In re Minor; 127 AFTR 2d 2021-XXXX (DC CA); Case No. 2:20-cv-03626 (DC, C.D. CA)
This case involves taxes in a bankruptcy case that were priority taxes under the Bankruptcy Code.
The Debtor in this case filed for Chapter 7 bankruptcy in May, 2013 and received a discharge in May, 2015. In March, 2018, the IRS filed an amended proof of claim in the bankruptcy case for almost $26 million for unpaid federal income taxes owed by Minor for tax years 2007, 2008, 2009, and 2011 (the “IRS Claim”). The IRS Claim consisted of a secured claim of $24,857,210.48, a priority claim of $997,869.07, and an unsecured claim of $61,398.90.
The California Franchise Tax Board (“FTB”) also filed its own proof of claim, the details of which were not relevant for purposes of this case. What was relevant was that the bankruptcy trustee did not have enough funds to pay both the IRS and the FTB claims in full. Therefore, the bankruptcy trustee (“Trustee”), the IRS, and the FTB entered into a stipulation regarding the division of available funds (the “Stipulation”).
Pursuant to the Stipulation, the IRS Claim was to be allowed a secured claim in the amount of $586,604.12 (the “IRS Secured Claim”), a priority claim in the amount of $997,869.07 (the “IRS Priority Claim”), a general unsecured claim in the amount of $19,706,386.41, and a subordinated claim for penalties in the amount of $4,625,648.18.
The Court approved the Stipulation in October, 2018 (the “Stipulation Order”), and pursuant to the Stipulation Order, the Trustee distributed $882,680.74 to the United States as payment n the $997,869.07 IRS Priority Claim, thereby leaving $115,188.133 of the IRS Priority Claim unpaid.
In October, 2019, the IRS represented to Minor that, after accounting for the distribution of the $882,680.74 received from the Trustee, Minor still owed income tax to the IRS for the 2009 tax year in the amount of approximately $462,432 – this notwithstanding Minor’s bankruptcy discharge and the Stipulation.
Minor, disagreeing with the alleged amount owed, filed an adversary proceeding in the Bankruptcy Court seeking a determination of the amount of the unsatisfied IRS Priority Claim that the United States could attempt to collect without violating Minor’s discharge. The Bankruptcy Court ruled for the United States, and Minor appealed the decision to the District Court.
On appeal, the facts were generally not disputed. The parties agreed that Minor’s 2009 tax debt was entitled to priority status because his 2009 tax return was due less than three years prior to filing his bankruptcy petition. The further agreed that, pursuant to Bankruptcy Code §523(a)(1), such taxes were deemed nondischargeable in bankruptcy. And they also agreed that the IRS may normally pursue such nondischargeable debt after the close of bankruptcy, regardless of whether the IRS included the debt in a proof of claim during bankruptcy.
The only issue in the case was whether the Stipulation Order precluded the IRS from claiming additional taxes from Minor for the 2009 tax year based on res judicata principles. Minor argued that the Stipulation Order barred any future disputes regarding the amount of his tax liability for the years 2007, 2008, 2009, and 2011. The Bankruptcy Court rejected Minor’s arguments because:
- The Stipulation did not purport to render any debts dischargeable; and
- Minor was not a party to the Stipulation.
Although the District Court’s rationale differed slightly from that of the Bankruptcy Court, it ultimately agreed that the Stipulation Order did not preclude the IRS from claiming tax debt from Minor for the 2009 tax year that exceeded the stipulated IRS Priority Claim. The District Court found that, where there is both an “identity of claims” and an identity or privity of parties, that res judicata principles preclude a creditor from attempting to relitigate the amount of the disputed claim. In this case, however, the Trustee, the IRS, and the FTB entered into the Stipulation to determine how the Trustee would distribute limited funds from the bankruptcy estate toward the agencies’ competing claims. However, no identity of claims existed, according to the District Court. Since the purpose of the Stipulation was simply to determine how the IRS and FTB would divide the limited funds held by the estate, the accuracy of the IRS’s proof of claim was never at issue.
Furthermore, according to the District Court, Minor lacked privity with regard to the Stipulation. Both the Trustee and Minor were free to dispute the IRS’s proof of claim in Minor’s bankruptcy. Because the Trustee was no obligated or motivated to challenge Minor’s personal liability for the IRS’s claim, Minor was not n privity with the Trustee for purposes of the stipulated IRS Priority Claim.
In summary, res judicata was found not to be applicable to the Stipulation. Therefore, the judgment of the Bankruptcy Court allowing the IRS to pursue the additional tax claim amounts was affirmed.