House Bankruptcy Bill Would Strengthen Local Tax Collection

By Cormier, Kristin | Nation's Cities Weekly, May 25, 1998 | Go to article overview

House Bankruptcy Bill Would Strengthen Local Tax Collection


Cormier, Kristin, Nation's Cities Weekly


Action on bankruptcy bills in both the House and the Senate has sped up in the past two weeks. The most notable action was made in the House, where an amendment passed in the House Judiciary would prevent local statutory interest rates applied to unpaid ad valorem taxes from being discounted into the internal revenue code's prime rate. This would assist in preventing bankruptcy filers from abusing cities and towns to receive lower interest on property taxes.

Cities and towns should contact members of the House of Representatives and ask them to support the tax provisions in H.R. 3150. This would help cities receive a higher priority of payment and ensure that proper interest rates can be applied to unpaid property taxes.

Interest Rate Fix

The House Judiciary Committee approved a motion to report the Bankruptcy Reform Act of 1998 (H.R. 3150), sponsored by Rep. George Gekas (R-Pa.), to the House floor in an 18-10 vote on May 14. This bill would aid cities in recovering unpaid property taxes from bankruptcy filers, as well as to overhaul the consumer and business sections of the federal Bankruptcy Code. Gekas included tax provisions similar to the Investment in Education Act, which was passed by the Senate in fall 1997 in the hope of obtaining relief for localities as soon as possible.

Gekas offered an amendment that was unanimously supported by the committee that would clarify several of the provisions that NLC had concerns with. At the urging of NLC and other state and local organizations including the National Association of Attorneys General (NAAG), National Association of County Treasurers and Finance Officers, as well as representatives from the federal government, Gekas' amendment strengthened the tax provisions of the bill by clarifying the needs of state and local governments.

His amendment would fix the so called "cram down" of interest rates applied to unpaid ad valorem taxes by applying the state and local statutory rate instead of the I.R.S. rate.

Cities and towns are nonconsensual creditors, and are in unique situations with their constituents in terms of ad valorem taxes. In some cities and towns, the local interest rate accruing on unpaid taxes could be as high as 18 percent, which is double the I.R.S. statutory rate. This provision is significantly awarding cities the debts that are truly due to them, with no discounting and avoids treating bankruptcy filers who have not paid their property taxes to favorable treatment or "discounted loans." The amendment also recognized ad valorem taxes as secured claims.

The reform of the federal Bankruptcy Code included in H.R. 3150 could allow for amendments that would recover property taxes ahead of other debts by those filing for bankruptcy The overhaul of the bankruptcy code comes as a result of record numbers of bankruptcies being filed in the U.S. and a report outlining areas for reform by the National Bankruptcy Review Commission. The last overhaul of the Bankruptcy Code was in 1978.

Many local jurisdictions use revenues derived from property taxes or "ad valorem" taxes, and suffer when taxes are delinquent due to delays built into the bankruptcy code. This bill will aid local governments in recovering losses, by giving fair access to assets of bankruptcy estates and will prevent debtors from using the Bankruptcy Code to skirt the law.

The bill would also allow a bankruptcy court to reverse a property valuation decision only when a bankruptcy debtor has the right to challenge such a decision under state law. This would prevent long and drawn out legal battles over the assessment of property on which taxes are already due. The previous law could force towns to reduce assessed values and taxes as far back as ten years, and towns would had to refund ten years worth of taxes to a bankrupt estate, despite the fact that moneys have been paid to Boards of Education and spent for educational purposes.

Revenue Shortfalls

The Bankruptcy Code applies in every state and territory of the United States and cities can face revenue shortfalls as a result of bankruptcy law. Senator Grassley, who introduced the Investment in Education Act in the Senate cites that about 15 percent of the education budget in the City of Houston, Texas is lost of bankruptcy. In Dallas, six cases of bankruptcy have accounted for $449,593 in lost revenue, according to Jayne Morrell, Tax Assessor/Collector for the City of Dallas, Texas. Florida also has attributed losses to the law, because judges have ordered cities to pay large refunds of property taxes paid years earlier.

"We do not believe it was Congress' intent to stick it to school districts or to local property tax owners to pick of the differences," said Senator Grassley when referring to the use of municipal hens to cover administrative costs for bankruptcy upon passage of the bill in the Senate.

The Investment in Education Act is supported by the New Jersey State League of Municipalities, the National Association of School Boards, the Northeastern Regional Tax Collectors and Treasurers Association, and the Iowa Association of School Boards.

Additionally, the Gekas' amendment included language that would award cities holding unsecured tax claims an interest rate on unpaid taxes that at a minimum would equal the I.R.S. statutory rate, which is approximately 8 or 9 percent.

The amendment would also limit payment of unpaid ad valorem taxes to 6 year pay-outs, beginning at the date of assessment and prohibit any "balloon" payments. An even stronger definition of assessment was clarified in the amendment that would allow taxing authority to commerce once required actions have been taken and apply applicable non-bankruptcy laws.

Consumer Bankruptcy Issues

Under Gekas' proposal the consumer bankruptcy system would be reformed to integrate a needs based bankruptcy program. Debtors would be subject to guidelines set in place by the bill that would emphasize taking personal responsibility and paving for debts, rather than resorting to Chapter 7 bankruptcy which would relieve the debts and place the burden on consumers and businesses.

Child Support Protection

Several amendments approved to ensure the protection of child support and alimony payments as a secured debt that would receive a higher priority in payment than unsecured credit card debt.

The Clinton Administration voiced significant concerns last week with regard to preventing single parents from competing with banks and credit card companies for payment of alimony and child support.

The proposal also includes an education program to help debtors better manage their finances and makes states exemptions uniform, particularly regarding the value of a home that a debtor is free from having to surrender.

Gekas's proposal also provides a safety net for extraordinary circumstances such as those suffering major life crises that reflect on financial matters, such as losing a job or extensive medical costs. Gekas' bill is cosponsored by Representatives Bill McCollum (R-Fla.), Rick Boucher (D-Va.), and Jim Moran (D-Va.).

In an attempt to close debate on the three day mark-up of the legislation House Judiciary Chairman offered the option to close debate on the bill in the committee to vote to report out, with the understanding that he would recommend that when the bill reached the House floor it would be considered under an open rule, which would allow for significant debate time. Floor action on H.R. 3150 is likely in June.

RELATED ARTICLE: Who gets paid when an individual or company in your city files bankruptcy?

(Based on the House Bankruptcy Bill H.R. 3150)

Example: The Widget Company, located in your town, files bankruptcy because they cannot pay their debts. The Widget Company's assets are liquidated and there is a sum of money that can be paid to the creditors involved in the case.

The city is owed 3 years in back property taxes. The city as a creditor is owed the back taxes, and would be paid in the appropriate order as dictated by the Bankruptcy Code. Amendments in legislation would change how this occurres. Here's how:

Current Bankruptcy Code

* Property taxes could be subordinated at a judge's discretion to the same level as unsecured creditors like credit card companies.

* Bankruptcy filers could request that property be reassessed as far as ten years back. This could change the amount of taxes that are owed and cities could have to grant refunds in some cases.

* The interest rate applied on the back taxes is left to the discretion of the judges

Proposed Bankruptcy Legislation

* Property Taxes would be paid after claims to unpaid wages, contributions to employee benefit plans, and child support and alimony and treated as a secured creditor.

* Taxing authority would begin as soon as assessment was commenced, therefore property reevaluation would be not allowed.

* The interest rate applied on the back taxes would be applied at the local jurisdiction's statutory rate.

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