Damages awarded to taxpayers for IRS violation of bankruptcy stay

Sovereign immunity is not a protection, a bankruptcy court holds.
By Charles J. Reichert, CPA

The Bankruptcy Court for the District of Oregon awarded a married couple damages for emotional distress plus attorneys' fees due to the IRS's violation of an automatic stay of collection activities after the couple filed for protection under the Bankruptcy Code. According to the court, sovereign immunity did not protect the government from liability for the damages.

Facts: On Nov. 5, 2012, Jonathan and Cheryl Hunsaker filed a petition for relief under the Bankruptcy Code. By law, the filing automatically stopped collection efforts by their creditors, which included the IRS, to which they owed $9,301. After filing the petition, the couple made all payments required under the bankruptcy plan. From Dec. 12, 2013, to Dec. 8, 2014, the Hunsakers received four notices from the IRS that included demands for payment, two of which were notices to levy on Jonathan Hunsaker's Social Security benefits.

The taxpayers notified their attorney, who told them any collection efforts by the IRS were illegal. The attorney twice wrote to the IRS, stating the Hunsakers were in bankruptcy and requesting that the Service stop its collection efforts. All of the notices created stress for the Hunsakers, but the notices to levy on the Social Security benefits caused greater stress, because that income was crucial for the couple to make their required bankruptcy plan payments. The couple petitioned the Bankruptcy Court for damages from the IRS due to its violations of the automatic stay.

Issues: A debtor injured by a willful violation of the automatic bankruptcy stay may recover damages including court costs and attorneys' fees and may in certain cases receive punitive damages. Damages for emotional distress from a creditor's violating the automatic stay provisions have been allowed if the debtor can clearly establish he or she suffered significant harm and can demonstrate a causal connection between the violation and the harm (Dawson v. Washington Mutual Bank, 390 F.2d 1139 (9th Cir. 2004)).

While the doctrine of sovereign immunity often protects the federal government from litigation, federal law (11 U.S.C. §106) waives sovereign immunity for awards of compensatory damages (except punitive damages) related to violations of the automatic stay provisions of bankruptcy laws. The IRS admitted it had violated the automatic stay provisions but argued it was not liable for damages for emotional distress because the provisions that waive sovereign immunity do not specifically allow for the award of damages for emotional distress.

Holding: The Bankruptcy Court awarded the Hunsakers damages of $4,000 plus reasonable attorneys' fees. The court stated that excluding any type of damages because they are not specifically listed in the sovereign immunity waiver rules would enable "the government to escape liability for any form of damages." The court also held that the taxpayers satisfied the tests of Dawson because (1) the IRS violated the automatic stay, (2) a reasonable person would suffer significant emotional harm from such a violation, and (3) the Hunsakers sustained significant emotional damages due to the additional stress caused by the IRS's violating the stay.

  • Hunsaker, No. 14-06218 (Bankr. D. Or. 1/13/16)

—By Charles J. Reichert, CPA, instructor of accounting, University of Minnesota—Duluth.

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