, 95
(Bankr. E.D. Ky. 1988); In re Johnson, 13 B.R. 185, 189 (Bankr.
M.D. Tenn. 1981). It is impossible for us to ignore the clear
statement of § 553 that “this title [the Bankruptcy Code] does
not affect any right of a creditor to offset . . . .” We
interpret this statement to allow a discharged debt to be setoff
upon compliance with the terms and conditions provided in § 553,
notwithstanding § 524(a)’s post-discharge bar. This
interpretation avoids the “possible injustice in requiring a
15
creditor to file its claim for satisfaction in the bankruptcy
court, while at the same time compelling the same creditor to pay
in full its debt to the bankruptcy estate.” In re Davis, 889
F.2d at 661 (quoting In re Southern Indus. Banking Corp., 809
F.2d 329, 332 (6th Cir.1987)). Our interpretation also creates
an equitable balance by preventing affirmative action to collect
the discharged debt, while preserving the creditor’s right to
raise a discharged debt as a defense to a recovery action brought
by the debtor. “In these circumstances, where the creditor’s use
of § 553 is defensive, the spirit of § 524(a)(2), ‘to eliminate
any doubt concerning the effect of the discharge as a total
prohibition on debt collection efforts’ is not violated.” In re
Ford, 35 B.R. at 280 (quoting S.Rep. No. 598, 95th Cong., 2d
Sess. 80 (1978), U.S.C.C.A.N. 1978, 5866).
In order to establish a valid right to setoff under § 553,
the IRS must prove: (1) a debt owed by the creditor to the debtor
which arose prior to the commencement of the bankruptcy case; (2)
a claim of the creditor against the debtor which arose prior to
the commencement of the bankruptcy case; and (3) the debt and
claim must be mutual obligations. Braniff Airways, Inc. v. Exxon
Co., 814 F. 2d 1030, 1035 (5th Cir. 1987). The second and third
conditions are easily satisfied in the present case. First,
Appellant owed the IRS $3,800 arising out of her 1993 tax year.
Second, the debts involved are between the same parties standing
in the same capacity, the requisite for mutuality.
The final condition is that the IRS’ debt to Appellant arose
prior to the commencement of the bankruptcy case. Creditors are
16
limited by the terms of § 553 to offsetting debts owed the debtor
prepetition.9 In re Eggemeyer, 75 B.R. 20, 22 (Bankr. S.D. Ill.
1987) (“The discharge of a debt in a bankruptcy proceeding does
not affect the creditor’s right to setoff, provided the right of
setoff existed at the time the bankruptcy petition was filed.”).
Whether a debt arises prepetition is governed by when the debt
accrued, not when the action for recovery was brought. “A tax
obligation accrues when the event that triggers liability has
occurred.” Matter of Midland Indus. Service Corp., 35 F.3d 164,
167 (5th Cir. 1994). As of December 31, 1997 all of the events
necessary to establish Appellant’s tax liability for her 1997 tax
year had occurred.10 The date she actually filed her return is
not relevant in determining when the debt arose.11 Id. at 167("[A] tax claim is incurred on the date it accrues rather than
the date it is assessed or becomes payable."). Thus, her
bankruptcy petition having been filed on May 19, 1998, the
overpayment (the debt owed the debtor by the creditor) arose
prior to the commencement of the case.
Practical considerations reinforce a rule governing setoff
9
Any incentive for a creditor to garner assets of the debtor
in anticipation of a pending bankruptcy is abated by the trustee’s
power to avoid such preferences under § 547.
10
The reference to December 31 does not imply that tax
liability or overpayments cannot be established on a pro rata basis
throughout the year. We need not consider that question in the
present case.
11
The right to setoff exists provided that the debt is owed
at the time the petition is filed even though it was not due or
liquidated. Braniff Airways, 814 F.2d at 1035-36; COLLIER ON
BANKRUPTCY, ¶ 553.03[1][d] at 553-16, [f] at 553-18 (15th ed. 1996).
17
against discharged debt that disregards the timing of the
debtor’s action in favor of when it accrued. A contrary
conclusion would open the proverbial floodgates to all manner of
deception.12 Specifically with regard to taxes, allowing
dischargeability to act as a bar would permit a debtor to shelter
assets from his creditors by making substantial overpayments to
the IRS during a given tax year. The debtor could withhold the
filing of his tax return until after he had filed for bankruptcy
and received a discharge. Post-discharge, the debtor could
obtain his tax refund free from the claims of his creditors.13
Such a result would not comport with the equitable nature of the
Bankruptcy Code. Accordingly, we find the IRS’ debt to Appellant
as a result of her overpayment during the 1997 tax year arose
prepetition. Having established a valid right of setoff under §
553, the IRS permissibly offset Appellant’s overpayment against
12
“If the court in [In re Johnson, 13 B.R. 185, 189 (Bankr.
M.D. Tenn. 1981)] were correct in its interpretation of § 553, then
a debtor could prevent a creditor from effecting a setoff by
waiting to file suit on a prepetition transaction until after he
had filed a petition for relief. We conclude that the proper
interpretation of § 553 is that it allows the setoff of mutual
debts both of which arose before bankruptcy, regardless of when
suit thereon is instituted. This would, thus, allow a creditor to
raise a discharged debt as a defense to an action brought by the
debtor, regardless of when that action is instituted, if that
action is based on a claim or cause of action which arose before
bankruptcy.” In re Shaw Construction Corp., 17 B.R. at 748.
13
In the present case, Appellant reopened her bankruptcy case
and listed the overpayment as an asset. In cases where the debtor
does not list the claim as an asset, yet later commences a
proceeding based on that claim, she would likely be judicially
estopped from prosecuting her action. See In re Coastal Plains,
Inc., 179 F.3d 197 (5th Cir. 1999).
18
her discharged 1993 tax liability.
After the IRS executed its setoff rights, Appellant moved to
reopen her case and filed amended schedules exempting the 1997
tax overpayment. Appellant’s second claim is that by virtue of
the exemption of her tax overpayment, the IRS is prohibited from
exercising its right to setoff. The commencement of the
bankruptcy case creates a bankruptcy estate, which includes all
“legal and equitable interests of the debtor.” 11 U.S.C. § 541;
Owen v. Owen, 500 U.S. 305, 308 (1991); Martin v. United States,
159 F.3d 932, 934 (5th Cir. 1998). Bankruptcy Code section 522
then permits a debtor to exempt certain property of the
bankruptcy estate. 11 U.S.C. § 522(b). Property exempted under
§ 522 is removed from the estate for the benefit of the debtor.
Thus, it is axiomatic that property cannot be exempted unless it
was first part of the estate:
An exemption is an interest withdrawn from the estate
(and hence from creditors) for the benefit of the
debtor.
***
Property that is properly exempted under § 522 is (with
some exceptions) immunized against liability for
prebankruptcy debts. § 522(c). No property can be
exempted (and therefore immunized), however, unless it
first falls within the bankruptcy estate. Section
522(b) provides that the debtor may exempt certain
property “from property of the estate”; obviously,
then, an interest that is not possessed by the estate
cannot be exempted.
Owen, 500 U.S. at 308 (emphasis in original). A debtor’s claim
to a tax refund is property of the estate. Mueller v.
Commissioner, 496 F.2d 899, 903 (5th Cir. 1974). However, under
26 U.S.C. § 6402(a) the debtor is generally only entitled to a
19
tax refund to the extent that her overpayment exceeds her unpaid
tax liability. In re Davis, 889 F.2d at 661. In the present
case, the estate had a tax liability totaling $3,800, while the
1997 overpayment totaled only $1,395.94. Section 6402(a) grants
the IRS discretion whether to offset against a debtor’s unpaid
tax liability or to refund the overpayment to the taxpayer. The
IRS elected to exercise that discretion to apply the overpayment
to Appellant’s past liability. Because the prior unpaid tax
liability exceeded the amount of the overpayment, the debtor was
not entitled to a refund and the tax refund did not become
property of the estate. Absent an interest in the estate to the
refund, it could not properly be exempted by the debtor under §
522.
Conclusion
We reject the IRS’ contention that the bankruptcy court
lacked jurisdiction over this proceeding. Section 505(a)(1)
vests the bankruptcy court with broad jurisdiction over tax
matters of the estate and the debtor, including determinations
with respect to the personal liability of the debtor. The IRS’
alternative contention that the bankruptcy court should have
abstained and permitted this action to be brought in the Tax
Court or the district court is also rejected. The bankruptcy
court did not abuse its discretion in not abstaining from a
proceeding involving issues governed predominantly by bankruptcy
law and implicating one of the Code’s paramount objectives of
providing the honest debtor with a fresh start. The bankruptcy
20
court erred, however, by preventing the IRS from enforcing its
statutory right to setoff, established in § 6402(a) of the I.R.C.
and preserved in § 553 of the Bankruptcy Code, against a tax
overpayment that arose prior to the commencement of the case.
Upon compliance with the terms of § 553, a creditor’s right to
setoff is not affected by the post-discharge bar on collection
efforts in § 524(a)(2). Additionally, under our controlling
caselaw, the estate did not have an interest in the tax
overpayment which could be exempted by Appellant. The bankruptcy
court erred in permitting Appellant to exempt property, pursuant
to § 522, which had not entered the estate. Because we find
Appellant could not exempt the overpayment under § 522, we leave
open the question of whether § 522(c) immunizes exempt property
from setoff. We AFFIRM the judgment of the district court.
21
EMILIO M. GARZA, Circuit Judge, dissenting:
In contrast to the majority, I would not reach the merits of
Constance Luongo’s claim for a refund. Instead, I would dismiss
her action on the ground that, under 11 U.S.C. § 505(a)(2)(B),
the bankruptcy court lacked jurisdiction over her refund claim.
I find that the bankruptcy court’s jurisdiction extends only to
claims for refunds that benefit the estate. The majority rejects
this contention with a cursory analysis of the statute—simply
reciting the statutory text, but relying on legislative history
pertaining only to tax liability claims. In dispensing with the
assertion that § 505 bars the bankruptcy court’s exercise of
jurisdiction over this case, the majority overlooks the plain
meaning of the statute and the legislative history regarding the
bankruptcy court’s jurisdiction over refund claims.
It is a cardinal rule of statutory interpretation that we
begin our analysis by examining the statute’s text. See INS v.
Phinpathya, 464 U.S. 183, 189, 104 S. Ct. 584, 589, 78 L. Ed. 2d
401 (1984) (“This Court has noted on numerous occasions that in
all cases involving statutory construction, our starting point
must be the language employed by Congress, . . . and we assume
that the legislative purpose is expressed by the ordinary meaning
of the words used.”) (quotations and citations omitted). Mere
quotation of the statute does not satisfy this requirement;
instead, we must give studied consideration to Congress’s words.
-22-
Moreover, § 505 abrogates the government’s sovereign immunity,
requiring us to strictly construe it in favor of the sovereign.
See 11 U.S.C. § 106 (expressly abrogating sovereign immunity
where suits are brought pursuant to § 505); Dept. of the Army v.
Blue Fox, 525 U.S. 255, 261, 119 S.Ct. 687, 691, 142 L. Ed. 2d
718 (1999) (statutes abrogating sovereign immunity are to be
strictly construed).
Section 505(a)(1) is a grant of jurisdiction, providing
that:
Except as provided in paragraph (2) of this subsection,
the court may determine the amount or legality of any
tax, any fine or penalty relating to a tax, or any
addition to tax, whether or not previously assessed,
whether or not paid, and whether or not contested
before and adjudicated by a judicial or administrative
tribunal of competent jurisdiction.
(Emphasis added). I agree with the majority that the word “may”
in § 505(a)(1) arms the bankruptcy court with the discretion to
exercise the jurisdiction granted to it by § 505. This grant of
jurisdiction is, however, limited. The prefatory phrase
“[e]xcept as provided in paragraph (2) of this subsection”
expressly limns this grant of discretionary jurisdiction to those
cases that are not within the parameters established by paragraph
(2). Even if (a)(1) did not contain this explicit exception,
paragraph (2) begins by stating that the “court may not so
determine” those cases set out in (2)(A) and (B). In its rules
of construction, the Bankruptcy Code provides that “‘may not’ is
-23-
prohibitive, and not permissive,” making clear that the
bankruptcy court is prohibited from deciding cases in (2)(A) and
(B). 11 U.S.C. § 102(4). Furthermore, our circuit has
previously accepted that paragraph (2) limits the bankruptcy
court’s jurisdiction, requiring us to determine whether the case
at hand falls within the circumstances set out by that paragraph.
See In re Armstrong, 206 F.3d 465, 474 (5th Cir. 2000) (holding
that the bankruptcy court lacked jurisdiction to consider a
refund claim where the trustee failed to comply with §
505(a)(2)(B)); Tex. Comptroller of Pub. Accounts v. Trans State
Outdoor Adver. Co. (In re Trans State Outdoor Adver. Co.), 140
F.3d 618, 620 (5th Cir. 1998) (holding that if the chapter 11
debtor’s tax liability claim fell within § 505(a)(2)(A), the
bankruptcy court lacked jurisdiction to consider the claim);
Internal Rev. Serv. v. Teal (In re Teal), 16 F.3d 619, 622 (5th
Cir. 1994) (“Simply stated § 505(a)(2)(A), a jurisdictional
statute, is mandatory”). Consequently, the plain meaning of the
text compels us to examine whether § 505(a)(2) deprives the
bankruptcy court of jurisdiction.
Section 505(a)(2)(B) provides that:
the court may not so determine
(B) any right of the estate to a refund, before
the earlier of—
(i) 120 days after the trustee properly
requests such refund from the governmental
unit from which the refund is claimed; or
(ii) a determination by such governmental unit of
such request.
-24-
Luongo claims that the IRS owes her a refund. Subparagraph (B)
is the only provision in § 505 that addresses “refund” claims.
Hence, subparagraph (B) must be the starting place for
determining whether the bankruptcy court has jurisdiction over
Luongo’s claim. See Constable Terminal Corp. v. City of Bayonne,
N.J. (In re Constable Terminal Corp.), 222 B.R. 734, 737 (Bankr.
D.N.J. 1998) aff’d In re Constable Terminal Corp., 246 B.R. 181(D.N.J. 2000) (“Clearly, when addressing whether a court may
grant a debtor a tax refund, the court’s decision of the issue
must begin with the language of § 505(a)(2)(B).”); see also
Roberts v. Sullivan County (In re Penking Trust), 196 B.R. 389,
394 (Bankr. E.D. Tenn. 1996) (noting Congress’s “distinctive
treatment” of refund claims).
Subparagraph (B) establishes three conditions precedent to a
bankruptcy court’s jurisdiction over refund claims. First,
refund claims must be properly requested from the relevant
governmental unit. See 11 U.S.C. § 505(a)(2)(B)(i). In order to
“properly request” a refund, a trustee must comply with the
refund procedures set forth by the government from which it seeks
a refund. See In re Armstrong, 206 F.3d at 472 (“A ‘proper
request’ [for a refund] under the Internal Revenue Code requires
compliance with [26 U.S.C.] §§ 7422 and 6511”); Roberts, 196 B.R.
at 396 (“A ‘proper’ request under § 505(a)(2)(B) connotes
correctness and dictates conformity with the pertinent taxing
-25-
authority’s mechanism for seeking a refund.”). Failure to do so
deprives the bankruptcy court of jurisdiction. See In re
Armstrong, 206 F.3d at 472 (finding that where the trustee failed
to comply with Internal Revenue Code procedures for requesting a
refund, the bankruptcy court lacked jurisdiction to hear the
refund claim); City of Perth Amboy v. Custom Distrib. Servs.,
Inc. (In re Custom Distrib. Servs., Inc.), 224 F.3d 235, 243-44
(3d Cir. 2000) (holding that where the chapter 11 debtor failed
to comply with state procedural requirements, the bankruptcy
court lacked jurisdiction to hear the refund claim). Second, the
subparagraph sets out when in time the bankruptcy court may
exercise jurisdiction over a refund claim. The bankruptcy court
can act once the relevant governmental unit reaches a
determination on the claim or after the passage of 120 days from
the date on which the trustee made his request, whichever is
earlier. Thus, these two preconditions operate as an exhaustion
requirement, mandating that the trustee allow the governmental
unit to receive and act on the refund claim, although it must act
within 120 days, before the bankruptcy court can exercise
jurisdiction over the refund claim.
Third, and most important for this case, the text and
purpose of subparagraph (B) tell us what kind of refund claim the
bankruptcy court has jurisdiction to consider when the first two
conditions have been met: a refund claim brought for the benefit
-26-
of the estate. Section 505(a)(2)(B) refers to the “right of the
estate to a refund.” The estate encompasses the property
outlined in 11 U.S.C. § 541, which will be used to pay the
creditors. See 5 Collier on Bankruptcy ¶ 541. 01 (15th ed.
1999). “Congress is presumed to know the meaning of the words it
uses, especially in highly complex and intricate statutory
schemes.” United States v. Sotelo, 436 U.S. 268, 286-87, 98 S.
Ct. 1795, 1806, 56 L. Ed. 2d 275 (1978) (Rehnquist, J.
dissenting); cf. Molzof v. United States, 502 U.S. 301, 307, 112
S. Ct. 711, 716, 116 L. Ed. 2d 731 (1992) (“‘[W]here Congress
borrows terms of art in which are accumulated the legal tradition
and meaning of centuries of practice, it presumably knows and
adopts the cluster of ideas that were attached to each borrowed
word in the body of learning from which it was taken and the
meaning its use will convey to the judicial mind unless otherwise
instructed.’”) (quoting Morissette v. United States, 342 U.S.
246, 263, 72 S. Ct. 240, 250, 96 L. Ed. 288 (1952)). The
Bankruptcy Code is such a statutory scheme, and the word “estate”
does not include what Luongo seeks through her action—a refund
solely for her own benefit.14 We must presume that in using the
14
In response to this contention, the majority asserts that the
definition of the estate, as provided in § 541 undermines my
construction of the words “right of the estate.” The majority notes
that § 541 defines property of the estate broadly to include property
that the debtor may later declare exempt. Based on this definition, the
majority asserts that the estate has a right to the refund claim at
issue here and that its construction of § 505 does not read “‘the right
-27-
of the estate’ out of the statute,” as I later contend it does. While
the majority is correct that property that the debtor may later declare
exempt is property of the estate, the majority’s analysis fails to
account for the impact of the exemption. The Supreme Court defined an
exemption as “an interest withdrawn from the estate (and hence from the
creditors) for the benefit of the debtor.” Owen v. Owen, 500 U.S 305,
308, 111 S.Ct. 1833, 1835, 114 L.Ed.2d 350 (1991) (emphasis added); see
Wischan v. Adler, 77 F.3d 875, 877 (5th Cir. 1997) (“Although the
proceeds of the pre-petition personal injury causes are initially
property of the estate, some states and the federal government have
created exemptions for them”) (emphasis added). The exempt property
leaves the estate and vests in the debtor. See Bell v. Bell (In re
Bell), 225 F.3d 203, 216 (2d Cir. 2000) (“It is well-settled law that
the effect of . . . exemption is to remove property from the estate and
vest it in the debtor.”); Mayer v. Nguyen (In re Nguyen), 211 F.3d 105,
107 & 109 (4th Cir. 2000) (the operation of the exemption is to
“exclude” the exempt property from the estate); In re Gamble, 168 F.3d
442, 443 (11th Cir. 1999) (“exempt property is not part of the
bankruptcy estate”); Seror v. Kahan (In re Kahan), 28 F.3d 79, 81 (9th
Cir. 1994) (“The bankruptcy estate includes all of the debtor’s
interests in property at the commencement of the case, except property
that the debtor elects to exempt.”); Abramowitz v. Palmer, 999 F.2d
1274, 1276 (8th Cir. 1993) (holding that where trustee failed to object
to exemption, the trustee was “precluded from including” the property
in the debtor’s bankruptcy estate); In re Yonikus, 996 F.2d 866, 870
(7th Cir. 1993) (“[a]fter an asset is property of the estate . . ., it
can still past out of the estate (thus out of the reach of creditors)
as a” § 522 exemption); Taylor v. Freeland & Kronz, 938 F.2d 420, 422
(3d Cir. 1991) (“[T]he property so exempted is no longer considered
property of the bankruptcy estate.”); Sherk v. Tex. Bankers Life & Loan
Ins. Co. (In re Sherk), 918 F.2d 1170, 1174 (5th Cir. 1990) abrograted
on other grounds by Taylor v. Freeland & Kronz, 504 U.S. 638, 112 S.Ct.
1644, 118 L.Ed.2d 280 (1992) (exempt property “is no longer property of
the estate”); Norton Bankruptcy Law and Practice 2d § 51:2 (2000) (“The
debtor by acting affirmatively, may take the required action to set
aside his or her exemptions. The court may determine what is
appropriately exempted and what property remains in the estate.”)
(emphasis added); see also Graziadeai v. Graziadei (In re Graziadei),
32 F.3d 1408, 1410 n.2 (9th Cir. 1994) (bankruptcy court lacked
jurisdiction over homestead property because it was exempt and therefore
had no conceivable effect on the estate). But see Traina v. Sewell (In
re Sewell), 180 F.3d 707, 710 (5th Cir. 1999) (contrasting excluded
property with exempt property and noting that exempt property is
“included in the bankruptcy estate but ‘exempted from use in satisfying
claims of creditors and other authorized charges.”). Even the majority
-28-
phrase “right of the estate,” Congress intended for this to be
the only type of refund claim encompassed by § 505(a)(2)(B).
The modification of refund with “the right of the
estate” also contrasts sharply with § 505(a)(1)’s “any tax, any
fine . . . , or any addition to a tax” language. This difference
illustrates that had Congress intended to refer to refund claims
generally, it could have done so. See also Hartford Underwriters
Ins. v. Union Planters Bank, N.A., 530 U.S. 1, 7, 120 S. Ct.
1942, 1947-1948, 147 L. Ed. 2d 1 (2000) (in interpreting 11
U.S.C. § 506, finding that “had Congress intended the provision
to be broadly worded, it could simply have said so, as it did . .
. in other section of the Code.”). This difference in language
also accounts for the fact that the debtor can bring a claim for
a determination of his tax liabilities, but cannot bring a refund
claim that inures only to his benefit. Further, if we were to
adopt the majority’s position we would read the words “right of
the estate” out of the statute, a result eschewed in statutory
interpretation. See 2A Sutherland Statutory Construction § 46.06
(5th ed. 1992) (“A statute should be construed so that effect is
given to all its provisions, so that no part will be inoperative
or superfluous.”)
Additionally, in setting forth who requests the refund
acknowledges that “exempted property is removed from the estate.” Thus,
“the right of the estate” is properly construed as not including exempt
property.
-29-
claim, the statute refers only to the trustee. See 11 U.S.C. §
505(a)(2)(B). Congress’s failure to require that the debtor make
such a request cannot be seen merely as an omission because, as
the Supreme Court noted in construing § 506 of the Code, “the
fact that the sole party named -- the trustee -- has a unique
role in bankruptcy proceedings makes it entirely plausible that
Congress would provide a power to him and not others.” Hartford
Underwriters Ins., 530 U.S. at 7, 120 S. Ct. at 1947. So too it
is entirely plausible here that Congress entrusted this
responsibility only to the trustee.15 Moreover, giving this
responsibility to the trustee implies the refund claim will be
one benefitting the estate because the trustee’s duty is to act
for the benefit of the estate, i.e., for the benefit of the
creditors.16 As a result, the text’s delegation solely to the
15
Note, however, that the term trustee encompasses a debtor in
possession. Federal Rule of Bankruptcy Procedure 9001.01(10) provides
that “[t]rustee includes a debtor in possession in a chapter 11 case.”
Under 11 U.S.C. § 1107, with certain exceptions “a debtor in possession
shall have all the rights, . . . and powers, and shall perform all the
functions and duties, . . . of a trustee in a case under” chapter 11.
Here, Luongo is a chapter 7 debtor and a trustee has been appointed for
the estate.
16
The majority’s response to my interpretation of §
505(a)(2)(B) fails to account for the delegation of the duty to properly
request the refund to the trustee, instead treating the analysis as if
its only support rested in the words “right of the estate.” It is not
simply because the words “right of the estate” appear that§ 505 is so
limited, but also because the duty to request the refund is delegated
to the trustee. The trustee’s duty is to maximize the estate for the
purposes of distribution to the creditors. See 6 Collier on Bankruptcy
¶ 704.02[3] (15th ed. 2000) (“[I]t is the trustee’s duty to both the
debtor and the trustee to realize from the estate all that is possible
-30-
trustee the duty to properly request the refund claim considered
in tandem with the statute’s reference only to “the right of the
estate to a refund” demonstrates that § 505(a)(2)(B) concerns
only a refund that benefits the estate.
The purpose of § 505(a)(2)(B), as expressed in its text,
demonstrates that the text’s singular focus on a refund that
benefits the estate limits the bankruptcy court’s jurisdiction
over refund claims to those claims benefitting the estate that
have been properly requested and the tax authority has been
permitted 120 days to act upon that request. As described above,
the first two conditions precedent form an exhaustion
for distribution among the creditors.”) (emphasis added). In chapter
7 proceedings, the trustee’s main duty is to liquidate the estate as
expeditiously as possible. See 11 U.S.C. § 704(1) (trustee is to
“collect and reduce to money the property of the estate”). Further,
with respect to exemptions, the Code grants the right of exemption to
the debtor, not the trustee. See 11 U.S.C. § 522. The trustee, as a
party in interest, has standing to object to the debtor’s exemptions,
and should object where the exemption is invalid and would deplete the
value of the estate available for distribution to the creditors. Once
the period for objections to the debtor’s proposed exemptions passes and
the property becomes exempt, the trustee has no interest in exempt
property except to the extent that the property’s value exceeds any
applicable caps on the debtor’s exemption, in which case both the estate
and the debtor have an interest in the property. See 11 U.S.C. § 522(l)
(property declared exempt on the debtor’s schedules becomes exempt if
there are no objections); Bankr. R. Proc. 4003 (providing thirty days
in which to object). The Code recognizes that the trustee’s and the
debtor’s interests diverge regarding exemptions by allowing the debtor
to exempt property the trustee recovers, and, more importantly, by
permitting the debtor to avoid transfers the trustee can avoid in the
event the trustee fails to act. See 11 U.S.C. § 522(g) and (h). Thus,
the delegation to the trustee the duty to properly request the refund
claim is especially significant given the trustee’s and the debtor’s
roles with respect to exemptions.
-31-
requirement. This requirement compels the trustee to first avail
himself of the refund procedures provided by the government from
which he seeks a refund and allows the government to act first
with respect to that claim, rather than being subjected
automatically to the bankruptcy court’s jurisdiction. See
Roberts, 196 B.R. at 392 (“The purpose of § 505(a)(2)(B) is to
afford the taxing authority a reasonable opportunity to review
any refund claim under its normal procedures.”); St. John’s
Nursing Home, Inc. v. City of New Bedford (In re St. John’s
Nursing Home), 169 B.R. 795, 800 (D. Mass. 1994) (“Section
505(a)(2)(B) is thus designed to ‘give the taxing authorities
time to act on a refund request.’”) (quoting Benjamin Weintraub
and Alan N. Resnick, Bankruptcy Law Manual, ¶ 5.09 (3d ed.
1992)). Imposing such a requirement on refunds as opposed to tax
liabilities is particularly important from the government’s
perspective. When a debtor or a trustee seeks a determination of
tax liabilities, he is asking the bankruptcy court to fix what he
owes to the government. Where this occurs, the government may
receive payment. More importantly, it will not be making a
payment to the debtor or the estate. In contrast, when a trustee
calls upon the bankruptcy court to resolve the estate’s refund
claim, the trustee anticipates the receipt of a payment from the
government. At the resolution of such a claim, the government,
be it federal or local, may have to make a payment when the money
-32-
it has received from the debtor may have already left its
coffers. See City of Perth Amboy, 224 F.3d at 243 (“[§
505(a)(2)(B)(i)] is also a recognition of the havoc that would be
visited on the financial stability of a municipality if it were
forced to refund taxes paid years before”). If § 505(a)(2)(B)
applied solely to the right of the estate to a refund, the debtor
seeking a refund claim for her own benefit could go directly to
the bankruptcy court without allowing the government the
opportunity to examine the claim. Section 505(a)(2)(B)’s purpose
offers no basis for allowing one refund claim to escape the
government’s procedures but not the other. Cf. In re Dunhill
Med., Inc., No. 92-37700, 1996 WL 354696 at *5 (Bankr. D.N.J.
Mar. 27, 1996) (“A debtor should not be permitted to bypass”
§505(a)(2)(B)’s requirements “simply by classifying a claim as a
‘credit’ because the practical result of a credit is identical to
that of a refund.”). Such a result frustrates the statute’s
exhaustion purpose. Thus, that the text concerns only the
estate’s right to a refund cannot be construed to mean that
Luongo’s claim simply falls outside the reach of § 505(a)(2)(B)
and within the bankruptcy court’s jurisdiction.17 In light of
17
In quickly dispensing with the possible jurisdictional bar
posed by § 505, the majority fails to note in the text of its opinion
whether Luongo complied with § 505(a)(2)(B)’s requirements that a refund
be properly requested and that the bankruptcy court wait for the
government’s determination or 120 days after such a request to act
(whichever may have occurred earlier). Thus, the majority implies that
a debtor’s refund claim that benefits only the debtor is not bound by
-33-
this purpose and the text’s focus on the estate’s refund claims,
the bankruptcy court’s jurisdiction must then be limited to
refund claims brought for the benefit of the estate.18
Implicit in the majority’s contention that this reading of §
505(a)(2)(B) is too constrained is the assumption that Congress
could not have intended to so limit § 505(a)(1)’s broad grant of
jurisdiction. The interaction between § 505(a)(1) and §
505(a)(2)(A) demonstrates otherwise. Section 505(a)(2)(B)
provides that the court may not determine:
the amount or legality of a tax, fine, penalty, or
addition to tax if such amount or legality was
contested before and adjudicated by a judicial or
administrative tribunal of competent jurisdiction
these conditions. As described in text, the purpose of subparagraph (B)
does not permit such a distinction.
In response to my dissent, the majority states in a footnote that
Luongo has complied with the requirements of § 505(a)(2)(B). Hence,
despite the implication of the majority’s initial discussion of § 505,
the majority seems to interpret § 505(a)(2)(B) as applying to Luongo’s
claim. This interpretation is incorrect because it cannot overcome the
text’s focus on “the right of estate” together with the delegation to
the trustee the responsibility for seeking a refund claim.
18
The majority responds that other courts confronted with a
debtor’s refund claim inuring only to the benefit of the debtor have not
adopted the interpretation of § 505 I have set forth. In support of
this contention, the majority points to United States v. Ryan (In re
Ryan), 64 F.3d 1516 (11th Cir. 1995) and Gribben v. United States (In
re Gribben), 158 B.R. 920 (S.D.N.Y. 1993). In In re Gribben, the court
did not even broach the question of § 505’s applicability to the case,
let alone offer an interpretation of that section. Although the court
in In re Ryan at least discussed § 505, it merely recited the statutory
text and from there concluded, without discussion, that the debtor need
only meet § 505’s exhaustion requirements in order for the bankruptcy
court to have jurisdiction. See 64 F.3d at 1520-1521. Given the
nonexistent or truncated analysis found in these two cases, I find them
unpersuasive.
-34-
before the commencement of the case under this title
This exception recites the language of the last clause of
paragraph (1) adding only the timing provision, i.e., “before the
commencement of the case under this title.” Subparagraph (A)
thus precludes the bankruptcy court from determining any tax
liabilities contested and adjudicated pre-petition, cutting a
broad swath from the general grant of jurisdiction and leaving
only those claims contested subsequent to the beginning of the
bankruptcy case to fall within the scope of the bankruptcy
court’s jurisdiction. Given the substantial limitation
subparagraph (A) places on the bankruptcy court’s jurisdiction,
the assumption that Congress did not intend to so limit the
bankruptcy court’s jurisdiction cannot be made.
Moreover, the majority contends that the above
interpretation of § 505(a)(2)(B) contravenes Congress’s intent to
provided a broad grant of jurisdiction over “tax issues” as
evinced in the legislative history. In examining the legislative
history, the majority focuses solely on the legislative
statements pertaining to taxes owed by the debtor or the estate.
Specifically, the majority relies on two statements by
Representative Edwards and Senator DeConcini. First, the
majority relies on Representative Edwards’s statement that § 505
authorizes “the bankruptcy court to rule on the merits of any tax
claim involving an unpaid tax, fine, or penalty relating to the
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tax or an addition to a tax, of the debtor or the estate.” 124
Cong. Rec. 32413; see 124 Cong. Rec. 34013 (1978) (Statement of
Sen. DeConcini). Additionally, the majority points to
Representative Edwards’s and Senator DeConcini’s statement that
“the bankruptcy judge will have authority to determine which
court will determine the merits of the tax claim both as to the
claim against the estate and claims against the debtor concerning
his personal liability for nondischargeable taxes.” 124 Cong.
Rec. 32414 (1978) (statement of Sen. DeConcini); 124 Cong. Rec.
34014 (1978) (statement of Rep. Edwards). In these statements,
the majority zeroes in on the phrases “of the debtor or the
estate” and on “claims against the debtor concerning his
liability for nondischargeable taxes” in order to show that
Congress intended for the bankruptcy court to have jurisdiction
over refund claims not affecting the estate. But these
statements concern one kind of claim: one in which the debtor
owes money to the government. The first quotation refers to
“unpaid tax, fine, or penalty relating to a tax, addition to a
tax.” All of these items connote the taxing authority’s right to
a payment. Likewise, the second statement’s reference to “claims
against the debtor” connotes the government’s right to a payment
from the debtor. As such, these statements offer little insight
into Congress’s intent with respect to refund claims.
Representative Edwards’s and Senator DeConcini’s subsequent
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remarks clarify that § 505(a)(1)’s grant of jurisdiction is
subject to paragraph (2)’s limitations. The Legislators note
that the bankruptcy court “will not have jurisdiction to rule on
the merits of any tax claim which has been previously
adjudicated, in a contested proceeding, before a court of
competent jurisdiction,” recognizing the exception to
jurisdiction § 505(a)(2)(A) creates. More importantly, although
conspicuously absent from the majority’s recitation of the
legislative history, the Legislators addressed refund claims,
stating:
the bankruptcy court can, under certain conditions,
determine the amount of tax refund claim by the
trustee. . . . [I]f the refund results from an offset
or counterclaim to a claim or request for payment by
the Internal Revenue Service, or other tax authority,
the trustee wold not first have to file an
administrative claim for refund with the tax authority.
However, if the trustees requests a refund in
other situations, he would first have to submit an
administrative claim for the refund. . . . [I]f the
Internal Revenue Service or other tax authority does
not rule on the refund claim within 120 days, then the
bankruptcy court may rule on the merits of the refund
claim.
124 Cong. Rec. 34013 (1978) (Statement of Sen. DeConcini); 124
Cong. Rec. 32413 (1978) (Statement of Rep. Edwards) (emphasis
added). The statement refers only to refund claims brought by
the trustee and is devoid of any reference to the debtor. In
contrast, the legislative history of § 505 is replete with
references to the debtor where it discusses his debts. See,
e.g., 124 Cong. Rec. 34013 (1978) (Statement of Sen. DeConcini)
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(“[A]n individual debtor can also file a complaint to determine
dischargeability . . . so that the bankruptcy court would then
determine the validity of the claim against the assets in the
estate and also the personal liability of the debtor for any
nondischargeable debt.”) (emphasis added); 124 Cong. Rec. 32414
(1978) (Statement of Rep. Edwards) (summing up the interplay
between the automatic stay provision and § 505’s grant of
jurisdiction stating that “[i]n essence, . . . the bankruptcy
judge will have authority to determine which court will determine
the merits of the tax claim both as to claims against the estate
and claims against the debtor concerning his personal liability
for nondischargeable taxes.”) (emphasis added). This
juxtaposition between the discussion of refunds and the remainder
of § 505 again implies that these refund claims are claims
benefitting the estate, not the debtor personally. Furthermore,
the legislators noted that the bankruptcy court can exercise
jurisdiction over refund claims by the trustee only under
“certain circumstances,” evincing congressional intent to limit
the bankruptcy court’s jurisdiction over refund claims. Thus,
the legislative history shows that Congress granted the
bankruptcy courts only a limited role in adjudicating refund
claims.
In short, the plain language and the legislative history
demonstrate that the bankruptcy court has jurisdiction only to
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hear refund claims that benefit the estate and the government’s
immunity has not been abrogated for the purposes of this suit.
That § 505 does not provide the bankruptcy court with
jurisdiction cannot be overcome, as Luongo suggested at oral
argument, by § 106’s abrogation of immunity for actions brought
under §§ 522, 542, 543, or 362. None of these sections concerns
refunds. Because § 505 is an abrogation of sovereign immunity
specifically with respect to refunds, its grant of jurisdiction
and the limitations on that jurisdiction control. See In re
Armstrong, 206 F.3d at 470 (“One basic principle of statutory
construction is that where two statutes appear to conflict, the
statute addressing the relevant matter in more specific terms
governs.”). Consequently, Luongo’s contention does not defeat
the conclusion to which the plain language of § 505 and its
legislative history lead.
Finally, even if the majority’s view is correct and the
bankruptcy court can exercise jurisdiction over Luongo’s refund
claim, the bankruptcy court’s abstention is warranted. The text
of § 505(a)(2)(B) plainly focuses on the right of the estate to a
refund claim. Should the estate receive such a payment, it will
benefit the creditors, making them the intended beneficiaries of
§ 505(a)(2)(B). While I agree with the majority that one of the
broad purposes of the bankruptcy code is to provide debtors with
a fresh start, I disagree that this broader purpose should trump
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§ 505(a)(2)(B)’s more narrow purpose. Accordingly, even if the
bankruptcy court had jurisdiction, I would find that abstention
was warranted.
For the foregoing reasons, I would dismiss for lack of
jurisdiction.
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