Offsetting Stimulus Payments Due to a Taxpayer in Bankruptcy

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The case of Lockhart v. CSEA, et al, No. 1:20-ap-00038 shows another facet of the offsetting of last year’s stimulus payments.  In this case the taxpayer owed past due child support, which was the one type of debt to which the stimulus payments could be offset; however, he argues that the offset in his situation violated the automatic stay of his bankruptcy case as well as the terms of the confirmed chapter 13 plan.  Though the court tosses certain claims, it leaves open the possibility that the offset of the refund violates the terms of the plan of reorganization.


Before looking at the issues the court addressed regarding the offset, a couple issues deserve mention.  First, the offset took both the refund of Mr. Lockhart and his current spouse and applied it to his past due child support.  This issue was discussed in several posts last year collected here.  The court simply sends her to file an injured spouse form.  I am a little surprised the IRS did not just fix the problem without the need for that form.

Second, the IRS should not be a party to this case.  It gave Mr. Lockhart what he requested – the stimulus payment.  The IRS did not refuse to give him the payment or make the offset.  The offset occurred at the Bureau of Fiscal Services.  It seems to me that would be the appropriate focus of any wrong activity at the federal level and not the IRS.  Maybe it doesn’t really matter, but by focusing on the IRS, Mr. Lockhart, and perhaps the court, focus on the wrong point in time.  This is a common mistake for taxpayers subject to offset.  They often see the IRS as the source of their problem, but when the offset goes to an agency outside of the IRS, the offset occurs once the funds have been approved by the IRS.

The first issue the bankruptcy court addresses is sovereign immunity.  Both the IRS and the state agency assert sovereign immunity in seeking dismissal of the action.  I was surprised by the IRS arguments regarding sovereign immunity as described by the bankruptcy court.  The court found that B.C. 106 waived sovereign immunity in matters of this type.  That decision seems consistent to me with the determinations regarding sovereign immunity that have developed over the last quarter century since the bankruptcy code was amended; however, I have not looked at the brief filed by the IRS and perhaps there is a nuance I am missing.  The court essentially lumped the state and federal sovereign claims together and found a waiver as to both.  The fact that sovereign immunity was waived does not win the case for the debtor, but it does allow the case to move forward.

The debtor seeks to hold the parties in contempt for taking the stimulus payment and applying it to the past due child support because he confirmed a plan that provided he would pay out the almost $20,000 of past due child support during the life of the plan. The state child support agency countered that it was not bound by the confirmation order, an argument I assume is grounded in the failure to include it as a named creditor, and that the stimulus payment was not property of the estate, an argument that would be grounded in the language of the chapter 13 plan itself. A common provision of chapter 13 plans revests all property in the debtor upon confirmation in return for the promise to pay.

The court refuses to hold anyone in contempt, stating that more facts are needed, especially since neither the IRS nor the state agency were served with the bankruptcy petition.  It also makes an interesting note that the debtor does not appear to be performing under the plan.  If the debtor is not actually making their plan payments which will resolve the child support issue or if the debtor is running up additional child support obligations post-petition, that could put the offset in a different light.

With respect to the automatic stay, the state child support agency asserted a defense based on one of the exceptions to the automatic stay, B.C. 362(b)(2)(F).  The automatic stay creates a stay of eight actions specified in B.C. 362(a), one of which is collection by a creditor of a pre-petition debt and another of which is offset.  In a chapter 13 case, the automatic stay lasts from the moment of filing the petition until the end of the case, which could be five years later.  The bankruptcy code, however, in B.C. 362(b) contains a list of 29 exceptions to the automatic stay. 

If a creditor fits under one of the 29 exceptions, it can take the collection action even though such action is barred by the provisions of B.C. 362(a).  I am most familiar with the exceptions that apply to taxes, most of which are found in B.C. 362(b)(9), and I was not familiar with B.C. 362(b)(2)(F).  It excepts “the interception of a tax refund, as specified in sections 464 and 466(a)(3) of the Social Security Act or under an analogous State law.”  Here, the debtor argued that the stimulus payment was not a tax refund but rather a credit.  The bankruptcy court sided with the government arguments that the stimulus payment is a tax refund.  This decision could have implications beyond bankruptcy cases but given the language of the application exception to the automatic stay provides sufficient cover for the action from the perspective of fending off a stay violation argument.

This case provides no remarkable revelations but does examine the taking of the stimulus payment under the only offset provision available.  If the debtor is not keeping current on his chapter 13 plan, he may face a difficult task in getting the return of the stimulus payment or a contempt charge against the state agency.  If the federal government did not know of the bankruptcy, it’s hard to fault it for making an offset where the state left a marker on the Treasury Offset Program database.  Removing the marker upon the filing of bankruptcy should fall on the state agency that knew of the bankruptcy, and not the TOP program.

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