UNITED STATES BANKRUPTCY COURT
EASTERN DISTRICT OF KENTUCKY
LEXINGTON DIVISION
IN RE:
PAULA SHARP
DEBTOR CASE
NO. 02-50796
MEMORANDUM OPINION AND ORDER
This matter is before the court on the motion by
creditor Internal Revenue Service (AIRS@), for relief from the automatic stay filed herein on
April 29, 2002. The debtor filed an
objection in response on May 7, 2002, and the matter was heard on June 20, 2002. The parties were given ten days to
supplement their briefs, and the matter was to be taken under consideration for
decision. No supplemental briefs have
been filed and the matter is ripe for decision.
The IRS filed its motion seeking relief from the stay
in order to exercise setoff rights against a refund owing to the debtor for the
2001 tax year in the amount of $4,715.00.
The debtor owes an income tax liability to the IRS for 1992 tax year in
the amount of $3,115.93. On June 3,
2002, the debtor and the IRS entered into an Agreed Order in Paula Sharp v.
Internal Revenue Service, Adversary Case No. 02-5029, that the same 1992
tax debt is dischargeable.
The debtor filed another adversary proceeding against
the IRS on May 7, 2002, Adversary Case No. 02-5045, seeking surrender of the
2001 tax refund, based on her qualification for an earned income credit (AEIC@) in the amount
of $2,705.00 and her expectation of a refund in the amount of $2,010.00. The debtor stated in her complaint that she
had claimed the EIC pursuant to K.R.S. 205.220, and the refund pursuant to
K.R.S. 427.160, as exempt. The parties
had informed the court that this proceeding was settled, but that settlement is
apparently awaiting the resolution of the dispute herein concerning the IRS=s setoff.
The IRS contends that it has the right to setoff a
taxpayer=s overpayment of tax against a tax liability for prior
years. See Alexander v. United
States, 225 B.R. 145, 147-48 (Bankr. W.D. Ky. 1998), aff=d 245 B.R.
280 (W.D. Ky. 1999). The IRS further
contends that although the 1992 tax debt is dischargeable, it is entitled to
setoff any prepetition income tax overpayment against the debtor=s debt for 1992 pursuant to 11 U.S.C. ' 553.
Section 553 preserves a right of setoff established by non-bankruptcy
law. The I.R.S. cites In re Luongo,
259 F.3d 323, 334 (5th Cir. 2001) in support of this
proposition. The court there set out
the requirements for proving a valid right to setoff under ' 553: A(1)
a debt owed by the creditor to the debtor which arose prior to the commencement
of the bankruptcy case; (2) a claim of the creditor against the debtor which
arose prior to the bankruptcy case; and (3) the debt and claim must be mutual
obligations.@ There is no
dispute that these requirements have been met here.
In Alexander, supra, the court
acknowledged that the IRS may setoff tax deficiencies against refunds owed when
the above-stated requirements have been met.
It went on, however, to distinguish the situation in which the debtor
claims an exemption in these funds:
Debtor
claimed his 1996 Earned Income Credit as exempt under K.R.S. 205.220(3). That provision exempts all public assistance
benefits from levy or execution.
Federal Earned Income Credit benefits have been determined to be public
assistance benefits within the meaning of K.R.S. 205.220(3), and therefore, are
exempt from all claims of creditors in bankruptcy. (Cite omitted).
With regard to Debtor=s 1996 tax refund based on an overpayment of withheld
taxes, Debtor claimed $708.31 of that refund as exempt under K.R.S.
427.160. That Statute provides a
$1,000.00 general exemption that can be applied by a debtor in bankruptcy to
property of any nature.
As no objections were filed to Debtor=s claimed exemptions, his 1996 federal tax refund
became exempt under ' 522(a).
(Cites omitted). As a result, ' 522(c) comes into play.
Section 522(c) provides in relevant part
that property exempted from the bankruptcy estate shall not be liable for any
debts arising before the bankruptcy was filed, unless such debt falls into one
of the exceptions specified in ' 522(c)(1)
through (3).
The
court went on to note that the exceptions contained in ' 522(c)(1) through (3) regarding nondischargeable
debts and debts secured by liens did not apply. (Paragraph (4) dealing with fraud in obtaining various forms of
financial assistance for education was added in 2000. It is inapplicable herein as well.) In re Alexander, 225 B.R. at 148. This court has also held in In re
Goldsberry, 142 B.R. 158, 159 (Bankr. E.D. Ky. 1992), that the EIC is
exempt pursuant to K.R.S. 205.220(3).
This court therefore concludes that the debtor may
claim an exemption as to her EIC in the amount of $2,705.00 and as to her 2001
refund in the amount of $1,000.00, for a total of $3,705.00 which the I.R.S.
may not offset against her 1992 tax liability.
The I.R.S. is granted relief from the automatic stay to offset the
remaining $1,010.00 against the 1992 tax liability.
It is so ordered this day of August,
2002.
By
the court -
Judge
William S. Howard
Copies to:
Debtors
Ronald L. Butler, Esq.
Aneida P. Winston, Esq.