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Bankruptcy Bill Passes In House.

Cities Gain Higher Priority in Recovery of Ad Valorem Taxes

In a victory for cities and towns the House last week adopted bankruptcy reform legislation that would aid cities in recovering millions of dollars in unpaid property taxes from debtors in bankruptcy.

The "Bankruptcy Reform Act of 1999" (H.R. 833) contains many provisions that would benefit municipalities. For cities and towns, passage of the bankruptcy bill could mean fixing property tax loopholes in the Bankruptcy Code that cause dries to lose millions of dollars in revenue.

The tax provisions in H.R. 833 would help cities and towns to recoup lost revenues due to bankruptcy filings by elevating the priority for payment of ad valorem taxes when a debtor files for bankruptcy. Most cities and towns collect ad valorem taxes or property taxes for funding of their educational budgets, and losses have occurred when bankruptcy debtors were relieved from paying unpaid property taxes. Most cities and towns credit the education budgets before property taxes are received and deficits can occur if property taxes are not paid. The loophole in the current Bankruptcy Code leaves cities and towns no recourse but to raise taxes or cut services to make up for any deficit.

The bill would also require debtors in bankruptcy to pay the local statutory interest rate for unpaid property taxes. Currently, any person who is delinquent on property tax payments may be assessed this interest rate penalty according to state and local statutes. However, some bankruptcy filers are obtaining judgements that either "cram down" the interest rate or relieve the bankruptcy filer of any interest penalties on unpaid property taxes.

The bill, which would overhaul the consumer and business sections of the federal Bankruptcy Code, passed in a 313-108 vote. NLC and other state and local organizations including the National Association of Attorneys General, National Association of County Treasurers and Finance Officers, the National Association of Counties, as well as representatives from the federal government, have been working together over the past year and a half to secure strong language that would assist state and local governments by tightening loopholes in the Bankruptcy Code.

While language in last year's bill incorporated the same tax provisions, the conference report was never considered by the Senate and similar legislation was introduced this year.

Cities and towns extend credit to property owners in good faith because they are property owners and never assess their ability to pay property taxes. Cities and towns rely on the unique relationship with theft constituents and expect payment on ad valorem taxes in exchange for services in cities and towns. In some cities and towns, the local interest rate accruing on unpaid taxes is higher than the I.R.S. statutory rate.

The House bill would change current federal law to ensure better municipal ability and authority to enforce debts that are due to them with no discounting.

The bill would also allow a bankruptcy court to reverse a property valuation decision only when a bankruptcy debtor has the right to challenge such a decision under state law. This would prevent long and drawn out legal battles over the assessment of property on which taxes are already due. The current law can potentially be interpreted to force cities and towns to reduce assessed values and taxes on those values as far back as ten years.

As a result, cities and towns could have to refund ten years' worth of taxes to a bankrupt estate, despite that monies have been paid to Boards of Education and have already been spent for educational purposes.

H.R. 833 would also limit payment of unpaid ad valorem taxes to six-year payouts, beginning at the date of assessment and prohibit any "balloon" payments.

Consumer Bankruptcy Issues

The overhaul of the bankruptcy code comes as a result of record numbers of bankruptcies being filed in the U.S. and a report outlining areas for reform by the National Bankruptcy Review Commission. The last overhaul of the Bankruptcy Code was in 1978.

Under Rep. Gekas' (R-Pa.) proposal the consumer bankruptcy system would be reformed to integrate a needs-based bankruptcy program.

Debtors would be subject to guidelines established in place by the bill that would emphasize taking personal responsibility and paying for debts, rather than resorting to Chapter 7 bankruptcy, which would relieve the debts and place the financial burden on consumers and businesses.

Although NLC does not have a position on the "means test", treatment of the test is critical to the debate on these bills and will be key to passage of the bills.

The "means test" determines if a bankruptcy filer is eligible for Chapter 7, which would absolve the debtor of their debts or Chapter 13, which would require the debtors to repay a portion of their debts. Many of the successful and unsuccessful amendments offered in consideration of H.R. 833 addressed the means test, attempting to make the test less severe to make the bill more acceptable to the Clinton Administration.

Senate Action

The Senate is scheduled to act on their version of "The Bankruptcy Reform Act of 1999" (S. 625) as early as this week. NLC supports S. 625, which was introduced by Sen. Charles Grassley (R-Iowa) and has been working with staff to develop a compromise on the tax provisions to ensure that there is no impact on the Internal Revenue Service Reform and Restructuring Act of 1998, and that concerns of the American Bar Association's Section on Taxation are addressed.

Changes to the tax provisions are anticipated, but they should not impact the level of priority payment for secured taxes like ad valorem taxes and the interest rate application for unpaid property taxes.
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Title Annotation:Bankruptcy Reform Act of 1999
Author:Cormier, Kristin E.
Publication:Nation's Cities Weekly
Article Type:Brief Article
Date:May 10, 1999
Words:948
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