PT 1 Communications Inc

UNITED STATES BANKRUPTCY COURT
EASTERN DISTRICT OF NEW YORK
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In re:
PT-1 COMMUNICATIONS, INC.; 	Case Nos. 01-12655-CEC
PT-1 LONG DISTANCE, INC.; and 	01-12658-CEC
PT-1 TECHNOLOGIES, INC., 	01-12660-CEC
Debtors. 	Chapter 11
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DECISION
Appearances:
Laurence May, Esq.
Cole, Schotz, Meisel, Forman & Leonard, P.A.
460 Park Avenue
New York, New York 10022
Attorney for Edward P. Bond, Liquidating
Trustee of the Liquidating Trust U/A/W PT-1
Communications, Inc., PT-1 Long Distance,
Inc., and PT-1 Technologies, Inc.
Thomas P. Cole, Esq.
United States Department of Justice
Tax Division
P.O. Box 55
Ben Franklin Station
Washington, D.C. 20044
Attorney for the Internal Revenue Service
CARLA E. CRAIG
Chief United States Bankruptcy Judge
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This matter comes before the Court on the motion of the Liquidating Trustee (the
"Trustee") of the Liquidating Trust U/A/W PT-1 Communications, Inc., PT-1 Long Distance,
Inc., and PT-1 Technologies, Inc. for summary judgment expunging the request for
administrative payment of the Internal Revenue Service ("IRS"). The IRS’s current request
seeks taxes, interest and penalties for the period of March 9, 2001 through December 31, 2001
(the "Short Period") and for the tax year ending December 31, 2002 (the “2002 tax year”). The
Trustee also seeks summary judgment on his counterclaim for declaratory relief authorizing PT-
1 to file a tax return for the period of January 1, 2001- March 8, 2001 (the "Stub Period") and
seeking various tax refunds.
This decision addresses the Trustee's objection to the IRS's request for the Short Period
and his counterclaims for declaratory relief and tax refunds. This Court previously granted the
Trustee's motion regarding the portion of the IRS's request relating to the 2002 tax year. For the
reasons set forth below, the Trustee's motion for summary judgment is granted in part and denied
in part.
Jurisdiction
This Court has jurisdiction over this core proceeding pursuant to 28 U.S.C. §§ 157 and
1334, 11 U.S.C. § 1142, and the Eastern District of New York standing order of reference dated
August 28, 1986. This decision constitutes the Court's findings of fact and conclusions of law to
the extent required by Federal Rule of Bankruptcy Procedure ("Bankruptcy Rule") 7052.
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1 "Tr." refers to the transcript of the hearing held on October 11, 2006.
Facts
The following facts are not in dispute.
In February 1999, a merger took place whereby the shareholders of PT-1
Communications, Inc. (collectively with its subsidiaries, "PT-1" or the "debtors") sold their
common stock to STAR Telecommunications ("STAR"), making PT-1 a wholly owned
subsidiary of STAR. Affidavit of Laurence May in Supp. of Mot. For Summ. J. ("May
Affidavit") ¶ 12. PT-1 was consolidated with STAR and other affiliated corporations for tax
reporting purposes and could not file any tax returns on its own behalf. Id.
STAR was indebted to WorldCom Communications Corp. ("WorldCom"). Id. ¶ 15. PT-
1 guaranteed STAR's obligations, which was secured by certain of PT-1's assets. Id. STAR also
pledged its stock interest in PT-1 to WorldCom and granted WorldCom the right to vote STAR's
shares in PT-1 to elect a new board of directors in the event STAR defaults on its obligations.
Id. STAR defaulted on its obligations and WorldCom exercised its right to vote STAR's PT-1
shares to elect a new board of directors, but the shares were not transferred from STAR to
WorldCom. Id. ¶ 16.
On March 9, 2001, immediately after PT-1's new board was elected, these bankruptcy
cases were commenced by the filing of voluntary petitions for relief under Chapter 11. Tr.1 at
20. No chapter 11 trustee was ever appointed. PT-1, as debtors and debtors in possession,
continued in possession of their assets and in the management of their businesses until the
debtors’ Second Amended Joint Plan of Reorganization dated as of August 31, 2004 ("Plan")
was confirmed on November 23, 2004. At that time, as provided in Article 5 of the Plan, certain
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of the debtors' assets were transferred to the Liquidating Trust to be distributed in accordance
with the Plan, and certain of the debtors' rights and powers were also transferred to the
Liquidating Trust.
On or about March 15, 2002, STAR filed a request with the IRS for an extension of time
to file a consolidated federal tax return for itself and its subsidiaries, including PT-1. See May
Affidavit ¶ 19, Exhibit B. Pursuant to the extension, the tax return for the group was due by
September 16, 2002. PT-1 concluded that it would not have any tax liability for 2001 because,
although PT-1 had taxable income, the substantial losses of STAR and other subsidiaries would
offset PT-1's taxable income. Id. ¶ 20. However, a few days before the consolidated tax return
was due, STAR informed PT-1 that PT-1 would not be included in the consolidated tax return.
Id. ¶ 21. STAR's purported reason for refusing to include PT-1 in its consolidated return was
that it did not control PT-1, even though STAR owned PT-1's shares. Id. STAR contended that
WorldCom should include PT-1 on its tax return because WorldCom had controlled PT-1 ever
since PT-1's new board of directors was elected. Id.; Tr. at 22. However, WorldCom took the
position that PT-1 belonged on STAR's consolidated tax return. Id. at 23. With both companies
refusing to include PT-1 on their respective consolidated tax returns, PT-1 filed its own tax
return for the Short Period, paying approximately $6.7 million in taxes and $200,000.00 in
interest. May Affidavit ¶ 23. Subsequently, STAR filed for bankruptcy, never filed a
consolidated tax return for 2001, and was liquidated. Obj. to Proof of Claim ¶ 16.
On February 6, 2004, the IRS filed a request for an administrative expense payment
seeking $2,064.860.08 in penalties and interest for the Short Period. On August 13, 2004, the
IRS filed an amended request for $9,254,525.00, representing interest and penalties for the Short
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Period. On March 14, 2005, the Trustee filed a motion to expunge the IRS's request for an
administrative expense payment. The Trustee also sought a declaration that PT-1 was permitted
to file a tax return for the Stub Period and carry forward and carry back net operating losses
against the taxable income for the Short Period, in addition to the following monetary relief: (1)
an income tax refund in the amount of $1.4 million for taxes paid for the tax year ending June
30, 1998, plus interest; (2) damages in the full amount of the taxes paid in September 2002, plus
interest; and (3) damages in the full amount of the tax refund allegedly due PT-1 for the tax year
ending 2002, plus interest.
On March 18, 2005, the IRS filed another amended request seeking, in part, the amount
of $453,125.00 for taxes for the Short Period, with $113,281.25 in penalties and $76,892.74 in
interest thereon, and an additional request for $168,971.06 for penalties for the Short Period and
$609,652.00 in interest thereon. On August 1, 2006, the IRS filed yet another amended request
seeking, in part, taxes for the Short Period, with interest but no penalties, totaling $581,040.00,
relating to the IRS's disallowance of loss carry-forwards from the STAR consolidated tax return
for the year 2000, and penalties of $260,297.25 for PT-1's failure to timely pay its taxes and
failure to pay estimated taxes for the Short Period, with $209,789.29 in interest thereon. See
Mem. In Opp. To Mot. For Summ. J. ¶¶ 10,11. The IRS's request does not contain a breakdown
showing how much of the penalties and interest request is for PT-1's failure to timely pay taxes
and how much is for PT-1's failure to pay estimated taxes. Tr. at 49. The IRS waived its
previous request for penalties for PT-1's failure to timely file a tax return. That same day, the
Trustee filed his motion for summary judgment.
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Standard for Summary Judgment
Summary judgment is appropriate when "there is no genuine issue as to any material fact
and that the moving party is entitled to judgment as a matter of law." Fed. R. Bankr. P. 7056(c);
Celotex Corp. v. Catrett, 477 U.S. 317, 322, 106 S. Ct. 2548, 91 L. Ed. 2d 265 (1986). The
court's function is not to resolve disputed issues of fact, but only to determine whether there is a
genuine issue of material fact to be tried. Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 249,
106 S. Ct. 2505, 91 L. Ed. 2d 202 (1986). A fact is considered material if it "might affect the
outcome of the suit under the governing law." Id. at 248. No genuine issue exists "unless there
is sufficient evidence favoring the nonmoving party for a jury to return a verdict for that party.
If the evidence is merely colorable, or is not significantly probative, summary judgment may be
granted." Id. at 249-50 (internal citation omitted). On the other hand, if "there is any evidence
in the record from any source from which a reasonable inference could be drawn in favor of the
nonmoving party, summary judgment is improper." Chambers v. TRM Copy Ctrs. Corp., 43
F.3d 29, 37 (2d Cir. 1994) (citation omitted). "The non-moving party must show that there is
more than a metaphysical doubt regarding the material fact and my not rely solely on self-
serving conclusory statements." In re Jarrell, 251 B.R. 448, 450-451 (Bankr. S.D.N.Y. 2000).
Discussion
I. 	Objection to Claim
A. 	Burden of Proof
The Trustee argues that the IRS bears the burden to prove its entitlement to the
administrative expense claims. The IRS argues that its request for administrative payment is
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prima facie evidence of the validity of the request's amount and therefore, the Trustee bears the
burden of proof.
Section 503(b) of the Bankruptcy Code provides that "after notice and a hearing" taxes
incurred by the estate are "allowed" as administrative expenses. 11 U.S.C. § 503(b). Since
"grants of administrative expense priority cut against the general goal in bankruptcy law to
distribute limited debtor assets equally among similarly situated creditors," it has been held that
"the party seeking administrative expense status bears the burden of establishing its entitlement
to that status." In re Adelphia Bus. Solutions, Inc., 296 B.R. 656, 662 (Bankr. S.D.N.Y. 2003).
Although bankruptcy Rule 3001(f) provides that a filed proof of claim constitutes prima facie
evidence of the validity and amount of the claim, courts have held that requests for
administrative expense payment are not given the same evidentiary weight as proofs of claim.
Fed. R. Bankr. P. 3001(f); See, e.g., In re Silvus, 329 B.R. 193, 205 (Bankr. E.D. Va. 2005); In
re Morgan, 48 B.R. 148, 149 (Bankr. D. Md. 1985); See also 4 Collier on Bankruptcy ¶
503.02[2] (Alan N. Resnick & Henry J. Sommer eds. 15th ed. rev.) ("The 'notice and hearing'
requirement for allowance of administrative expenses is in contrast to the 'deemed' allowance
provision of section 502(a) respecting proofs of claim. The phrase 'after notice and a hearing' . . .
contemplates at least some form of court approval before allowance of any administrative
payment from the estate . . . . ").
Here, the burden of proof is not an issue because the material facts underlying the issues
are undisputed and only questions of law remain.
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B. 	Penalties for Failing to Timely File and Timely Pay
The Trustee argues that the penalties and interest relating to PT-1's failure to timely file a
tax return and to timely pay taxes should be expunged because the failure was due to reasonable
cause and not willful neglect. The IRS contends that PT-1's objection to the late filing penalty is
moot because its most current request for payment of administrative expenses does not include a
late filing penalty. The IRS further contends that, even though the extension request rendered
the late filing penalty improper, it does not excuse PT-1's failure to timely pay its taxes.
Pursuant to title 26 of the United States Code (the "Internal Revenue Code"), a
corporation is required to timely pay its taxes. 26 U.S.C. § 11. An affiliated group of
corporations, such as a parent corporation and its subsidiaries, "shall have the privilege of
making a consolidated return . . . in lieu of separate returns." 26 U.S.C. § 1501. If the affiliated
corporations choose to become a consolidated group, they "are treated as a single entity for
income tax purposes as if they were, in fact, one corporation." Official Comm. of Unsecured
Creditors v. PSS Steamship Co. (In re Prudential Lines Inc.), 928 F.2d. 565, 569 (2d Cir. 1991)
(quoting Exxon Corp. v. United States, 785 F.2d 277, 280 (Fed. Cir. 1986)).
If affiliated corporations file a consolidated return, then, pursuant to Treasury Regulation
§ 1.1502-77A, the parent corporation "shall be the sole agent for each subsidiary in the group . . .
in all matters relating to the tax liability for the consolidated return year . . . [and] no subsidiary
shall have authority to act for or to represent itself in any such matter." 26 C.F.R. § 1.1502-77A.
Therefore, an individual member of a consolidated group is not authorized to file its own tax
return or to pay its own tax liability. Furthermore, penalties will be imposed if the consolidated
tax return is not timely filed (determined with regard to any extension of time to file) or if the
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group's liability is not timely paid. 26 U.S.C. § 6651(a); Mendes v. Comm'r, 121 T.C. 308, 320
(T.C. 2003). However, penalties will not be imposed if the failure to timely file a tax return or to
timely pay taxes was due to reasonable cause and not due to willful neglect. 26 U.S.C. §
6651(a). "Caselaw and legislative history indicate that the primary purpose of these penalties is
to ensure compliance." In re Slater Corp., 190 B.R. 695, 699 (Bankr. S.D. Fla. 1995) (citing
U.S. v. Boyle, 469 U.S. 241, 245, 105 S. Ct. 687, 689, 83 L. Ed. 2d. 622 (1985)).
The terms "reasonable cause" and "willful neglect" are not defined by the Internal
Revenue Code. Courts have interpreted reasonable cause to mean that the taxpayer exercised
ordinary business care and prudence, but was unable to file the return or pay the taxes on time.
See Id. at 246; In re Hudson Oil Co., 91 B.R. 932, 948 (Bankr. D. Kan. 1988); See also 26
C.F.R. § 301.6651-1. In the failure to timely pay context, some courts have also considered
whether a taxpayer, using ordinary business care and prudence, would suffer an undue hardship
if the tax was paid on its due date. See Slater, 190 B.R. at 699. A court must take into account
"all of the facts and circumstances of a taxpayer's financial circumstances" to determine whether
a taxpayer exercised ordinary business care and prudence. Merriam v. Comm'r, 70 T.C.M.
(CCH) 627, 1995 WL 522813, at *13 (T.C. 1995). Courts have interpreted willful neglect as a
taxpayer's conscious, intentional failure or reckless indifference to timely file or timely pay.
Slater, 190 B.R. at 699; Hudson Oil, 91 B.R. at 948.
The IRS's current administrative expense payment request waived the penalty for PT-1's
late filing because it acknowledged that the extension request filed by STAR included PT-1. Tr.
at 46-47. Therefore, the question whether reasonable cause existed for PT-1 to file its tax return
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late is moot. However, the IRS continues to request penalties, with interest thereon, for PT-1's
failure to timely pay its taxes. The Trustee's motion to expunge this penalty request is granted.
The material facts are undisputed. PT-1 was a wholly owned subsidiary of STAR and
was part of a consolidated tax group. STAR, as the common parent of the consolidated group,
was charged with the duty of ensuring that the group's liability was timely paid. PT-1 concluded
that it would not have to pay its own taxes because it was included in STAR's extension request
and had been included in STAR's consolidated tax return in the past. 	The IRS argued that,
considering the events that occurred in 2001 (such as WorldCom electing a new board for PT-1
and STAR's bankruptcy filing), PT-1 should have thought about its liability independently. Id. at
51-52. However, the undisputed facts show that PT-1 independently examined its tax liability
and concluded that there would be none. It should be noted that STAR included PT-1 on its
extension request, indicating that PT-1 was part of their consolidated group, after WorldCom
placed a new board of directors in control of PT-1, and that STAR filed for bankruptcy after PT-
1 filed its own return. Therefore, the IRS's contention that PT-1 should have anticipated that it
would be expelled from the group because of those events is without merit. PT-1 clearly
exercised ordinary business care and prudence by relying on STAR's extension request and by
concluding that it would have no independent tax liability. Furthermore, by operation of
Treasury Regulation § 1.1502-77A, PT-1, as a member of the consolidated group, was
unauthorized to take any independent action relating to tax liability for the 2001 year. Therefore,
it is clear from the undisputed facts that the standard of reasonable cause is satisfied and that PT-
1 did not willfully neglect to pay its taxes. Therefore, the Trustee's motion to expunge the IRS's
penalty request for PT-1's failure to timely pay its taxes is granted.
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C. 	Failure to Pay Estimated Taxes
The Trustee argues the IRS's penalty request for PT-1's failure to pay estimated taxes
should be expunged because PT-1 was "incapacitated" from making those payments pursuant to
Treasury Regulation § 1.1502-77A. The IRS argues that there is no reasonable cause exception
to the provision authorizing penalties for the failure to make estimated tax payments.
Internal Revenue Code § 6655 imposes a penalty for a corporation's underpayment of
estimated taxes. 26 U.S.C. § 6655. The required estimated tax payments "are prepayments
towards the income tax which the taxpayer will ultimately owe for the current tax year." In re
Wilkoff, 2001 WL 91624, at * 7, No. 98-3435DWS (Bankr. E.D. Pa. 2001). There is no
reasonable cause exception to the imposition of this penalty. See 26 U.S.C. § 6655.
The Trustee cites Meyer v. Commissioner, 85 T.C.M. (CCH) 760, 2003 WL 118258
(T.C. 2003), in support of his argument that penalties should not be imposed on a taxpayer for
failing to pay estimated taxes if the taxpayer is incapacitated. The Trustee's reliance on Meyer is
misplaced. The Meyer court was deciding, in part, whether a penalty imposed on an individual
taxpayer for failure to pay estimated taxes was appropriate under Internal Revenue Code § 6654.
Meyer, 85 T.C.M. (CCH) 760, 2003 WL 118258, at *4. Here, the IRS's penalty request for PT-
1's failure to pay estimated taxes rests on Internal Revenue Code § 6655. The two sections differ
significantly, though both relate to failure to pay estimated taxes. Section 6654 relates to
individual taxpayers and provides that a penalty should not be imposed when the penalty would
be against equity and good conscience or when the individual taxpayer was disabled. 26 U.S.C.
§ 6654. Section 6655 relates to corporate taxpayers and does not include any exception to the
imposition of the penalty. 26 U.S.C. § 6655. Nevertheless, the Trustee's motion to expunge the
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IRS's request for a penalty based on PT-1's failure to pay estimated taxes is granted because the
IRS's request is untimely.
Bankruptcy Rule 3003(c)(3) provides that a court "shall fix" a bar date by which proofs
of claim in a Chapter 11 case shall be filed. Fed. R. Bankr. P. 3003(c)(3). Although there is no
provision relating to a bar date for requesting an administrative expense payment, courts may set
such a date pursuant to Bankruptcy Code § 105. See In re Reams Broadcasting Corp., 153 B.R.
520, 522 (Bankr. N.D. Ohio 1993). An administrative bar date serves the same purpose as a
claims bar date, which is "finality and debtor rehabilitation." 9 Collier on Bankruptcy ¶
3003.03[4] (Alan N. Resnick & Henry J. Sommer eds., 15th ed. rev.). Allowing requests for
administrative expense payment to be filed at any time would have the same effect as allowing
proofs of claim to be filed at any time, making it "impossible to determine with any finality the
obligations of the debtor." Id. "Generally, courts will allow amendments to proofs of claims in
order 'to cure a defect in the claim as originally filed, to describe the claim with greater
particularity, or to plead a new theory of recovery on the facts set forth on the original claim.'"
Hudson Oil, 91 B.R. at 947 (quoting In re Int'l Horizons, Inc., 751 F.2d 1213, 1216 (11th Cir.
1985)); See also In re G.L. Miller & Co., 45 F.2d 115, 116 (2d Cir. 1930) (amendments are
permitted to "correct defects of form, or to supply greater particularity in the allegations of fact
from which the claim arises, or to make a formal proof of claim based upon facts, which, within
the statutory period, had already been brought to the notice of the trustee by some informal
writing or some pleading in the bankruptcy proceedings"). Similarly, a creditor may amend its
request for an administrative expense payment. See In re Atcall Inc., 284 B.R. 791, 798 (Bankr.
E.D. Va. 2002) ("Proofs of claims are governed by express bar dates and the procedures for
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proofs of claims and requests for payment should be as similar as possible."). However, post-bar
date amendments must be carefully scrutinized to ensure that a new claim is not being filed
"under the guise of an amendment." Hudson Oil, 91 B.R. at 947.
On October 24, 2002, an administrative bar date order was entered. See Docket #411.
The order approved a notice to creditors, which stated, in part: "The Court has fixed December
23, 2002 at 5:00 p.m. as the last date and time by which proofs of Administrative Expenses must
be filed." The notice further stated: "Each holder of a claim who is required, but fails to file a
proof of administrative expense by the administrative bar date, shall be forever barred from
assertion of its administrative expense against the debtors and their property." A certificate of
service was filed with the Court stating that the administrative bar date notice was mailed to
creditors, including the IRS, on October 29, 2002. See Docket #471.
The IRS's current administrative expense request includes a request for payment of a
penalty for PT-1's failure to pay estimated taxes, which was not asserted in any of the IRS's
administrative expense requests previously filed in this case. The Trustee's counsel stated that
no advance notice was given that the IRS sought, or was planning to seek this estimated tax
penalty claim for 2001. See Trustee's Reply Mem. in Sup. of Mot. for Summ. J. at 7. The IRS
admitted that the estimated tax penalty and the failure to timely pay taxes penalty are different
claims. The IRS's counsel stated:
I don't have the breakdown in front of me as to what portion of that penalty claim
[listed on the request for administrative expense payment] related to failure to
pay, and what part of that penalty claim related to failure to pay estimated taxes.
Those two penalties are assessed under different sections . . . .
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2 Although it is true that the IRS's request for payment filed on March 18, 2005, which was filed after the
administrative bar date, requests a payment for "estimated tax," that request is for an estimated amount relating to the
IRS's disallowance of certain net operating losses carried forward by PT-1 during the Short Period, and does not
relate to the failure of PT-1 to pay estimated taxes.
3 Although the Trustee seeks a declaration that PT-1 is permitted to file a tax return for the Stub Period, he
is really requesting that the Court direct the IRS to accept the return. See Tr. at 32.
Tr. at 49. This estimated tax penalty request is a new request by the IRS and is untimely. 2 There
is no reason to excuse the IRS's late request for this penalty because the IRS knew of PT-1's
failure to pay estimated taxes before the bar date passed. Therefore, the Trustee's motion to
expunge the IRS's request for penalties based on PT-1's failure to pay estimated taxes must be
granted because it is a new request and is time barred. See Hudson Oil, 91 B.R. at 947 ("This
Court is compelled to find that the IRS is improperly attempting to file a new claim outside the
bar date under the disguise of an amendment.").
II. 	The Trustee's Counterclaims
The Trustee seeks summary judgment on his counterclaim seeking a declaration that the
IRS is required to accept PT-1's proposed tax return for the Stub Period.3 The Trustee also seeks
summary judgment on his other counterclaims for refunds of taxes paid by PT-1 for the Short
Period and for the tax period that ended June 30, 1998.
The record is insufficient to permit summary judgment to be granted on the Trustee's
counterclaims. The Trustee has not explained why the IRS is legally required to accept the
proposed return for the Stub Period. The IRS contends that the debtors have not complied with
relevant Internal Revenue Code and Treasury Regulation requirements governing how the
debtors might cease to become part of the STAR consolidated group, and therefore are not
entitled to file a separate return. The Trustee has not shown that the debtors have complied with
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those requirements, nor has he cited any authority for why those provisions would be
inapplicable. Nor has the Trustee made any showing supporting his counterclaim that the
debtors are entitled to carry forward the net operating losses in question.
Accordingly, the Trustee's request for summary judgment on his counterclaims is denied,
without prejudice to renewal upon a more complete record.
Conclusion
For the foregoing reasons, the Trustee's summary judgment motion is granted in part and
denied in part. A separate order will issue herewith.
Dated: Brooklyn, New York
March 26, 2007
\s\Carla E. Craig
CARLA E. CRAIG
Chief United States Bankruptcy Judge
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