Abstract
Case Name: Schieber v. Commissioner of Internal Revenue, T.C. Memo, T.C. Memo 2017-32 (Feb 9, 2017)
Jurisdiction: U.S.T.C.
Petitioner: David W. Schieber and Janet L. Schieber
Respondent: Commissioner of the Internal Revenue Service.
Concepts: Bankruptcy; Defined Benefit Plan; Cancellation of Debt
Nature of Case: Whether a defined benefit plan is an asset when determining insolvency for the purposes of cancellation of debt under IRC section 108(a)(3)?
Introduction
This case involves the tax treatment of cancelled debt. The petitioners declared bankruptcy. Schieber v. Commissioner of Internal Revenue, T.C. Memo, 2017-32, at 1. Under 26 U.S.C. § 108(d)(3), they were entitled to exclude from gross income any amount that would otherwise be includable by reason of the cancellation of debt if the cancellation occurs when the taxpayer is insolvent. Id. at 2. David W. Schieber, a retired schoolteacher, was entitled to payment from a defined benefit plan. Id. The IRS held that the plan was an asset which, if included, did not make him insolvent at the on date the debt was cancelled and issued a notice of deficiency for $30,076 of cancelled debt income. Id. at 1.
At issue is whether a defined benefit plan is an asset to be considered when determining insolvency for the purposes of cancellation of debt under 26 U.S.C § 108(a)(3).
Background
26 U.S.C. § 61(a)(12) defines “gross income” to include income from the cancellation of debt. Id. at 1-2. However, any amount that would otherwise be includable by reason of the cancellation of the taxpayer’s debt, in whole or in part, may be excludable if the cancellation occurs when the taxpayer is insolvent. Id. at 2 (citing 26 U.S.C. § 108(a)(1)(B)). Yet, the amount of excludable income “shall not exceed the amount by which the taxpayer is insolvent.” Id. The term “insolvent” is defined by 26 U.S.C. § 108(d)(3) as “the excess of liabilities over the fair market value of assets.” Id.
The issues in this case are whether Schieber’s interest in a California Public Employees’ Retirement System (CalPERS) defined benefit pension plan is considered an asset when determining (1) whether the petitioners were insolvent on the date the debt was cancelled, and (2) the amount of their insolvency.
Case Description
26 U.S.C. § 108(d)(3) provides that a taxpayer is insolvent if, immediately before the cancellation of debt, the taxpayer’s liabilities exceeded the fair market value of the taxpayer’s assets. Id. at 4. An asset that is exempt from creditors can still be an asset under 26 U.S.C. § 108(d)(3) because even an asset exempt from creditors can give the taxpayer “the ability to pay an immediate tax on income” from the canceled debt, but not if the asset can only pay the tax gradually over time. Id. at 5 (quoting Carlson v. Commissioner, 116 T.C. 87 (2001)).
The petitioners were unable to use their interest in the pension plan to immediately pay a tax liability because they were entitled only to monthly payments under the plan and could not convert their interest in the plan into a lump-sum cash amount, sell the interest, assign the interest, borrow against the interest, or borrow from the plan. Id. at 5. Therefore, the petitioners’ interest in the pension plan cannot be used to immediately pay the income tax on canceled-debt income, the interest in the pension plan is not an asset within the meaning of section 108(d)(3). Id.
Conclusion
The test for determining whether an interest in a defined benefit plan is an asset for the purposes of section 108(d)(3), is whether or not it gives the taxpayer the ability to pay an “immediate tax on income” from the canceled debt. The court found that the petitioners’ CalPERS defined benefit plan could not be used to immediately pay the income tax on canceled-debt income, and was, therefore, not an asset within the meaning of section 108(d)(3).