Sexton v. Department of Treasury (In re Sexton)
508 B.R. 646
| Bankr. W.D. Va. | 2014Background
- Debtor Adina Sexton filed Chapter 7 on Feb 13, 2013 and listed/exempted her anticipated 2012 federal tax overpayment (~$4,200), then perfected the exemption.
- About three weeks after filing, the Treasury, under the Treasury Offset Program (26 U.S.C. § 6402), intercepted the overpayment and applied it to a prepetition nondischargeable (actually discharged later) deficiency debt owed to USDA Rural Development.
- Sexton’s counsel notified the Treasury of the bankruptcy and requested turnover to the Chapter 7 trustee; the Treasury neither responded nor forwarded funds.
- Sexton reopened the case, sued the government for violating the automatic stay, sought turnover, damages, attorneys’ fees, and sanctions; the government moved to dismiss (Fed. R. Civ. P. 12(b)(1) & 12(b)(6)) and also sought a nunc pro tunc annulment of the stay to validate the setoff.
- The principal legal dispute: whether a debtor’s interest in a tax overpayment/refund vests in the bankruptcy estate upon filing (thus protected by § 362 stay) or remains contingent until the Treasury completes statutory offset under § 6402.
- The Bankruptcy Court denied the government’s motions, held the post-petition setoff violated the automatic stay (except as permitted by § 362(b)(26) for income tax liabilities), ordered release of withheld funds and recovery of actual damages/fees, but declined punitive damages or nunc pro tunc annulment.
Issues
| Issue | Plaintiff's Argument | Defendant's Argument | Held |
|---|---|---|---|
| Whether debtor’s interest in tax overpayment/refund became property of estate at petition date | Sexton: right to overpayment vested at end of tax year and thus became estate property on filing; stay barred post-petition setoff | Government: interest was contingent until Treasury completed mandatory §6402 offset; no vested estate interest, so no stay violation | Court: vested in estate on filing; post-petition setoff violated §362 unless an express bankruptcy exception applies |
| Whether Treasury’s TOP offset against a non-tax debt requires relief from stay or is exempt | Sexton: TOP does not supersede Bankruptcy Code; for non-tax debts, Treasury must obtain stay relief before setoff | Government: TOP procedures are mandatory and operate pre-bankruptcy protections, so no post-petition injury if offset extinguishes refund | Court: §362(b)(26) only excepts setoffs for income tax liabilities; TOP does not abrogate stay protections for non-tax debts post-petition without stay relief |
| Whether the complaint should be dismissed for lack of subject-matter jurisdiction / standing | Sexton: she suffered pecuniary injury and has standing because estate interest existed and exemption was claimed | Government: factual challenge — no injury because entire overpayment was offset leaving no remainder; trustee (or estate) should, not debtor, be proper party | Court: jurisdiction exists; standing depends on legal question central to merits, not dismissed at 12(b)(1); complaint survives |
| Whether nunc pro tunc annulment of the stay was appropriate to validate retroactive setoff | Sexton: equities favor preserving stay and returning funds (exemption timely claimed) | Government: asks annulment to validate its setoff, citing equitable balancing (Moore) | Court: denied nunc pro tunc annulment — government knew of bankruptcy and equities favor debtor; retroactive annulment improper |
Key Cases Cited
- IRS v. Luongo, 259 F.3d 323 (5th Cir. 2001) (held refund entitlement contingent on §6402 offset and denied stay protection for overpayment until offset)
- United States v. Whiting Pools, 462 U.S. 198 (1983) (broad interpretation of property of the estate under §541)
- Steel Co. v. Citizens for a Better Environment, 523 U.S. 83 (1998) (jurisdictional/standing principles distinguishing merits from jurisdiction)
- In re Moore, 350 B.R. 650 (Bankr. W.D. Va. 2006) (refused retroactive annulment; held governmental post-petition offset violated stay and favored debtor on equities)
- In re Yonikus, 996 F.2d 866 (7th Cir. 1993) (broad coverage of contingent and nonpossessory interests as property of the estate)