In In Re McGrew, No. 13-00149, the U.S. Bankruptcy Court for the Northern District of Iowa addressed a dispute as to whether the taxpayer had actually filed her tax return with the IRS. The taxpayer said she did; the IRS said she did not. This is a very common and important issue that taxpayers often struggle with. It comes up in determining whether taxes are discharged in bankruptcy as in McGrew. It also comes up in determining whether the time the IRS has to collect taxes has lapsed.
Facts & Procedural History
McGrew filed Chapter 7 bankruptcy and received a discharge for her unpaid taxes. The IRS continued its collection activities after the unpaid taxes were discharged in bankruptcy. McGrew brought suit asking the court to confirm that the taxes were in fact discharged. The IRS argued that McGrew’s 2006 and 2007 tax returns were not filed at least 2 years prior to the time the bankruptcy petition was filed and, as such, the taxes were not dischargeable. The IRS then conceded the 2007 tax return was filed. McGrew argued that she mailed the 2006 tax return to the IRS along with the other returns prior to entering into an installment agreement with the IRS for all of the years.
Discharging Taxes in Bankruptcy
Unpaid taxes can be discharged in Chapter 7 bankruptcy. There are rules that must be met for the tax debt to be dischargeable in bankruptcy. Section 523 of the Bankruptcy Code provides that:
A discharge under [Chapter 7] . . . does not discharge an individual debtor from any debt . . . for a tax . . . with respect to which a return, or equivalent report or notice, if required . . . was not filed or given; or . . . was filed or given after the date on which such return, report, or notice was last due, under applicable law or under any extension, and after two years before the date of the filing of the petition.
This leaves one wondering what a “a return, or equivalent report or notice” means. As was the case in McGrew, Section 6020(a) of the Tax Code authorizes the IRS to file tax returns for taxpayers who do not file their own returns. These substitutes for returns (SFRs) are computed based on information reported to the IRS by third parties. It is not clear whether the SFR satisfies this rule.
Congress amended the Bankruptcy Code in 2008 to address this. So Section 523(a) now provides that:
For purposes of this subsection, the term return means a return that satisfies the requirements of applicable nonbankruptcy law (including applicable filing requirements). Such term includes a return prepared pursuant to section 6020(a) of the Internal Revenue Code of 1986, or similar State or local law, or a written stipulation to a judgment or a final order entered by a nonbankruptcy tribunal, but does not include a return made pursuant to section 6020(b) of the Internal Revenue Code of 1986, or a similar State or local law.
These rules can be summed up as follows: taxes are only dischargeable in bankruptcy if the taxpayer files a tax return within 2 years of the date of the bankruptcy petition filing. A SFR is not a tax return that satisfies Section 523(a) of the Bankruptcy Code. So absent the filing a of a tax return by the taxpayer, a SFR alone is not sufficient and absent such a filing, a lone SFR will not result in the tax liability being discharged in bankruptcy.
Before moving on, it should be noted that this 2 year rule is different than the 3 year rule in 507(a)(8)(A)(i). The 3 year rule addresses whether the taxes are dischargeable. Only tax liabilities for tax years at least 3 years prior to the bankruptcy petition filing are dischargeable in bankruptcy. There are nuances to the 3 year rule that can change the timing, which are not addressed here. I just wanted to note that there are two different rules to avoid confusion.
Proof that the Taxpayer Mailed Her Tax Return
So the court had to decide whether McGrew filed her 2006 tax return. It concluded that she did. It based its decision on the following facts:
- McGrew credibly testified that she did in fact mail the 2006 tax return to the IRS.
- The IRS wrote McGrew a letter that noted all of the tax years where there was an outstanding tax balance, including 2006, and noted that it needed the 2009 tax return to be filed before it would agree to an installment agreement.
- The IRS had initially misplaced McGrew’s 2007 tax return and did not check it into the IRS’s computer system for 8 months.
The court accepted these facts over the IRS’s expert witness. The IRS’s expert witness was familiar with IRS transcripts and the transaction codes, but not with McGrew’s tax return in particular. She testified that she had never experienced or observed the IRS losing a return in the 30 years she had worked for the IRS. Her testimony may have been correct, as she would probably not know of all of the tax returns the IRS lost. That makes sense.
The court weighed this evidence and sided with the taxpayer. The takeaway for taxpayers who are in this situation is that you need something more than a mere statement that the tax return was mailed. You need corroborating evidence, such as other returns being remitted at the same time, other anomalies in how your tax returns were processed, and/or evidence that the IRS took some action that it would not have if you hadn’t filed the tax return. Of course, proof of mailing or an IRS stamped copy is preferable.