On February 25, 2020, in Rodriguez v. FDIC,1 the US Supreme Court unanimously rejected the application of the so-called “Bob Richards” rule, a judicial doctrine that was developed in the context of a bankruptcy case almost 60 years ago concerning ownership of tax refunds secured by the parent corporate entity on behalf of a bankrupt subsidiary included in a consolidated group tax return. By doing so, the Supreme Court has placed a premium on tax sharing agreements (“TSAs”) for consolidated groups that want certainty as to which of their members are to benefit from such refunds.
The Supreme Court decision has significant implications for members of a consolidated group that are not all in bankruptcy or where the chapter 11 debtors in the consolidated group are not substantively consolidated regarding the entitlement of such members to consolidated group tax refunds (often one of the more valuable sources of recovery for bankrupt companies and their creditors). Tax refunds are often one of the more valuable sources of recovery for bankrupt companies and their creditors, so companies that are members of a consolidated group that have filed or may file for bankruptcy (and their creditors) should consider the impact of the Rodriguez case to their circumstances. Consolidated groups that are not contemplating a bankruptcy filing may want to consider the benefits of an explicit TSA addressing the entitlement to refunds in the event one or more of the members may find themselves in bankruptcy due to unanticipated circumstances.
The Bob Richards rule stemmed from the Ninth Circuit’s decision in In Re Bob Richards Chrysler-Plymouth Corp.2 In that case, the bankruptcy estate of a subsidiary demanded a tax refund received by the parent of the consolidated group in a situation where the group did not have a TSA in place. The consolidated group return showed the group was entitled to a refund entirely resulting from losses generated by the bankrupt member. The corporate parent was an unsecured creditor of the bankrupt member and claimed as set off the tax refund against that obligation.
The Ninth Circuit found that “the only reason for the tax refunds not being paid directly to the subsidiary is because income tax regulations require that the parent act as the sole agent, when duly authorized by the subsidiary.” The court further noted that the Treasury regulations are basically procedural in nature for convenience purposes and that the “Internal Revenue Service is not concerned with the subsequent disposition of tax refunds and none of its regulations can be construed to govern the issue.”
It was against this backdrop that the Ninth Circuit’s Bob Richards rule developed: “Since there is no express or implied argument that the agent [corporate parent] had any right to keep the refund” the parent was holding the money in trust for the bankrupt subsidiary member and was under a duty to return the refund to the estate of the bankrupt subsidiary. The Ninth Circuit noted where there is an explicit agreement or an agreement that can be implied, the parties under state law, the parties are “free to adjust among themselves the ultimate tax liability.” The Court noted, however, that “the parties had made no agreement concerning the ultimate disposition of the tax refund,” and as a result, the bankrupt subsidiary was entitled to return of the entire tax refund.
The Ninth Circuit’s presumption that, in the absence of a TSA, a group member should be entitled to the tax benefits it creates was upheld in several cases for the benefit of both subsidiaries and parent companies (generally in favor of the party subject to a bankruptcy proceeding presided over by the court issuing the decision). Although the Bob Richards rule was not universally followed,3 some courts expanded its initial reasoning and applied the Bob Richards rule even where a TSA was in place unless the TSA “unambiguously” prescribed a different result.4
Rodriguez v. FDIC
The Rodriguez case recently decided by the Supreme Court involved a $4 million tax refund received by United Western Bancorp, Inc. (“Parent”), as parent of a consolidated group which included a subsidiary, United Western Bank (“UWB”), that was under FDIC receivership. Shortly after UWB was taken over by the FDIC, Parent was forced into bankruptcy under the direction of trustee, Simon Rodriguez. Each of Parent and UWB claimed the right to the refund, and although the parties did have a TSA in place, the Tenth Circuit Court of Appeal awarded the refund to the FDIC for the benefit of the bankrupt subsidiary.5 To do so, the Tenth Circuit applied an expansive view of the Bob Richards rule described above, applying the Bob Richards rule on the basis that there was no TSA that “unambiguously” deviated from this doctrine.
While the Supreme Court reversed the Court of Appeal’s decision, it did not decide which party was entitled to the tax refund. Rather, it vacated the Tenth Circuit’s decision and remanded the case back to the Tenth Circuit for further consideration to determine which party was entitled to the tax refund under applicable state law and Treasury regulations. In doing so, the Supreme Court sounded a cautionary warning that the application of the Bob Richards rule over time had evolved into an illegitimate exercise of federal common lawmaking and an unnecessary bypass of applicable state law.
What it Means
Although the case may have broader implications regarding the scope of federal judicial authority that are beyond the scope of this alert, the Rodriguez case has significant implications for members of consolidated groups filing for bankruptcy, where not all members file jointly. In light of the elimination of the Bob Richards rule, members of a consolidated group should consider:
- Whether a TSA or informal arrangement exists and how refunds would be apportioned between members under this agreement;
- Where a TSA exists, where a claim for payment under the TSA may rank in priority waterfall relative to other claims against a debtor;
- The impact of applicable state law and Treasury regulations on the interpretation of a TSA or on the entitlement of consolidated group members to tax refunds in the absence of a TSA;6
- Whether elimination of the Bob Richards rule might impact a consolidated group member’s expectation of recovery; and
- Whether to seek to substantively consolidate the bankruptcy estates of consolidated group members.
Moreover, even where a bankruptcy filing is not contemplated, consolidated groups generally should examine whether to implement a TSA that provides clear rules regarding the entitlement to tax refunds in addition to the payment among members for the use of tax attributes. Moreover, consolidated groups that have historically relied upon an informal practice regarding the use of tax attributes and entitlement to refunds should consider formalizing their practice in written and unambiguous formal agreements.
1 Rodriguez v. Fed. Deposit Ins. Corp., No. 18-1269 (US, Feb. 25, 2020).
2 See W. Dealer Management Inc. v. England (In Re Bob Richards Chrysler-Plymouth Corp.), 473 F.2d 262 (9th Cir. 1973).
3 See, e.g., FDIC v. AmFin Financial Corp., 757 F.3d 530 (6th Cir. 2014); Imperial Capital Bancorp, Inc. v. Fed. Deposit Ins. Corp. (In re Imperial Capital Bancorp, Inc.), 492 B.R. 25 (S.D. Cal. 2013); Cohen v. Sav. Bldg. & Loan Co. (In re Bevill, Bresler & Schulman Asset Mgmt. Corp.), 896 F.2d 54 (3d Cir. 1990).
4 See, e.g., Zucker v. FDIC (In re BankUnited Fin. Corp.), 727 F3d 1100 (11th Cir. 2013); Cohen v. Un-Ltd. Holdings, Inc. (In re Nelco Ltd.), 264 B.R. 790 (Bankr. E.D. Va. 1999).
5 In re United Western Bancorp, Inc., 914 F.3d 1262 (10th Cir. 2019).
6 We note that, although the Rodriguez opinion includes the interaction of applicable state law and Treasury regulations within the scope of the factors to be considered on remand, the Treasury regulations ultimately provide little guidance as to the entitlement of individual consolidated group members to tax refunds, a fact that was highlighted in the opinion. However, the Tenth Circuit’s ultimate decision on remand may have broader implications on this point if the court determines that the Treasury regulations do, in fact, provide meaningful guidance in this context.
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