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Sixth Circuit Upholds Dismissal of Debtors' Lawsuit Over Frozen Tax Refunds - Harchar v. United States

September 21, 2012

Vincent Howard and our Rubidoux consumer bankruptcy lawyers were interested to see a complicated case involving who has the right to a tax refund--a bankruptcy debtor who earned the money, or the IRS, to whom that debtor owed money. In Harchar v. United States, the Sixth U.S. Circuit Court of Appeal upheld the dismissal of a claim brought by Andrea Harchar against the federal government. Harchar alleged that the government violated the automatic stay created by her Chapter 13 bankuptcy, as well as her due process rights and her bankruptcy plan itself. The IRS had "frozen" tax refunds to Harchar and her then-husband, Kenneth Harchar, during their 1998 bankrutpcy. They claimed this practice was a violation of the automatic stay against debt collection created by bankruptcy.

The Harchars were behind on their taxes when they filed for bankruptcy. The plan confirmed for them proposed to pay all of their tax arrears and treat other debts, to the government and others, as nonpriority claims subject to less than full payment. In 2000, they filed an adversary proceeding against the refund freezing, explaining that they had separated and Kenneth Harchar no longer had a job, and thus their 1999 tax refund was needed for living expenses. After they filed amended schedules in support of these claims, the IRS issued the refund with interest. However, they continued to pursue an amended complaint, seeking damages for the alleged willful violation of their stay, as well as injunctive and declaratory relief for all Chapter 13 debtors in their position. Eventually, all the claims but the one involving the automatic stay violation were dismissed, and both parties moved for summary judgment. Summary judgment was granted to the IRS. Andrea Harchar appealed and the district court upheld.

The Sixth Circuit upheld again. On the claim that the IRS had violated the Harchars' bankruptcy plan, it agreed with the lower courts that Harchar failed to identify any provision of the plan that was violated by manual processing of the tax refund. The IRS halted automated processing of the refund in order to consider its rights, the appeals court said; it had the right to process it manually. Furthermore, it noted, there is no provision in the relevant bankruptcy law that permits damages. The court next upheld the dismissal of her claim for violation of the automatic stay. That law does permit damages, but again, the court found no violation because the tax refund was not actually taken; it was merely paused while it was manually processed. Finally, the Sixth rejected Harchar's argument that the IRS violated her due process rights by freezing the refund without notice or opportunity to object. The appeals court agreed that the IRS had sovereign immunity from this claim; the federal government is immune from all suits unless it expressly waives its immunity, and the court found no such waiver implied by the IRS's decision to file a proof of claim. Thus, it upheld the dismissal of all claims.

Vincent Howard and our Santa Ana personal bankruptcy lawyers understand very well how much clients generally look forward to receiving tax refunds. People go into bankruptcy because they are financially stressed to begin with, and complying with a Chapter 13 bankruptcy plan also makes money very tight. It's disappointing to turn over a "windfall" tax refund to the IRS, but bankruptcy debtors frequently do not get to keep this money; it usually belongs to the bankruptcy estate. This can be accounted for in the bankruptcy plan, and doing so can prevent disappointment and unnecessary complications in the bankruptcy case. If you're considering a Chapter 13 bankruptcy and you're expecting a substantial tax refund, the experienced Upland individual bankruptcy attorneys at Howard Law, P.C., can help you understand how the law affects your tax refund and your case.

Howard Law, P.C., represents clients across California who are ready to do the hard but rewarding work of filing for bankruptcy and starting over with a clean, debt-free slate. If you'd like to talk to Vincent Howard and our team of experienced attorneys about your situation, call us today at 1-800-872-5925 or send us a message through our website.

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