Ch. 7 Trustee May Abandon Property, Shift Tax Liability to Debtor

Understand the complexities and nuances of the Bankruptcy Code to better advise clients and prepare for court.

By Diane Davis

A Chapter 7 trustee may abandon an asset of a debtor’s bankruptcy estate as worthless even though it may shift a tax liability to the debtor and prevent his “fresh start” ( In re Duvall , 2016 BL 410633, Bankr. W.D.N.C., No. 14-30508, 12/9/16 ).

Judge J. Craig Whitley of the U.S. Bankruptcy Court for the Western District of North Carolina Dec. 9 approved the trustee’s motion to abandon property of inconsequential value that is burdensome to the estate.

The "[i]mpact on the debtor is not one of the factors to be considered in authorizing abandonment,” the court said, citing In re Johnston, 49 F.3d 538 (9th Cir. 1995).

A majority of courts dealing with the abandonment issue recognize the conflict between two bankruptcy goals: enabling a debtor to obtain a “fresh start” and maximizing the distribution to creditors, the court said. The court sided with the majority of courts, rejecting the debtor’s argument that he wouldn’t have a “fresh start.”

Debtor Howard M. Duball III is a real estate developer who owns interests in three limited liability companies (LLCs). When the debtor filed Chapter 7, two of the LLCs had debts exceeding assets. The third LLC wasn’t disclosed in his bankruptcy schedules. In Chapter 7 bankruptcy, a debtor’s nonexempt assets are liquidated by a trustee and the proceeds are distributed to creditors.

The Chapter 7 trustee discovered the undisclosed LLC when he received three K-1 partnership statements showing that the debtor owed a substantial tax liability. The tax liability arose from “recaptured pass through losses from the LLCs” of more than $11 million from 1984 through 2014 that the debtor claimed on his personal tax returns prior to bankruptcy, the court said.

After filing bankruptcy, one of the LLCs sold a building for $41.8 million, triggering a tax liability for prior claimed losses, the court said. The trustee estimated that the debtor’s share of the recaptured losses will give rise to a $1 million administrative tax claim owned by the estate.

The trustee wanted to abandon the LLCs because they are of inconsequential value and to avoid the tax liability to the estate.

G. Martin Hunter, Charlotte, N.C., represented debtor Howard M. Duvall, III.

Chapter 7 Trustee Langdon M. Cooper, Gastonia, N.C.

To contact the reporter on this story: Diane Davis in Washington, D.C. at DDavis@bna.com

To contact the editor responsible for this story: Jay Horowitz at JHorowitz@bna.com

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