Discharge of Late Tax Return Debt in Bankruptcy: Fixing BAPCPA's Draconian Hanging Paragraph

The current majority rule for handling the discharge of tax debt related to a tardily filed tax return is severely distorted and antithetical to sound bankruptcy and taxation policy. For years, it was established law that bankruptcy could discharge stale tax debts. Indeed, the Bankruptcy Code provided a clear and workable standard that delicately balanced the interest of the government as creditor, the debtor's need for a start, and the interest of the general unsecured creditor. This system used a series of timing rules that allowed stale tax debts to be discharged and allowed the government to collect fresh tax debts post-bankruptcy.The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 ushered in many consumer bankruptcy reforms. One of those changes regarded how courts were to treat substitute returns prepared by the Internal Revenue Service (IRS) when a taxpayer failed to file any tax return. However, that targeted legislative patch has been incorrectly applied to any and all late tax returns — even if the tax return is filed only one day late — to preclude forever a discharge for that tax debt. This result is a radical sea change in bankruptcy law that is wrong and needs to be remedied.This Article demonstrates four problems with the majority rule. First, the majority rule violates principles of statutory construction. Second, the effects of the rule are exacerbated in state jurisdictions that do not have substitute return provisions. Third, the majority rule violates the principle that courts do not effect major bankruptcy changes without clear legislative command. Fourth — and perhaps most troubling — is that the majority rule now decouples tax priority and discharge.This Article therefore provides both legislative and judicial solutions to solve these problems. In particular, this Article advances a better, more workable judicial test — the indispensable element test — to determine whether a late tax return complies with the current statutory elements for bankruptcy discharge.