In re Norris

• Decision Date: 20 October 1989
• Docket Number: Adv. No. 1-85-0212.,Bankruptcy No. 1-85-00991
• Citation: 107 BR 592
• Parties: In re Homer Clyde NORRIS, d/b/a Sportsman Tackle & Marine, a/k/a Sportsman Fishing Store, Debtor. SAFECO INSURANCE COMPANY OF AMERICA, Plaintiff, v. Homer Clyde NORRIS, Defendant.
• Court: U.S. Bankruptcy Court — Eastern District of Tennessee

107 B.R. 592 (1989)

In re Homer Clyde NORRIS, d/b/a Sportsman Tackle & Marine, a/k/a Sportsman Fishing Store, Debtor.

SAFECO INSURANCE COMPANY OF AMERICA, Plaintiff, v. Homer Clyde NORRIS, Defendant.

Bankruptcy No. 1-85-00991, Adv. No. 1-85-0212.

United States Bankruptcy Court, E.D. Tennessee.

October 20, 1989.

Hoyt O. Samples, Chattanooga, Tenn., for plaintiff.

Harold L. North, Jr., of Ray & North, Chattanooga, Tenn., for defendant.

MEMORANDUM

RALPH H. KELLEY, Chief Judge.

Before the debtor, Homer Clyde Norris, filed for bankruptcy, he sold hunting and fishing licenses for the state of Tennessee. The plaintiff, Safeco, issued a $10,000 surety bond to repay the state if the debtor failed to pay the fees he collected or failed to account for the licenses he received. The debtor failed to pay the state for licenses sold or not returned, and as a result, Safeco was compelled to pay the state the full amount of the bond. Safeco now has a $10,000 claim against the debtor.

Safeco alleges that the $10,000 claim was not discharged in the debtor's bankruptcy. Safeco asserts three independent grounds for nondischargeability of the debt: the debt is (1) a nondischargeable tax debt, or (2) a debt for embezzlement, or (3) a debt for fraud or defalcation while acting in a fiduciary capacity. 11 U.S.C.A. § 523(a)(1) & (a)(4) (West 1979 & Supp.1989).

As to all three grounds, Safeco is attempting to take the place of the state. If the license fees were a tax, they were owed to the state, not to Safeco. If the debtor embezzled the unpaid fees, he embezzled them from the state. If the debtor had a fiduciary relationship, it was with the state, not with Safeco.

For Safeco to prove that the debtor owes it a non-dischargeable tax debt, Safeco must prove:

(1) The fees for hunting and fishing licenses were a tax owed to the state;

(2) The debtor\'s debt for failing to collect the tax or pay it to the state is within the category of nondischargeable tax debts as set out in § 523(a)(1);

(3) Safeco, as a result of paying the non-dischargeable tax debt, is subrogated to the state\'s right to have the debt held nondischargeable.

The parties have agreed that the first and third questions can be answered on the record without a trial, since they are almost entirely questions of law. The court will decide in reverse order. First, assuming the debtor owes the state a nondischargeable tax debt for failure to collect or pay the license fees, is Safeco subrogated to the state's right to have the debt held nondischargeable? Second, if Safeco can be subrogated to the nondischargeability of a tax debt to the state, were the license fees a tax?

(1)

Bankruptcy Code § 507(a)(7) provides that certain tax debts have priority in the order of payment in a bankruptcy case. These priority taxes are the first category of taxes excepted from discharge by § 523(a)(1)(A). 11 U.S.C.A. §§ 507(a)(7) & 523(a)(1)(A) (West Supp.1989).

When the debtor filed his bankruptcy case and when Safeco filed this suit, § 523(a)(1)(A) referred to § 507(a)(6), but § 507(a)(6) no longer dealt with taxes since the tax priority had been shifted to § 507(a)(7). 3 L.King, Collier on Bankruptcy ¶ 523.06, footnote 3b (15th ed. 1989). This inadvertent failure of Congress to change the reference in § 523 when it moved the tax priority from § 507(a)(6) to (a)(7) can be corrected by the court in order to make § 523(a)(1)(A) completely effective. In re Clate, 69 B.R. 506 (Bankr.W.D.Pa. 1987); 2A N. Singer, Sutherland Statutory Construction § 47.36 (4th ed. 1984).

Bankruptcy Code § 507(d) says that a surety who has paid a priority tax debt is not subrogated to the government's tax priority. 11 U.S.C.A. § 507(d) (West 1979). However, the right to priority under § 507 is not required in order for a tax debt to be nondischargeable under § 523(a)(1)(A). Section 523(a)(1)(A) excepts from discharge taxes of the kinds described in § 507(a)(7), not taxes "entitled to priority" under § 507(a)(7).

Thus, § 507(d) prevents Safeco from being subrogated to the priority of the state's tax claim but does not prevent it from being subrogated to the nondischargeability of the state's tax claim. 11 U.S.C.A. § 523(a)(1)(A) (West Supp.1989); Cooper v. Cooper, 83 B.R. 544, 17 Bankr. Ct.Dec. 276, 18 Collier Bankr.Cas.2d 668 (Bankr.C.D.Ill.1988); Gordon's Jewelry Co. v. Goldstein, 66 B.R. 909 (Bankr.W.D.Pa. 1986).

This express denial of subrogation to the priority of a tax claim suggests that a surety is subrogated to all other elements of the tax claim, including nondischargeability. Furthermore, Bankruptcy Code § 509(a) provides:

(a) Except as provided in subsection (b) or (c) of this section, an entity that is liable with the debtor on, or that has secured, the claim of a creditor against the debtor, and that pays such claim, is subrogated to the rights of such creditor to the extent of such payment.

11 U.S.C.A. § 509(a) (West 1979).

Unfortunately, the meaning of § 509 as a whole is not easily discovered. It implies that a codebtor or surety who pays the debtor's debt to the creditor acquires all the creditor's rights, including an exception to discharge if one applies.

There is a problem with this inference from § 509. The same problem exists with regard to the inference from § 507(d) that a surety is subrogated to all the aspects of a tax claim except priority. Subrogation may mean nothing more than that the surety has a claim; the statute excepting tax debts from discharge may expressly or by implication be limited to tax debts that are still owed to the government.

One court of appeals has followed this path. It held that the surety's claim was discharged even though the surety paid a nondischargeable tax debt. The court of appeals concluded that there was no need to except the surety's claim from discharge, since excepting it from discharge would make no difference to whether the government was paid. National Collection Agency, Inc. v. Trahan, 624 F.2d 906 (9th Cir.1980).

Other courts have also held that a subrogation claim is discharged even though the claimant paid nondischargeable taxes. Campbell v. Campbell, 74 B.R. 805 (Bankr. M.D.Fla.1987) (dicta as to a tax surety since the claim under § 523(a)(1) had been dropped); Ridge v. Smothers, 60 B.R. 733, 14 Collier Bankr.Cas.2d 1120 (Bankr.W.D. Ky.1986) (dicta as to a tax surety since decided on the narrower ground that subrogation did not apply to a co-debtor); Don-Sue Investments, Inc. v. Lapille, 53 B.R. 359 (Bankr.S.D.Ohio 1985) (co-debtor not entitled to subrogation). See 11 U.S.C.A. § 509(b)(2) (West 1979).

The majority rule appears to be the opposite rule, the rule that a surety who pays a nondischargeable tax debt has a nondischargeable tax claim against the debtor. Western Surety Co. v. Waite, 698 F.2d 1177, 10 Bankr.Ct.Dec. 464, 8 Collier Bankr.Cas.2d 619 (11th Cir.1983); Gilbert v. United States Fidelity and Guaranty Co., 180 F.Supp. 794 (M.D.Ga.1959), 274 F.2d 823 (5th Cir.1960); Rankin v. Alloway, 37 B.R. 420 (Bankr.E.D.Pa.1984); Hancock v. Country Mutual Ins. Co., 36 B.R. 709 (Bankr.S.D.Ill.1984); Woerner v. Farmers Alliance Mutual Ins. Co., 19 B.R. 708, 9 Bankr.Ct.Dec. 63, 6 Collier Bankr.Cas.2d 590 (Bankr.D.Kan.1982); Federal Mutual Ins. Co. v. Gibbs, 11 B.R. 320, 7 Bankr.Ct.Dec. 878 (Bankr.W.D.Mo. 1981); see also Cooper v. Cooper, 83 B.R. 544, 17 Bankr.Ct.Dec. 276, 18 Collier Bankr.Cas.2d 668 (Bankr.C.D.Ill.1988) (co-debtor, rather than surety); Salaki v. Caffrey, 77 B.R. 219 (Bankr.W.D.Mo.1987); Gordon's Jewelry Co. v. Goldstein, 66 B.R. 909 (Bankr.W.D.Pa.1986) (buyer rather than surety).

The court will follow the majority rule that a surety's subrogation to the government's tax claim includes the right to have the debt excepted from discharge.

The court disagrees with the contrary decision of the ninth circuit in National Collection Agency, Inc. v. Trahan, discussed above.

The ninth circuit's decision is based on the proposition that taxes are excepted from discharge purely to protect government revenue. The general exception from discharge for recently incurred taxes, as opposed to stale taxes, represents a compromise between protecting government revenue and giving the debtor a financial fresh start. 1A J. Moore, Collier on Bankruptcy ¶ 17.01 3.2 (14th ed. 1988). However, the other exceptions in § 523(a)(1) are not based purely on the protection of government revenue.

For example, the statute excepts from discharge a tax with respect to which a return was not filed, a tax with respect to which the debtor filed a late return within two years before bankruptcy, and a tax with respect to which the debtor made a fraudulent return or willfully attempted to evade or defeat the tax. 11 U.S.C.A. § 523(a)(1)(B) & (C) (West Supp.1989). Likewise, the exception for taxes that the debtor was responsible for collecting appears to be based also on the debtor's neglect or wrongdoing in failing to collect or pay the tax. 11 U.S.C.A. §§ 507(a)(7)(C) & 523(a)(1)(A) (West Supp.1989).

To the extent the exceptions are meant to punish a taxpayer's neglect or wrongdoing, the surety who pays the nondischargeable tax should be entitled to a nondischargeable claim in the government's place.

Suppose, however, that the exception from discharge is intended purely to preserve government revenue. If the policy of the exception from discharge is to promote the collection of taxes, then that policy is served indirectly by excepting the surety's subrogation claim from discharge. The question is whether the policy behind the exception is a narrow policy to allow the collection of nondischargeable taxes from debtors or a broader policy of promoting the payment of nondischargeable taxes by debtors and sureties. This court adopts the broader view of the policy behind the exception.

The debtor could argue that this result is unfair because he should not have to pay the surety before bankruptcy and still have to pay the taxes himself. The...