Challenge Air Intern., Inc., In re, 91-5211

• Decision Date: 30 January 1992
• Docket Number: No. 91-5211,91-5211
• Citation: 952 F.2d 384
• Parties: -618, 92-1 USTC P 50,090, 22 Bankr.Ct.Dec. 892, Bankr. L. Rep. P 74,511 In re CHALLENGE AIR INTERNATIONAL, INC., Debtor. UNITED STATES of America, Plaintiff-Appellant, v. CHALLENGE AIR INT'L INC., American Express Bank International, Defendants-Appellees.
• Court: U.S. Court of Appeals — Eleventh Circuit

Page 384

952 F.2d 384

69 A.F.T.R.2d 92-618, 92-1 USTC P 50,090,

22 Bankr.Ct.Dec. 892,

Bankr. L. Rep. P 74,511

In re CHALLENGE AIR INTERNATIONAL, INC., Debtor UNITED STATES of America, Plaintiff-Appellant, v. CHALLENGE AIR INT'L INC., American Express Bank International, Defendants-Appellees.

No. 91-5211.

United States Court of Appeals Eleventh Circuit.

Jan. 30, 1992.

Jose Francisco De Leon, U.S. Dept. of Justice, Gary R. Allen, Robert W. Metzler, Janet Kay Jones, Michael L. Paup, Gary D. Gary, Brian C. Griffin, Tax Div., Dept. of Justice, Washington, D.C., for plaintiff-appellant.

Robert Francis O'Malley, Jr., Kelley, Drye & Warren, David Rand Softness, Gelfand & Softness, Miami, Fla., for defendants-appellees.

Appeal from the United States District Court for the Southern District of Florida.

Before COX, Circuit Judge, DYER and FRIEDMAN ^*, Senior Circuit Judges.

DYER, Senior Circuit Judge:

This appeal involves the turnover of a cash fund under 11 U.S.C. § 542, claimed by a chapter 11 trustee in a reorganization proceeding as property of the debtor's estate, after a prepetition levy by the Internal Revenue Service (IRS) to seize the property from a third party. The district court, on appeal from the bankruptcy court, found that the trustee is entitled to the fund, relying on United States v. Whiting Pools, 462 U.S. 198, 103 S.Ct. 2309, 76 L.Ed.2d 515 (1983). 123 B.R. 661. We affirm.

I. BACKGROUND

Challenge Air International, Inc. operated a commercial airline out of Miami, Florida. In accordance with an agreement with American Express Travel Related Services Co., Inc., Challenge Air accepted American Express Cards for the purchase of its airline services. American Express was required under the agreement to pay Challenge Air an amount equal to the amount of the charges less an applicable discount rate. Under specified circumstances, American Express had the right to withhold reimbursement payments to offset its customer claims. The agreement was in effect from February 1, 1987. Challenge Air ceased its airline services on September 30, 1987.

The amount of Challenge Air's unpaid taxes was $151,248 for the first quarter of 1987 and $148,902 for the second quarter. The IRS demanded payment from Challenge Air after the amounts due were assessed. Challenge Air made no payment to the IRS in connection with the assessment. On October 27 and 28, 1987, the IRS filed and recorded notices of tax liens against Challenge Air's property. The IRS served a notice of levy on American Express on October 28, 1987 with regard to the unpaid tax liability of Challenge Air. The fund held by American Express on that date was in the amount of $204,979. American Express owed Challenge Air approximately $162,000 pursuant to the existing agreement.

The notice of levy informed American Express that Challenge Air owed $456,456.46 in federal taxes and that the levy attached to "[a]ll property, rights to property, money, credits, and bank deposits" owned by Challenge Air and possessed by American Express, as well as "all money or other obligations" owed by American Express to Challenge Air. The levy demanded payment of Challenge Air's tax liability "or any smaller amount" that American Express owed to Challenge Air.

From February 1987, American Express exercised its right to withhold payments from Challenge Air pursuant to the agreement. American Express believed that it faced continuing liability to its cardholders; therefore, American Express did not honor the tax levy by releasing the reserve fund. From the time the IRS served its notice of levy until June 1989, American Express continued to set off chargebacks for customer credits against the fund.

On November 23, 1987, Challenge Air filed a petition for relief under Chapter 11 of the Bankruptcy Code. On March 13, 1989, the bankruptcy court appointed Robert L. Roth as the airline's trustee in the reorganization proceeding.

II. STATEMENT OF THE CASE

On April 24, 1989, the debtor and its trustee initiated the present action against the IRS and American Express. This bankruptcy adversary proceeding presented no factual dispute, and was submitted to the bankruptcy court for a decision based on the parties' trial briefs. The two contested legal issues were: whether the fund held by American Express should be paid to Challenge Air or to the IRS, and whether American Express had to pay interest on the fund. Challenge Air and its chapter 11 trustee prevailed in the declaratory action and turnover action, as the fund held by American Express, including interest, was property of the chapter 11 debtor's estate. American Express turned over to the trustee the sum of $202,101.33.

The IRS appeals the district court's order which affirmed the judgment of the bankruptcy court in favor of Challenge Air International, Inc. and the court's determination in favor of American Express under 26 U.S.C. § 6332(d), finding no liability for tax, interest or penalties under § 6332(d) of the I.R.C. of 1986.

III. ANALYSIS

A. Turnover under Section 542

Whiting Pools controls the outcome of this case. The Court in Whiting Pools held that the reorganization estate includes property of the debtor that has been seized by a secured creditor prior to the filing of a petition for reorganization. 462 U.S. at 209. Section 541(a) of the Bankruptcy Code, 11 U.S.C. § 101 et seq., defines the extent of property of the debtor's estate: "the following property, wherever located ... all legal or equitable interests of the debtor in property as of the commencement of the case." Section 542(a) requires turnover to the trustee of property of the estate. Whiting Pools is dispositive on the issue of whether the debtor's right to turnover prevails over the interest acquired by the IRS through its prepetition levy on the debtor's property.

Section 542 simply requires the Service to seek protection of its interest according to the congressionally established bankruptcy procedures, rather than by withholding the seized property from the debtor's efforts to reorganize.

462 U.S. at 212, 103 S.Ct. at 2317. Thus, the Court made it clear that the IRS does not have any special immunity from the reach of § 542. Id. at 209, 103 S.Ct. at 2315.

The government's attempt to distinguish this case from Whiting Pools is based on a distinction between tangible property and cash equivalent property. The government asserts that its tax levy accomplished a seizure of the debtor's right to payment, unlike a levy on tangible property after which a taxpayer retains rights of redemption and to any surplus from a sale. This distinction, however, does not require a departure from Whiting Pools (property essential to the running of the business included in the reorganization estate through § 542(a)). The government relies on the reasoning of Cross Electric Co. v. United States, 664 F.2d 1218 (4th Cir.1981). The property right seized by the IRS in that case was the debtor's right to collect an account receivable.

However, the direct conflict between Cross Electric and Whiting Pools, 674 F.2d 144 (2nd Cir.1982), was the basis for granting certiorari to review Whiting Pools. 462 U.S. at 202, 103 S.Ct. at 2312. Had the Supreme Court intended to restrict its holding to situations involving tangible saleable property, it either would have not recognized a conflict between Cross Electric and Whiting Pools I and refused to grant certiorari, or it would have, at the very least, indicated that no conflict existed between the two decisions in view of the different types of property involved.

The Whiting Pools decision authorized turnover of the debtor's property held by the IRS to maximize the estate in order to facilitate the debtor's reorganization, and does not rest on such a distinction in the nature of the seized property as the government contends. The bankruptcy court rejected the government's contention that a levy on cash or cash equivalents, unlike the levy on tangible property in Whiting Pools, leaves the debtor with no rights in the property. We agree.

The transfer of physical possession of the seized property to the IRS prior to the debtor's bankruptcy was clearly irrelevant to the determination made in Whiting Pools. The enforcement provisions of the Internal Revenue Code of 1954 [26 U.S.C. §§ 6321-6326] "do not transfer ownership of the property to the IRS." Id. 462 U.S. at 210, 103 S.Ct. at 2316. See United States v. Sullivan, 333 F.2d 100, 116 (3rd Cir.1964) ("the Commissioner acts pursuant to the collection process in the capacity of lienor as distinguished from owner").

In support of its position that its constructive possession of the right to payment obliterates all rights of the debtor, the government relies on United States v....