Third Circuit Ruling Affects Right to Discharge Tax Claims
May 9, 2017
Third Circuit Strips Taxpayers of Right to Discharge Tax Claims in Bankruptcy
One of the great powers of bankruptcy law is the ability to achieve a “fresh start” – that is, to use the bankruptcy process to wipe away or to “discharge” one’s debts, so that the bankrupt may start over with a clean financial slate. This is a right embodied in the United States Constitution. However, the United States Bankruptcy Code, 11 U.S.C. §§101, et seq. (the “Code”) does not grant an unfettered right to a discharge. One such set of “fetters” concerns tax debts.
Code §523(a)(1) forbids a bankrupt from discharging a tax debt where a tax return: (i) was not filed, (ii) was filed late and within two years of the initiation of bankruptcy, or (iii) was filed fraudulently. In a recent, stunning opinion from the United States Court of Appeals for the Third Circuit, Giacchi v. United States (In re Giacchi), ___ F.3d ___ (3d Cir. 5/5/17), the court essentially said that once a return is late and the tax assessed, that return can never be considered “filed” for purposes of Code §523(a)(1), and the tax debt can therefore never be discharged. It makes no difference if the taxpayer files a proper (but late) return, nor that they wait more than two years before declaring bankruptcy, nor that they file a non-fraudulent return. Once late is always verboten, and the taxpayer is thereafter untermenschen.
The Taxpayer’s Attempt to Discharge His Tax Obligations
In the case, the debtor Thomas Giacchi failed to file for 2000, 2001, or 2002. Beginning in 2004, the Internal Revenue Service (IRS) duly assessed his liability for these years. Following that, Giacchi submitted his returns – late but otherwise properly submitted. [He did not pay the taxes due.] He then waited more than two years and filed Ch. 7 bankruptcy, filing suit in bankruptcy court for a declaration that his obligations to IRS – as disclosed by his late-filed returns – had been discharged.
The Third Circuit framed the issue as whether “belatedly filed [tax return] forms constitute ‘returns’” for purposes of Code §523(a)(1). The panel noted that the 2005 amendments to the Code delphically defined “return” to mean “a return that satisfies the requirements of applicable nonbankruptcy law.” They then focused on Beard v. Comm’r, 82 T.C. 766, 777 (T.C. 1984), aff’d, 793 F.2d 139 (6th Cir. 1986), which they felt sets the standard for determining “the requirements of applicable nonbankruptcy law.”
The Test for Determining What a “Return” is
Beard lays out four tests for a filing to be considered a proper “return”: That it (i) purport to be a return, (ii) be executed under penalty of perjury, (iii) contain sufficient data to allow calculation of the tax, and (iv) represent an honest attempt to satisfy the requirements of tax law. (Id.) The court held that Giacchi’s late-filed returns had failed the last two requirements. As the Third Circuit stated:
Forms filed after their due dates and after an IRS assessment rarely, if ever, qualify as an honest or reasonable attempt to satisfy the tax law. This is because the purpose of a tax return is for the taxpayer to provide information to the government regarding the amount of tax due. If a taxpayer does not file a return, the IRS is required to independently assess the taxpayer’s liability, as it did when Giacchi failed to timely file his 2000, 2001, or 2002 tax returns. Once the IRS assesses the taxpayer’s liability, a subsequent filing can no longer serve the tax return’s purpose, and thus could not be an honest and reasonable attempt to comply with the tax law. Here, there is no dispute that Giacchi failed to file timely returns, and that, as a result of Giacchi’s failure, the IRS had to estimate his taxes without his assistance.
How to Avoid Giacchi’s Mistake
It is worth repeating the clarion call from the Giacchi ruling:
Once the IRS assesses the taxpayer’s liability, a subsequent filing can no longer serve the tax return’s purpose, and thus could not be an honest and reasonable attempt to comply with the tax law.
In other words, anyone beginning the long, sad slide into insolvency MUST continue timely to file their tax returns, and must certainly do so before the IRS assesses them for the unpaid taxes. Why? If the tax returns are properly filed, and if the taxpayer can then avoid filing bankruptcy for the statutory two years, those tax debts can be discharged in bankruptcy. If not, the tax debts will never go away, and the taxpayer will face the financial equivalent of herpes – having a condition that nothing can never cure. 
The Constitution guaranties citizens the right to a “fresh start.” Following the rules will assure you that this can be achieved.
 Article 1, Section 8, Clause 4 authorizes Congress to enact “uniform Laws on the subject of Bankruptcies throughout the United States.”
 Other exceptions to discharge include claims resulting from fraud (Code §523(a)(2)), from embezzlement or larceny (Code §523(a)(4)), or from willful and malicious injury (Code §523(a)(6)).
 There was apparently no contention that Giacchi had filed bankruptcy within two years of submitting his returns, nor that he had submitted fraudulent returns.
 Matters could be worse. In several federal circuits, the Beard test need not be reached. In these regions, A return that is even one day late can never be considered a proper return for purposes of §523(a)(1). See In re Fahey, 779 F.3d 1, 4 (1st Cir. 2015); In re Mallo, 774 F.3d 1313, 1317 (10th Cir. 2014), cert. denied sub nom. Mallo v. I.R.S., 135 S. Ct. 2889 (2015); In re McCoy, 666 F.3d 924, 932 (5th Cir. 2012).