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Section 503(b)(l)(B)(i) of the Bankruptcy Code provides that "any tax incurred by the estate ... except a tax of a kind specified" in § 508(a)(8) is an administrative claim. Section 507(a)(8),1 in turn, lists several kinds of taxes that are entitled to priority (but not administrative) status. Most salient here, § 507(a)(8)(A) includes taxes "on or measured by income or gross receipts for any taxable year ending on or before" the petition date.2
When a company files for bankruptcy, its tax year generally does not end.3 As a result, the filing year is a so-called "straddle" tax year: A portion of the tax year is pre-petition and a portion is postpetition, with the combined result leading to a single tax obligation for the year. This raises a question of claim classification: To what extent should "straddle" taxes be treated as "administrative" claims under § 503(b), or as pre-petition claims (potentially entitled to priority under § 507(a)(8))? The prevailing view since the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA) has been that such taxes are entirely administrative, but a recent decision from the U.S. Bankruptcy Court for the District of Delaware has thrown that view into doubt.
Why Does This Distinction Matter?
Before addressing the proper classification of straddle taxes, it is worth addressing the threshold inquiry of whether the answer matters. A company seeking bankruptcy protection is generally (although not always) unprofitable, at least after interest expense is taken into account. Is that company actually going to owe tax for the "straddle" year? The short answer is "yes, they may."
First, even unprofitable companies often owe state income and gross receipts taxes. While federal income tax calculations typically look at the aggregate income or loss of a corporate consolidated group, several states apply methodologies that do not permit this kind of consolidated reporting. As a result, losses or interest deductions in one part of the company might be unable to offset profits in another part of the company, which can lead to state income tax liability. There may also be other state limitations on deductions that reduce or eliminate federal income tax exposure.
Second, changes to the federal income tax laws in 2017 imposed significant limitations on the ability of financially distressed...