It’s always a terrible feeling to be late. It can incite panic as you rush to finish a task. Being late by just one day has disqualified mayoral and Presidential candidates from making it onto the ballot. In the bankruptcy context, being a day late can prevent you from escaping from sizable debts. If only you had one day more!
The “One-Day-Late” Rule
The impact is significant. Imagine: you declare bankruptcy, hoping to have a fresh start, only to discover that twenty-four hours and a few clicks, (maybe some licks of an envelope), is all that prohibits you from financial relief. (Read this link for a more practical explanation of how the one-day-rule impacts financial relief. Beware: there are, like, numbers and stuff.)
The courts behind the “one-day-late rule” developed it from case law, statutes, and two particular provisions of the U.S. Bankruptcy code, §§ 523(a)(1)(B)(i) and 523(a)(1)(B)(ii).
Combining the relevant sub-levels of § 523 produces a relatively succinct summary of the background law:
A discharge under . . . this title does not discharge an individual debtor from any debt for a tax or a customs duty 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.
Thus, a tax-debt is nondischargeable if it is both filed late and filed within two years of the petition. A lot of the action revolves around whether the late filing is a return. If so, and if filed two years before the filing, then the debt is dischargeable. If, however, the tax filing is construed not to be a return, the debt is non-dischargeable.
What’s In A Name?
Complicating matters is the “hanging paragraph” 523(a)(*). The hanging paragraph defines “return” as a return that satisfies the requirements of “applicable nonbankruptcy law.” Accordingly, courts refer to applicable nonbankruptcy law in order to determine whether a debtor’s debt is to be barred or discharged.
The leading test defining what is or is not a return is termed the “Beard“ test. The test, which arose in the tax context, has four elements, with much of the action revolving around the third element: “[T]here must be an honest and reasonable attempt to satisfy the requirement of tax law.” (This was the only element at dispute in the Tenth Circuit case linked above. Also, a brief note on ordering. The original articulation of the Beard test siloed “honest and reasonable” as the third prong of a four-part test. Some courts, notably the Eleventh and Seventh, state the above element is the “fourth” element in the Beard test. Some still cite it as the third. There is no actual difference. Kooky courts! They look so alike, but they’re so different!)
With respect to the one-day-rule, the courts hold that tax forms filed after the IRS assesses liability do not have a valid purpose, and therefore do not satisfy the Beard test. Because the post assessment filings are per se not “honest and reasonable” attempts to satisfy the requirements of tax law—which requires that returns shall be filed on a certain date—the filing is not a return for purposes of dischargeability.
Although the Tenth Circuit in In Re Mallo quibbled with the use of the Beard test, it functionally reached the same result by construing the phrase “applicable filing requirements” in the hanging paragraph to include filing deadlines (thereby obviating the need to even use the Beard test in the first instance).
The result—either via the Tenth Circuit’s reasoning or a straightforward application of the Beard test—is often the same:
We agree with these decisions and hold that, because the applicable filing requirements include filing deadlines, § 523(a)(*) plainly excludes late-filed Form 1040s from the definition of a return.
The Fifth Circuit held the same in a prior case, reasoning not under Beard, but under the applicable filing requirements strain of logic.
The IRS has rejected this approach, and the Eleventh Circuit and the Ninth Circuit Bankruptcy Appellate Panel have refused to adopt it and suggested that it is incorrect. (I should note that, while the IRS has rejected the approach, it has not rejected the result. As the Tenth Circuit said in Mallo: “Even though the IRS interpretation results in the same outcome as our reading of Section 523(a) under the present facts, it is analytically incompatible with and would render our analysis of the hanging paragraph irrelevant . . . .”)
A Justice Approach
The Eleventh Circuit’s decision in Justice v. US typifies the opposite side of the split.
Here, the Plaintiff-Appellant declared Chapter 7 bankruptcy in 2011 and sought to discharge his federal income tax liability for 2000-2003, despite having filed taxes for that time period many years late.
The Eleventh Circuit assumed arguendo that the one-day-late rule was incorrect and applied four factors from Beard v. Comm’r of Internal Revenue to determine if the Plaintiff-Appellant’s tax returns from 2000-2003 satisfy “the requirements of applicable nonbankruptcy law.”
The Eleventh Circuit joined the IRS and the Fourth, Sixth, Seventh, and Ninth Circuits to hold that determining “an honest and reasonable attempt” requires analysis of the entire time frame relevant to the taxpayer’s actions. The Eighth Circuit, as well as a dissent in the Seventh Circuit by Judge Easterbrook, argue that only the time frame in which the belated return itself is filed should be examined.
These split(s) are difficult. Does a late filing render a debt non-dischargeable? Courts seem to say yes, but why? Is it because the filing no longer qualifies as a return? That’s what Beard and its progeny suggest. Is it because the one-day-late rule bars a filing from qualifying as a return? That’s what the First, Fifth, and Tenth circuits suggest (see Mallo). And what to make of the fourth (third?) Beard prong? Do we examine whether a taxpayer was honest and reasonable with respect to whether they filed on time? Or does the Eighth Circuit (and Easterbrook) have a better take on the issue?
In 2015, the Supreme Court had the opportunity to resolve the split, but denied certiorari to the 10th Circuit’s decision in Mallo v. IRS.
Someday, we’ll get the right answer—let’s just hope it’s not a day too late.