5.9.2. The Bankruptcy Code and Collection

(1) Purpose. Internal Revenue Manual 5.9.2, The Bankruptcy Code and Collection, is the section within IRM 5.9, Bankruptcy and Other Insolvencies, which introduces the reader to the U.S. Bankruptcy Code (USBC).

(2) Audience. This IRM section is used primarily by Insolvency caseworkers and management in Specialty Collection Insolvency (SCI), which consists of Field Insolvency (FI) and the Centralized Insolvency Operation (CIO). It may be referred to by other SB/SE employees such as Revenue Officers (ROs) and Advisors. However, employees in other functions may also refer to this subsection when dealing with a taxpayer that has filed bankruptcy.

(3) Policy Owner. The Director of Collection Policy is responsible for issuing policy for the Insolvency program.

(4) Program Owner. The program owner is Collection Policy, Insolvency an organization within the Small Business Self Employed (SB/SE) division.

(5) Primary Stakeholders. The primary stakeholders of this section are SCI and SB/SE Collection employees.

(6) Program Goals. The goal of this IRM is to discuss the effect the filing of a bankruptcy petition has on collection.

(1) "Fresh Start" Concept. Federal bankruptcy law embraces the entire field of debtor-creditor relationships to provide a uniform and equitable method to distribute the debtor's assets to the debtor's creditors. At the same time, it gives the debtor an opportunity to start over with a clean (or at least improved) financial slate. This section deals with the Bankruptcy Code and its impact on tax collection.

(2) The Bankruptcy Code. Initially, individual states, not the federal government, enacted insolvency laws. Bankruptcy law is now codified in Title 11 of the United States Code (11 USC) and known as the Bankruptcy Code, which establishes the law under which bankruptcy proceedings are commenced, administered, and closed.

(3) Chapters of the Bankruptcy Code. The Bankruptcy Code is divided into chapters:

• Chapters 1, 3, and 5 contain general provisions applicable to all types of bankruptcies

• Chapter 7 deals with liquidating bankruptcies

• Chapter 9 concerns debts of a municipality

• Chapter 11 provides information on reorganizations of individuals and businesses, including corporations, partnerships, and Limited Liability Companies (LLCs)

• Chapter 12 concerns family farmer and family fisherman reorganizations

• Chapter 13 deals with reorganizations of individuals with regular income

• Chapter 15 addresses cross-border bankruptcies

(4) Adjustments of Dollar Amounts in Bankruptcy Code. At three-year intervals, automatic adjustments of dollar amounts in effect under certain sections of the Bankruptcy Code are made to reflect changes in the Consumer Price Index (11 USC 104(a). The last automatic adjustments went into effect on April 1, 2022. Future adjustments will continue at each three-year period ending on April 1, thereafter. The next scheduled adjustments will be on April 1, 2025. The various sections of the Bankruptcy Code affected include:

• 101(18) & (19A) - debt limits under definition of family farmer and family fisherman

• 101(51D) - definition of small business debtor

• 109(e) - allowable debt limits for filing under Chapter 13

• 507(a) - priority claims

• 522 - exemptions allowed to the debtor

• 707(b) - means testing provisions

• 1322(d) - current monthly income levels for determining duration of Chapter 13 plans

• 1325(b) - definition of disposable income

(1) Organization. Chapters 1, 3, and 5 of the Bankruptcy Code apply to all proceedings unless modified by a specific provision under a proceeding type. The Bankruptcy Code sections listed under each chapter are not all inclusive but have been added as a general reference.

(2) Chapter 1, General Provisions.

• Section 101, Definitions

• Section 105, Power of Court

• Section 106, Waiver of Sovereign Immunity

• Section 109, Who May be a Debtor

(3) Chapter 3, Case Administration.

• Section 302, Joint Cases

• Section 361, Adequate Protection

• Section 362, Automatic Stay

(4) Chapter 5, Creditors, Debtor, and the Estate.

• Section 507, Priorities

• Section 522, Exemptions

• Section 523, Exceptions to Discharge

• Section 524, Effect of Discharge

• Section 541, Property of the Estate

• Section 542, Turnover of Property to the Estate

• Section 547, Preferences

• Section 553, Setoff

(1) Bankruptcy Options. Bankruptcy is separated into two general categories:

1. Liquidation — Chapter 7 and liquidating Chapter 11 — liquidation of assets to pay off debts; or

2. Reorganization — Chapters 11, 12, and 13 — reorganizing to pay creditors over a period of time through a plan.

(2) Chapters of Bankruptcy. The chapters under which persons can file for bankruptcy protection are:

1. Chapter 7 - Liquidation. A proceeding filed by an individual, business, or other entity, including corporations and partnerships, to pay creditors through liquidation and distribution of the debtor's assets.

2. Chapter 9 - Adjustment of a Municipal Debt. A bankruptcy filed by a municipality, generally authorized to be a debtor by state law, which is insolvent or unable to meet its debts as they mature, and desires to effect a plan to adjust those debts.

3. Chapter 11 - Reorganization. A proceeding filed by an individual (except stockbrokers or commodity brokers) or business, including corporations, partnerships, or LLCs, where creditors are paid under a plan which may last for several years, depending on the type of claims held by the creditor. The individual that files Chapter 11 may receive a discharge after completion of plan payments, under 11 USC 1141(d)(5)(A), unless the court orders otherwise for cause. Similar to the Chapter 13 case, the court may grant the Chapter 11 individual a hardship discharge in appropriate circumstances per 11 USC 1141(d)(5)(B). Non-individual Chapter 11 debtors generally receive a discharge upon confirmation of the plan.

4. Chapter 12 - Family Farmers and Fishermen. A reorganization proceeding for family farming or fishing operations, with characteristics of bankruptcy issues in both Chapters 11 and 13. (The farmer or fisherman is allowed to remain in business while formulating a plan to pay creditors.) The Chapter 12 debtor generally receives a discharge under 11 USC 1228(a) upon completion of plan payments. The individual debtor may receive a hardship discharge under 11 USC 1228(b) prior to the completion of plan payments.

5. Chapter 13 - Individuals. A voluntary reorganization of debts for individual debtors (including wage earners and sole proprietors) under the direction of a trustee who disburses payments to creditors. Repayment is through a plan, which the court can approve for up to 60 months. For bankruptcies commencing prior to October 17, 2005, the debtor receives a super discharge after successful completion of the plan. Certain tax debts are excepted from discharge for bankruptcies commencing on or after October 17, 2005. The Chapter 13 debtor may receive a discharge upon completion of all bankruptcy plan payments under 11 USC 1328(a). The debtor may also receive a hardship discharge due to exigent circumstances when the plan cannot be completed per 11 USC 1328(b).

6. Chapter 15 - Cross-Border. Opened when a foreign court or a foreign representative seeks assistance in the United States in connection with a foreign proceeding; assistance is requested in a foreign country in connection with a case under 11 USC; a foreign proceeding and a domestic bankruptcy for the same debtor are pending concurrently; or creditors or other persons in a foreign country have an interest in requesting the commencement of, or participating in, a case or proceeding under 11 USC.

(1) Section 341 Meeting. The debtor must attend the first meeting of creditors (often called the 341 meeting or hearing) if held, to be questioned under oath by creditors and the trustee concerning financial affairs, debts, and property issues. The Service can obtain pertinent information at the 341 meeting on specific tax matters. (See paragraph (4) below.)

(2) Order Not to Hold 341 Meeting. For cases filed on or after October 17, 2005, the court may, after notice and hearing, order the trustee not to hold a 341 meeting if:

1. A party in interest requests no meeting be held;

2. The debtor has filed a plan; and

3. The debtor has solicited acceptances to the plan from the creditors prior to the commencement of the case.

(3) Insolvency Attendance. Field Insolvency (FI) caseworkers will attend any 341 meetings, including hearings for cases assigned to the Centralized Insolvency Operation (CIO), if warranted. When a caseworker determines that attendance is necessary, arrangements should be made . This may involve coordination with the FI manager in situations where a case is assigned outside of the caseworker's physical jurisdiction and/or authorized travel area. Some courts will not permit Insolvency caseworkers to question the debtor at the 341 meeting. BAPCPA has not changed this limitation. If an Insolvency caseworker feels they will not be allowed to question the debtor, the case should be referred to Counsel to ask for legal representation at the hearing.

(4) CIO Cases. If a CIO caseworker determines attendance at the 341 meeting is warranted for a Chapter 7 case assigned to the CIO , a CIO manager will contact the appropriate FI manager in order to have a caseworker assigned to question the taxpayer.

1. The CIO will document the issues that need to be questioned at the 341 meeting in the AIS history.

2. The FI caseworker that attended the hearing will update the AIS history with the information secured at the meeting .

3. The CIO caseworker will take action based on the information provided by FI.

(5) Possible 341 Meeting Issues. After reviewing available information, an IRS representative may determine attendance at a 341 meeting is warranted. They can pursue information such as:

• Potential Trust Fund Recovery Penalty (TFRP) liability (including names, duties, and responsibilities of officers)

• Employment tax obligations

• Self-employment tax issues

• Assets not disclosed or undervalued on the schedules

• Fraud referral potential

• Deadlines for unfiled tax returns

• Unreported income

• Improperly scheduled items; such as, scheduling the Service's secured liability as unsecured or listing excluded property as exempt on Schedule C - Property Claimed as Exempt

(6) Questioning Debtors. Caseworkers questioning debtors during the 341 meeting or when providing testimony, must communicate clearly, efficiently, and professionally so they may obtain information necessary to develop their cases while protecting the confidentiality of tax return information. Questions to the debtors should be open-ended to prompt full disclosure on the issues raised.

(7) Publication 1. If a representative of the Service attends a 341 meeting to question a debtor, and the debtor has no current outstanding liabilities (for example, the IRS is there to secure unfiled tax returns), the Service employee should present the debtor with a copy of Publication 1, Your Rights as a Taxpayer, at the time of the hearing, if one has not been mailed to the debtor before the 341 meeting. Do not assume that the debtor has previously received Publication 1.

(1) Introduction. Particular sections of the Bankruptcy Code impact the Service's position during the pendency of a bankruptcy. The Service's awareness of debtor rights increases when caseworkers are knowledgeable of the provisions of the bankruptcy code. Caseworkers must ensure debtor rights are not violated while the debtors are under the protection of the bankruptcy court. The Service can be held liable for damages if a debtor's rights are violated.

(2) Section 106, Sovereign Immunity. The doctrine of sovereign immunity asserts the United States cannot be sued unless it specifically waives its exemption from suit, such as by passing a statute permitting a damages suit against the United States. In certain situations listed therein, 11 USC 106 waives the sovereign immunity of the IRS and other governmental units.

(3) Section 362, Automatic Stay. This provision of the Bankruptcy Code imposes an automatic stay (prohibition) on certain actions of creditors, including the United States, as of the petition date.

1. Some of the acts prohibited under the stay include acts to collect debts incurred before the filing of the bankruptcy petition and acts to take possession of, or exercise control over, property of the estate and the debtor.

2. Exceptions to the automatic stay are found in 11 USC 362(b). The Bankruptcy Reform Act of 1994 (BRA 94) expanded the list of exceptions to include: assessment of tax, issuance of notices of deficiencies, audits to determine tax liability, solicitation of tax returns, and the issuance of a notice and demand for payment of an assessment. BAPCPA added exceptions for the setoff of pre-petition income tax refunds against pre-petition income tax liabilities and the interception of income tax refunds for setoff against past due domestic support obligations.

3. BAPCPA restricts the duration of the stay in certain individual "serial filer" cases where the debtor had a prior bankruptcy dismissed for reasons other than failure to pass the means test. If the individual debtor had one prior bankruptcy dismissed within the preceding one year period of the current case, the stay will terminate on the 30th day in the current case, unless the court extends the stay. (See 11 USC 362(c)(3).) If the individual debtor had two or more prior bankruptcies dismissed within the previous year of the current case, the stay will not go into effect in the current case. (See 11 USC 362(c)(4).) In either instance, the stay against the debtor and property of the debtor that is not property of the estate may be affected. The stay remains in effect on property of the estate, except for cases where the stay does not go into effect at all due to multiple prior bankruptcies. Where uncertainty exists regarding the stay, Insolvency should refer the case to Counsel to seek an order confirming the status of the stay. (See IRM 5.9.5.7, Serial Filers, for additional information.)

   Note: A party in interest may request a stay be instituted or extended in the above situations.

(4) Section 507, Priorities. This section provides expenses and claims that are entitled to priority status and the order of priority. 11 USC 507(a)(8) defines pre-petition taxes entitled to priority status. See IRM 5.9.13.19.3, Unsecured Priority for additional information.

(5) Section 522, Exemptions. This section of the code provides property exemptions a debtor may select. The federal exemptions apply unless the state in which the debtor is domiciled has enacted specific legislation authorizing or mandating the use of state exempted property limitations.

1. Under 11 USC 362, collection may not be pursued against property exempt under 11 USC 522 while the automatic stay is in effect.

2. Upon discharge, exempt property is subject to collection of dischargeable taxes for which a Notice of Federal Tax Lien (NFTL) was filed prior to the petition date.

   Note: Exempted property is not subject to liquidation by the court.

(6) Section 523, Exceptions to Discharge. Exceptions to discharge for individual debtors' tax liabilities are listed in 11 USC 523(a)(1). Pre-petition tax liabilities given priority status by 11 USC 507 are not discharged. In addition, non-dischargeable taxes include taxes for which a return was not filed, taxes due on a late return filed after two years before the date of the bankruptcy petition, a fraudulent return, and taxes the debtor willfully attempted to evade or defeat. Liabilities for restitution-based assessments are also excepted from discharge. (See IRM 5.9.17.8.8, Discharge and Restitution Assessments, for additional information.)

(7) Section 524, Effect of Discharge. The collection of discharged tax liabilities as a personal liability of the debtor is prohibited by this code section. The Service can be sued for damages, including attorney fees, for violating the discharge injunction under 11 USC 524. However, punitive damages cannot be awarded.

(8) Section 541, Property of the Estate. The filing of a bankruptcy petition creates an estate comprised of all property of the debtor as of the commencement of the case. The estate comes under the court's jurisdiction as of the date a bankruptcy petition is filed.

(9) Section 542, Turnover of Property to the Estate. The conditions under which property must be turned over to the estate for the trustee's use, sale, or lease are defined in this section. This "turnover" may include a refund due to an individual debtor unless the refund may be offset to IRS liabilities.

(10) Section 547, Preferences. The trustee is authorized to avoid certain transfers of the debtor's property made on or within 90 days before the date of the bankruptcy filing or between 90 days and one year before the petition date, if the transfer is to an insider. An "insider" may include a relative of the debtor, or an officer or director of a corporate debtor, among others (11 USC 101(31)). This section on preferences encompasses property seized by the government, as the term transfer also relates to involuntary payments. However, it does not include payments of tax liabilities made in the ordinary course of business.

(11) Section 553, Setoff. A creditor's right to set off a mutual debt owed by the creditor to the debtor that arose before the bankruptcy proceeding began is preserved. This authority allows the IRS to credit a refund that arose before the petition date against a pre-petition tax liability of the debtor, provided the automatic stay has been lifted for cases filed prior to October 17, 2005. The IRS may temporarily freeze a refund to protect its right of setoff without permission of the court. BAPCPA has eliminated the requirement to ask the court for a lift of stay to apply pre-petition income tax refunds to pre-petition income tax liabilities on cases filed on or after October 17, 2005.

(1) Bankruptcy Rules. The Bankruptcy Rules and Forms govern procedures in cases under Title 11 of the United States Code. The rules shall be cited as the Federal Rules of Bankruptcy Procedure and the forms as the Official Bankruptcy Forms (e.g., Form B410, Proof of Claim). The Bankruptcy Rules were adopted to secure the just, speedy, and inexpensive determination of every case and proceeding as stated in Bankruptcy Rule 1001. These rules provide a structure to the bankruptcy process by standardizing the formats, time frames, and methods to follow in the implementation of the Bankruptcy Code.

(2) Pertinent Bankruptcy Rules. Insolvency employees should familiarize themselves with the Bankruptcy Rules that pertain to the issues affecting the Service. Examples of the relevant rules include:

1. Rule 1007. When a debtor files a petition (order for relief), certain schedules or statements must also be filed.

2. Rule 2002(a)(7). Creditors must receive notice of the bar date.

3. Rule 2002(j). Notice of a Chapter 11 case must be mailed to the IRS address listed in the register maintained under Rule 5003(e) for the district in which the case is pending, whether or not the IRS is a creditor. See IRM 5.9.5.2.2(1), Mailing Matrix, for the address listed in Rule 5003(e).

4. Rule 5003(e). Register of mailing addresses for notifications sent to Federal and State Government units and certain taxing authorities.

   Note: Notice of Chapter 7, 12, and 13 cases must also be mailed to the IRS address specified under Rule 5003(e), when it is listed as a creditor in the debtor's schedules (See Rule 2002(g)(2).)

5. Rule 2004. On motion of any party in interest, the court may order the examination of any entity. The term "entity" includes a person. (11 USC 101(15).)

6. Rule 7001. Adversary Proceedings are subject to the formal procedural rules of Part VII of the Bankruptcy Rules; the rules in Part VII govern the procedural aspects of litigation involving the matters referred to in this rule.

   Example: A proceeding to object to or revoke a discharge, and to determine the dischargeability of a debt, is known as an Adversary Proceeding.

7. Rule 7004. A copy of summons and complaint must be mailed to the Attorney General, the United States Attorney for the district where the action is brought, and "the officer or agency" involved.

8. Rule 9014. Contested matters are less formal than adversary proceedings; most proceedings under the Bankruptcy Code fall under the scope of this rule.

   Example: Contested matters can include objections to proofs of claim, objections to confirmation, relief from the automatic stay, or request for use of cash collateral.

(1) Local Court Practices. Each bankruptcy court may make and amend its own local rules governing its practices and procedures. Insolvency caseworkers must know how to access any local rules or standing orders that provide specific guidelines for each bankruptcy court having jurisdiction over their inventories. Employees must understand local court practices impacting the judicial actions in their assigned areas. Actions forbidden in one judicial district may be allowed in another. Similarly, actions requiring a court hearing and ruling in one jurisdiction may be resolved administratively in another district.

(2) Counsel Assistance. Insolvency must confer with Counsel when interpretations are required covering local court practices. Judges in different districts may render divergent court decisions, and even trustees in the same district can each handle matters differently.

(1) Bankruptcy Trustees. Bankruptcy trustees have the fiduciary responsibility to administer the bankruptcy estate. The trustee ensures creditors are paid according to the provisions of the Bankruptcy Code and as reflected in the debtor’s plan in Chapter 11, 12, and 13 cases, and according to the provisions of the Bankruptcy Code in Chapter 7 cases; there is no plan in a Chapter 7 case. Trustees are appointed to serve in specific Chapter 7 cases as panel or case trustees. For Chapters 12 and 13, standing trustees are appointed to serve in all cases in the district. While a trustee may be appointed in a Chapter 11 case, the debtor-in-possession usually administers the bankruptcy estate (See 11 USC 1104 and 1107).

(2) The United States Trustee. The United States Trustee (employed by the Justice Department) serves as a supervisory entity charged with, among other things, monitoring:

• The performance of all Chapter 7 trustees

• The performance of each Chapter 12 and 13 standing trustee

• Certain matters in Chapter 11 cases

(1) Bankruptcy and the Collection of Taxes. The filing of a bankruptcy petition immediately affects the collection of taxes. The actions the IRS may take depend on various factors, including but not limited to, the:

1. Debtor's being an individual, corporation, LLC, or partnership;

2. Chapter of bankruptcy filed;

3. Petition date;

4. Presence of complex or unusual issues, such as trust fund, adequate protection, or pyramiding of taxes;

5. Tax liabilities ' being for pre-petition or post-petition periods;

6. Progress of the case as it moves through the bankruptcy processing stream; and

7. Debtor's prior history of filing bankruptcy, for cases filed on or after October 17, 2005.

(2) Impact on Collection. The following table demonstrates the impact bankruptcy has on collection actions. Because of the variation of permissible actions among the courts, guidance on all possible actions cannot be provided in this IRM. Actions that are a violation of the automatic stay, and actions that are not a violation of the automatic stay, are discussed further in IRM 5.9.3.5, Automatic Stay, and its subsections. The automatic stay in serial filer cases is discussed in detail in IRM 5.9.5.7, Serial Filers, and its related exhibits.