Treating Straddle Tax Claims in Chapter 13
by: Thomas D. DeCarlo
Chapter 13 Trustee Office; Southfield, Mich.
Each year, thousands of debtors file for relief under chapter 13 between Jan. 1 and April 15. A certain number will then timely file tax returns for the prior year, and find that they have a tax liability. These “straddle” liabilities—liabilities for tax years preceding the year in which the chapter 13 is commenced but before the deadline for filing the tax return—pose serious problems for debtors who need and deserve the fresh start promised in chapter 13. How can a debtor deal with these tax liabilities in the chapter 13, if at all? Four recent decisions from Michigan illustrate the difficulties in analyzing and treating these straddle liabilities.
In In re Turner,  the debtor filed for chapter 13 relief on Jan. 13, 2009, and timely filed his State of Michigan tax return that indicated a liability of $2,396 for the tax year ending Dec. 31, 2008. The debtor filed a proof of claim on behalf of the state, which objected to the claim. The court focused on § 1305, which provides that only the taxing authority can file a claim for “taxes that become payable...while a case is pending.” The court stated that while the debtor could pay the taxes at any time after Jan. 1, the taxes are not payable until the final day on which a tax return can legally be filed. The taxes are not due to or legally enforceable by the taxing authority until that date, and until the return is filed, the taxing authority cannot know whether there is a liability. The court also noted that if the tax liability is found to be a pre-petition obligation, then the taxing authority may be denied the time required by Bankruptcy Rule 3002 for filing a proof of claim, and the taxing authority has 180 days from the petition date to file the claim. The debtor filed for relief on Jan. 13, and the bar date for a governmental proof of claim would run on July 28. If the tax liability is not fixed until April 15, then the governmental unit would have only 88 days between April 15 and July 28 to actually file the proof of claim. The fact that the taxes are not payable and the apparent adverse impact on the state’s ability to file a proof of claim compelled the conclusion that the straddle tax liability was a post-petition liability that could not be treated in the chapter 13 plan unless the state chose to file a proof of claim and receive payment through the Plan.
In In re Senczyszyn, the court determined that § 1305 does not define “pre-petition” vs. “post-petition” claims, but applies only after a court makes the threshold determination that the claim is a post-petition claim. The court stated that whether an obligation is a claim is based on § 101(5)(A), which defines any right to payment—whether liquidated, unliquidated, contingent or otherwise—and is to be construed in the broadest terms possible. Under Sixth Circuit precedent, the obligation will be a claim if the obligation has its basis in a pre-petition relationship between the debtor and creditor. That relationship, standing alone, gives the creditor the required notice of an obligation to file a proof of claim. Applied to tax obligations, the liability by definition arises out of a pre-petition relationship between the debtor and taxing authority. Every fact that is necessary for the existence and extent of the claim occurred as of Dec. 31 of the prior year. The straddle tax liability is a claim as of Dec. 31 that, as a pre-petition priority claim, must be treated in debtor’s chapter 13 plan pursuant to § 1322, free from the restrictions of § 1305.
Two other cases  used a third approach to straddle tax claims and were the first to disagree with the Senczyszyn court regarding the status of the claim as a pre-petition claim. These courts agreed with the Turner court’s holding that the state’s “right to payment” did not arise until April 15 and, therefore, the claim did not arise until April 15, well after the commencement of the cases.
The courts then focused on §§ 1322 and 507(a)(8)(A)(i). Section 507(a)(8) gives priority status to any claim that is measured by income for a taxable year ending on or before the date of the filing of the petition for which a return, if required, is last due after three years before the date of the filling of the petition. Straddle tax liabilities are “measured by income” for a tax year ending prior to the commencement of the case—the debtor's income in 2009 certainly predates the filing of the case in 2010. The last date on which the debtor could timely file a return would have been April 15, 2010, a date is that is after a date that was three years prior to the commencement of the case. Thus, the debtor’s tax obligation for the year 2009 constituted a “priority” tax claim under § 507.
Section 502 provides that any claim that arises after commencement of the case for tax that is otherwise entitled to priority is determined and allowed as if the claim had arisen before the date of the Petition. Section 1322 requires that the debtor's plan provide for full payment of all allowed priority claims over the life of the plan. "[Sections] 502(i), 507(a)(8) and 1322(a)(2)…establish a Congressional intent to treat taxes on income for the taxable year preceding the bankruptcy cases as prepetition claims and to bring those claims into the bankruptcy plan." 
Regardless of the analysis used—whether the “straddle” tax claim is a pre-petition claim or is a post-petition claim that nonetheless can be treated in the Plan—allowing a debtor to treat these claims is more consistent with the “fresh start” policy of the Bankruptcy Code. Presumably, debtors are all committing all of their disposable income to the funding of the plan, raising the question of how the debtor would be able to pay this additional claim. Payment of the claim assures that the claim will be paid, as full payment of the priority claim is a condition to the debtor receiving a discharge. Payment through the chapter 13 plan also simplifies the collection by the taxing authority, which must do nothing more than file a proof of claim. The taxing authority may be denied the ability to charge interest and penalties. However, a taxing authority’s goal should be to collect taxes owed, not to seek unnecessarily punitive additional charges or fees. Payment of straddle tax claims through the chapter 13 plan furthers the goals of both the Code in providing the debtor with a fresh start and those of the taxing authority for collection of outstanding tax obligations.