A taxpayer can sue the IRS for collecting taxes eliminated in a Chapter 7 bankruptcy case—but not immediately. So what are the rules and limitations?
That issue was addressed in In re Broos, 534 B.R. 358 (8th Cir. BAP 2015). There, the taxpayer filed bankruptcy and obtained a bankruptcy discharge before the IRS levied the taxpayer’s assets and filed a Notice of Federal Tax Lien. The taxpayer filed an adversary lawsuit in the bankruptcy court and sought damages for violating the automatic stay and/or the bankruptcy discharge injunction. The IRS sought to dismiss the lawsuit because the taxpayer had failed to exhaust the “administrative remedies” before filing the lawsuit.
The Broos court agreed with the IRS. First, taxpayers can sue the IRS only to the extent the United States has waived its sovereign immunity per 26 U.S.C. §7433(a). But, taxpayers may not bring a direct action for damages against the IRS until the taxpayer exhausts the administrative remedies provided in 26 U.S.C. §7433(d). The Tax Code requires the taxpayer to adjudicate the issues before an administrative law judge and plead a case for damages; thus keeping the IRS out of court as much as possible. There, the taxpayer can seek damages for the IRS’ willful violation of the bankruptcy automatic stay protections under 11 U.S.C. §362 and the bankruptcy discharge injunction under 11 U.S.C. §524. See 26 U.S.C. §7433(e)(1).
What are the procedures for exhausting the administrative remedies? The procedure a taxpayer must follow in order to exhaust the remedies under §7433(d) for violating the bankruptcy discharge is enumerated in 26 C.F.R. 301.7430-1 and 301.7433-2(e). A litigant must file a written administrative claim for damages or for relief with the Chief, Local Insolvency Unit for the corresponding judicial district in which the bankruptcy petition was filed. The claim must contain the taxpayer’s name, identification number, current address, current home and work telephone number, the location of the bankruptcy court in which the underlying bankruptcy case was filed, the case number of the bankruptcy case in which the violation occurred, a description of the violation and injuries, the dollar amount of the injuries, and the signature of the taxpayer or taxpayer’s representative. 26 C.F.R. 301.7433-2(e). The taxpayer must then wait until the earlier of six months or the date on which the IRS has rendered a decision on the claim.
In Broos, the taxpayer failed to seek damages and administrative remedies before filing the adversary lawsuit in the bankruptcy court. Therefore, the bankruptcy court dismissed the lawsuit against the IRS as premature.
Note that damages can never include punitive damages against the IRS for violating the automatic stay or bankruptcy discharge injunction. Punitive damages are unavailable as a matter of law. 11 U.S.C. §106(a)(3).
Practice Pointer: Suing the IRS is very complicated. The law forces claims to be addressed administratively within the IRS by an administrative law judge. Only afterwards can a taxpayer seek damages in the bankruptcy court for violating the Bankruptcy Code.
For follow-up questions, contact attorney Robert V. Schaller by clicking here.