In re Wylie

The Sixth Circuit Court of Appeals (the Circuit Court) recently affirmed the district court in concluding that denying chapter 7 debtors a discharge under 11 U.S.C. § 727(a)(2)(B) when they elected to apply tax year 2019 tax refunds to potential tax year 2020 taxes was improper because the bankruptcy court’s factual finding that they did so with actual intent to hinder creditors was clearly erroneous.  In re Wylie, ___ F. 4th ___, 2024 WL 4553297 (6th Cir. October 24, 2024).  To view the opinion, click here: https://www2.ca3.uscourts.gov/opinarch/232944pa.pdf

Facts

Jason and Leah Wylie (the Debtors) ran into financial problems in 2018 when Mr. Wylie was forced to stop working.  Because they contemplated filing bankruptcy, they delayed filing their 2018 and 2019 tax returns.  In March 2020 their accountant had prepared their 2018 tax returns, which showed substantial tax refunds were due.  Being uncertain about their 2019 tax liabilities, the Debtors elected to apply their 2018 tax refunds to their 2019 tax debt rather than receiving a refund.  Their 2018 tax returns were filed with that election.  The accountant then prepared the 2019 tax returns and made the same election, applying 2019 tax refunds to potential 2020 tax liabilities.  Mr. Wylie approved the tax returns, which were filed a couple of weeks after the Debtors filed chapter 7.

The Debtors’ chapter 7 trustee filed an adversary proceeding to deny the Debtors their discharge because of their tax refund elections.  The complaint had three counts:  Count I alleged that the Debtors, by electing to apply their 2018 tax refunds to the 2019 debts, transferred property within one year of filing bankruptcy with “intent to hinder, delay, or defraud a creditor” under § 727(a)(2)(A); Count II alleged that the Debtors, by electing to apply their 2019 tax refunds to their 2020 tax liabilities, transferred property after filling their bankruptcy “with intent to hinder, delay or defraud” the trustee, under § 727(a)(2)(B); and Count III alleged that the Debtors, by stating in their schedules that the value of tax refunds owed to them was unknown, “knowingly and fraudulently… made a false oath” under § 727(a)(4)(A).

After a bench trial, the bankruptcy court dismissed Counts I and III but denied the Debtors their discharge under Count II.  The Debtors appealed to the district court, which reversed and held the Debtors were entitled to a discharge.  The trustee appealed to the Circuit Court, which affirmed the district court, granting the Debtors their discharge.

Reasoning

The Circuit Court identified the sole issue on appeal as the bankruptcy court’s finding that the Debtors transferred their anticipated 2019 tax refund “with intent to hinder” the trustee.  It acknowledged that it could only overturn the bankruptcy court’s factual findings if it was left with a definite and firm conviction that a mistake had been committed.  However, here it was left with such a definite conviction.  The Circuit Court relied on analysis in a bankruptcy court case, Wise v. Wise (In re Wise), 590 B.R. 401 (Bankr. E.D. Mich. 2018),  for articulation of the intent requirement:  “‘intent to hinder’ a creditor means ‘to act improperly to make it more difficult for a creditor to collect a debt.’ 590 B.R. at 441.”  It summarized the essence of the Wise ruling as follows:   “to support a factual finding that the debtor acted ‘with intent to hinder’ a trustee…., there must be evidence that the debtor acted with the specific intent to make it more difficult for the trustee to facilitate creditors’ collection of debts from the estate.”  The Circuit Court found this evidence of specific intent lacking.

A key to the Circuit Court’s ruling was the dismissal of Count I which required similar intent by the Debtors.  There the bankruptcy court found evidence of specific intent was missing.  However, it concluded the Debtors had that specific intent for the 2019 returns, filed soon after the bankruptcy filing.  The bankruptcy court focused on the stated intention of the Debtors to prefer certain creditors – the taxing authorities – over others.  But a debtor’s mere intent to prefer one creditor over other creditors cannot be deemed an intent to hinder, delay, or defraud a creditor.  6 Collier on Bankruptcy ¶ 727.02[3][c].  Moreover, the bankruptcy court did not identify any meaningful factual differences between the 2018 and 2019 tax elections to support a different finding.

In sum, the bankruptcy court’s contradictory findings left the Circuit Court with the definite and firm conviction that a mistake had been committed. 

Author’s Comments

Two take aways:  preferring one creditor over another is not an intent to hinder or defraud a trustee or other creditors.  Secondly, this case turns on contradictory factual findings made by the bankruptcy court.   Therefore, although circuit precedent, its usefulness may be limited to its specific facts.  [The Commercial Financial Newsletter is written by an ad hoc group of the California Lawyers Association (CLA) Business Law Section.  This article was written by the Hon. Meredith Jury (U.S. Bankruptcy Judge, CD CA, ret.), a member of the ad hoc group.  The opinions contained herein are strictly those of the author.]