WASHINGTON, D.C. -- (Mealey's) The U.S. Supreme Court on Nov. 29 heard arguments over whether capital gains earned on the sale of a debtor couple's farm should be treated as administrative expenses within the bankruptcy estate or are proceeds to which the U.S. government has priority (Hall v. United States, No. 10-875, Chapter 12, U.S. Sup.).
(Transcript. Document #80-111207-012T.)
Brenda and Lynwood Hall filed for Chapter 12 bankruptcy in the U.S. Bankruptcy Court for the District of Arizona. They proposed a plan of reorganization under which they would pay off their outstanding liabilities using the proceeds from the sale of their farm.
The IRS objected to the proposed plan, asserting a federal income tax of $29,000 on the capital gain the Halls received from the sale, which happened while the bankruptcy was pending.
The Bankruptcy Court sustained the IRS's objection, and the Halls appealed to the U.S. District Court for the District of Arizona, which reversed. The IRS appealed to the Ninth Circuit U.S. Court of Appeals, where a divided court ruled that because a Chapter 12 estate is not a taxable entity, it cannot "incur" a tax.
The Halls appealed to the Supreme Court.
At oral argument, the Halls' attorney, Susan M. Freeman, contended that the capital gains earned from the sale of the farm clearly are part of the bankruptcy estate and should be used to pay out claims and that the IRS's interests cannot be interposed on the estate.
Furthermore, Freeman argued that income earned during the period of administration, from the petition filing date to the confirmation date of the plan, is all property of the estate.
Arguing for the United States, Assistant Solicitor General Pratik A. Shah contended that the tax liability at issue in the case is not subject to 11 U.S. Code Section 1222(a)(2) and cannot be treated as a dischargeable nonpriority debt. Specifically, he maintained, a Chapter 12 plan is limited to prepetition debts and does not cover post-petition debts, including administrative expenses.
The Halls are represented by Freeman of Phoenix. The U.S. government is represented by Shah, of the U.S. Solicitor General's Office in Washington, D.C.
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