All Late-Filed Taxes Now Nondischargeable?!

Sometimes a tax return is not a tax return. As a result, bankruptcy is becoming a less effective response to back tax woes in the US. Yesterday, the 1st Circuit joined the 5th and 10th in holding that old income tax debts are nondischargeable if the taxpayer-debtor filed the related tax returns late. This is the latest negative impact of BAPCPA and an oddly worded statute with an even odder citation.

Section 523(a)(1)(A) of the Bankruptcy Code has long made nondischargeable recent income tax debts, for taxes for which the return was due within three years before the bankruptcy filing. But older tax debts might also survive the discharge thanks to section 523(A)(1)(B)(i). That section renders taxes nondischargeable if the taxpayer-debtor failed to file a return. Not surprising. What is surprising is a recent revision and its expansive interpretation, which have created a vast new category of nondischargeable tax debts.

In yet another BAPCPA "hanging paragraph" at the very end of section 523(a), generally cited 11 USC § 523(a)(*), the term "return" is oddly defined now as a return "that satisfies the requirements of applicable nonbankruptcy law (including applicable filing requirements)." In Fahey, the 1st Circuit joined several other courts, including the 5th (McCoy) and 10th (Mallo) in interpreting "applicable filing requirements" to include the filing deadline. That is, a return filed so much as one day past the filing deadline does not satisfy applicable filing requirements and so is not subject to discharge in bankruptcy, no matter how old.

Notwithstanding the majority's "plain language" insistence in Fahey, this is not an uncontroversial interpretation of the provision. The IRS doesn't view it this way, for example. It takes the historical approach of regarding a return filed after the IRS has  made an involuntary assessment (or filed a 6020(b) return) as not a good faith attempt to comply with tax law and therefore not a return. But a late-filed return filed before an assessment (the IRS apparently moves somewhat slowly) is a "return," and the tax debt for such a return can be discharged. This still leaves many old taxes nondischargeable because their "returns" were filed late (and were not, therefore, "returns"), but it's a much narrower exception than the McCoy-Mallo-Fahey approach. I admit that I was surprised at the metaphysics of "returns" even on this historical IRS test, but many courts (4th, 6th, 7th, 9th and a slew of lower courts) have adopted this position.

Attorneys advising potential bankruptcy clients with old back tax debts, beware! Even the Chapter 13 discharge does not encompass these "no-return" tax debts!  [11 USC § 1328(a)(2)]  If this approach expands to other circuits, BAPCPA will have silently ushered in a substantial new category of nondischargeable tax debts.

1040 tax return image courtesy of Shutterstock