Late Filed Returns and Bankruptcy

9th-circuit-emblemHistorically, a taxpayer could late file tax returns and, after a two-year window, discharge the taxes in a Chapter Seven bankruptcy. Even if the IRS had done Substitute for Returns (SFR), the taxpayer could discharge the taxes if he or she met the two-year rule.

In 1999, a court case, Hindenlang, came down in the Sixth Circuit, which ruled that a return filed after an SFR is not a return for bankruptcy purposes – discharge of the tax debt was banned for such tax debt. That decision was only binding in the Sixth Circuit. Tax Crisis Institute clients for the most part reside in California and Nevada; California and Nevada are in the Ninth Circuit.

The IRS did not follow Hindenlang in the Ninth Circuit for about ten years; in 2010, the IRS started contesting the discharge of taxes in the Ninth Circuit. No taxpayers- nor their bankruptcy attorneys- have contested the ban since 2010. Bear in mind, the Supreme Court has not ruled on the issue…regrettably, this is IRS policy in our circuit, so it stands at this time if the IRS does a substitute for return prior to a taxpayer filing a return, the tax debt cannot be bankrupted.

In 2007 a Linda McCoy filed a bankruptcy in the Fifth Circuit attempting to bankrupt late filed returns with the state of Mississippi. The state filed an adversary proceeding and, astonishingly, won. If BAPCPA had intended that late filed returns could not be discharged in bankruptcy, it would have said so. Be that as it may, the law in the Fifth Circuit is now that a tax return late filed in the Fifth Circuit cannot be bankrupted.

The IRS does not follow McCoy in the Ninth Circuit; it has, however, chosen to follow Hindenlang. Tax Crisis Institute has, in fact, moved a taxpayer from the Fifth Circuit to California, or the Ninth Circuit, and discharged hundreds of thousands of dollars in tax debt on late filed returns.

On December 29th, 2014, in Mallo and Mallo v IRS in the 10th Circuit, the Court regrettably came down with a decision that was worse than the McCoy decision. It is now the law in the 10th Circuit that tax debts from late filed returns cannot be discharged.

What will be the policy of the IRS, henceforth, in the Ninth Circuit? Will it continue to follow Hindenlang from the Sixth Circuit? Or will the IRS follow McCoy and Mallo from the the Fifth and 10th Circuits? The Ninth Circuit is one of the most pro-consumer, pro-tax payer circuits in the country. We need to push back and get case law overturning Hindenlang and at all costs prevent taxpayers who reside here from being McCoyed or Malloed.

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