Rochelle v. United States
| Decision Date | 15 November 1973 |
| Docket Number | Civ. A. No. 3-3398 and 3-6146. |
| Citation | 371 F. Supp. 224 |
| Parties | William J. ROCHELLE, Jr., Trustee in Bankruptcy of Estate of Angus G. Wynne, Jr. v. UNITED STATES of America (two cases). |
| Court | U.S. District Court — Northern District of Texas |
Linda N. Coffee, Palmer, Palmer & Coffee, Dallas, Tex., for plaintiff.
Frank D. McCown, U. S. Atty., Martha Joe Stroud, Asst. U. S. Atty., William W. Guild and Charles G. Barnett, Tax Div. Dept. of Justice, Dallas, Tex., for defendant.
These consolidated suits involve not only identical parties, but also the same essential question: who is entitled to possess an income tax refund of nearly a third of a million dollars. For reasons detailed in the pages that follow, I have decided that the United States acted correctly in setting off the refund against other taxes for which the taxpayer was liable.
The refund1 on the 1962 Federal income tax of Angus G. Wynne, Jr., and his wife results from a loss carryback from 1964 directly attributable to losses sustained in 1964. Wynne was a joint venturer in Wynne-Compass Fair, Inc. (hereafter abbreviated to the Fair), which operated the financially unsuccessful Texas Pavilion at the New York World's Fair in 1964.
In September of 1964, involuntary bankruptcy proceedings were filed against Wynne in Dallas, his home town. The following September, while the bankruptcy case was still open (indeed, it still is open2) the Wynnes filed a claim for refund on their 1962 income tax in the amount mentioned in note 1. They make no claim to the money, having consented to have the refund credited to the unpaid federal taxes3 owed by the Fair4. The plaintiff Rochelle, however, in his capacity as Wynne's bankruptcy trustee, filed an identical claim in January of 1968 and now contends that the refund should have been paid to him for the use of the bankrupt estate, not used to satisfy the partnership's federal tax obligation.5
Initially, then, this Court is called upon to decide whether the United States acted rightly or wrongly in setting off the unpaid taxes of the partnership against the refund due to Wynne individually.6
Both parties cite — but reach different conclusions from — section 68 of the Bankruptcy Act (11 U.S.C. § 108). The text is quoted in the margin,7 but in essence the statute provides simply that if there are mutual debts between a bankrupt and a creditor, the account shall be stated and one debt shall be set off against the other with only the balance being paid. The section requires the existence of mutual debts, and that the debt due from the bankrupt be provable.
Plaintiff contends that the statute is permissive rather than mandatory, despite its language, and that at any rate the debts and credits must be between the same parties standing in the same capacity. Plaintiff also cites the familiar general rule that the joint debts (here, the tax obligation of the Fair) cannot be set off against separate debts (the refund owed by the United States to Wynne's bankruptcy estate) and separate debts cannot be set off against joint debts.
The defendant, on the other hand, maintains that "mutual debts" exist even where a creditor (the Government) of a bankrupt partnership (the Fair)8 owes a debt to one of the partners (Wynne).
In addition, Rochelle quotes section 5(g) of the Bankruptcy Act (11 U.S.C. § 23), dealing with partnerships, which says that net proceeds of partnership property shall be appropriated to the payment of partnership debts; and the net proceeds of the individual estate of each general partner, to the payment of his individual debts. Any surplus remaining in either estate is to be applied against the other estate's debts. This statute, Rochelle insists, is mandatory and precludes the offset, because the income tax refund claim was an individual asset while the Fair's tax obligation was a partnership liability.
I have concluded that the parties did hold mutual debts and that the Government's claim against Wynne was provable in bankruptcy. The setoff, then, was proper.
The Bankruptcy Act with which we deal here is certainly not of recent vintage, but cases predating it support the Government's contention that Wynne and the Government held mutual debts. Tucker v. Oxley, 9 U.S. 34 (5 Cranch 34) 3 L.Ed 29 (1809); Gray v. Rollo, 85 U.S. 629 (18 Wall. 629), 21 L.Ed. 927 (1873). More recent and more on point, however, is In re Sherman Plastering Corp., 346 F.2d 492 (2d Cir. 1965), a case dealing specifically with section 68 of the current act (and interpreting the Tucker and Gray cases). Sherman, like the Fair, was allowed for a time to operate its business as a debtor-in-possession following the filing of a petition for a Chapter XI arrangement. Sherman was a judgment creditor of three companies which were held jointly liable. One of the three sought to pay its pro rata share of the judgment by offsetting it by an unrelated debt due to it from Sherman. Sherman resisted the setoff, as Rochelle does here, by invoking the maxim that a joint debt (the one owed by the company) cannot be set off by a single debt (the debt owed by Sherman). Circuit Judge Marshall wrote:
The same court in an earlier case chose to adhere to the maxim rather than its exception and Rochelle naturally points to the case, In re Neaderthal, 225 F. 38 (2d Cir.), cert. denied, 238 U.S. 635, 35 S.Ct. 939, 59 L.Ed. 1499 (1915), as holding that a partnership creditor cannot discharge an obligation owed to one of the partners individually by setting off the debt owed to the creditor by the partnership. But as Judge Marshall said of another aspect of Neaderthal, ". . . to the extent that it is so read, we choose not to follow it." In re Sherman, supra, 346 F.2d at 495. The Neaderthal opinion does not mention, let alone distinguish, the earlier conflicting cases of Tucker and Gray, supra. In Sherman, Judge Marshall questioned the reasoning of Neaderthal, found it inconsistent with precedent and, as mentioned above, declined to follow it. I also decline to follow it.
By offsetting the taxes due it against the refund payable to Wynne, the Government is being paid more than other creditors of the same or prior class. The same situation was presented in In re Inland Waterways, 71 F.Supp. 134 (D.Minn.1947). There the U. S. Navy owed money to the bankrupt shipbuilder, but instead of paying the full sum owed, the Government deducted the amount owed by the firm for its workers' employment and withholding taxes. The district court recognized that the setoff created a preference for the Government, but held (over the trustee's protest) that the offset was proper.9
In addition to the existence of mutual debts, section 68 also requires that the claim be provable in order for a setoff to be proper. In Lewis v. United States, 92 U.S. 618, 23 L.Ed. 513 (1875), a partnership that was indebted to the Government was bankrupt, as were the partners individually. The Supreme Court found that the partnership's debt was also a debt owed by the individual partners:
The court below committed no error in holding that the preference of the United States, as a creditor of the bankrupt partnership applied to the separate and individual estates of the bankrupt partners; thus superseding the rule in equity recognized by the Bankrupt Act, that partnership property is to be first applied in payment of the partnership debts, and individual property in payment of the individual debts. 92 U.S. at 624, 23 L.Ed. 513.
It is inherent in the Court's decision that a partnership's debt is a "provable debt" against the individual bankrupt partners. I find that the Government was a creditor of Wynne's individual estate in bankruptcy, just as it was a creditor of the Fair's estate in bankruptcy. And the Government's claims against Wynne for the unpaid taxes of the Fair were provable in his individual estate.
Because Wynne's tax refund claim for 1962 and the Government's claim against him for the Fair's taxes were "mutual debts," and because the Government's claim against Wynne for the Fair's taxes was provable in bankruptcy, then the Government may set off the two amounts in accordance with § 68(a) of the Bankruptcy Act.
Francis would suggest, then, that § 5(g) does not affect Wynne's debt to the...
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