Supreme Court Decision Ends Practice of Applying Section 1146(a)'s Exemption for Stamp and Transfer Taxes to Pre-Confirmation Asset Sales

One of the "practical realities" of Chapter 11 proceedings is that asset sales often occur before the plan confirmation process begins. Many participants in the distressed debt market seek to capitalize on pre-confirmation asset sales. Although there are many factors driving value in such opportunities, one benefit has been that some courts (depending on the jurisdiction) find such sales exempt from stamp and similar transfer taxes pursuant to Section 1146(a) (which was Section 1146(c) before BAPCPA was enacted in 2005) of the Bankruptcy Code.

On June 16, 2008, the U.S. Supreme Court changed this reality when it held "that § 1146(a)'s stamp-tax exemption does not apply to transfers made before a plan is confirmed under Chapter 11". Florida Dep't of Rev. v. Piccadilly Cafeterias, Inc., 554 U.S. ___ (2008) (Thomas, J.) (slip op., at 1). In this 7-2 decision, the Supreme Court resolved a split among the U.S. Courts of Appeal for the Third, Fourth and Eleventh Circuits and gave Florida the ability to collect $39,200 in stamp taxes from Piccadilly. See In re Hechinger Inv. Co. of Del., 335 F.3d 243 (CA3 2003) and In re NVR, LP, 189 F.3d 442 (CA 4 1999) (each holding that Section 1146(a) does not apply to transactions that occur prior to confirmation of a plan) and compare In re Piccadilly Cafeterias, Inc., 484 F.3d 1299 (CA 11 2007) (holding that its reading better accounted for "the practical realities of Chapter 11 reorganization cases").

Section 1146(a) provides: "The issuance, transfer, or exchange of a security, or the making or delivery of an instrument of transfer under a plan confirmed under section 1129 of this title, may not be taxed under any law imposing a stamp tax or similar tax." 11 U.S.C. § 1146(a). The opinion delves into a textual analysis of whether or not the statute is ambiguous and goes on into canons of statutory construction. We'll not repeat here the opposing arguments and analysis of what the word "under" means or whether the phrase "under a plan confirmed" means "under a plan that has been confirmed". The question of interpretation centers on whether or not the statute should be read to include a temporal limitation. The majority concluded that there is a limitation, i.e., the tax exemption applies only to post-confirmation transfers. In his dissenting opinion, Justice Breyer chides the majority for not considering "Why would Congress have insisted upon temporal limits?" Piccadilly, 554 U.S. ___ (2008) (dissenting op., at 4) (emphasis in original).

The Supreme Court also was persuaded by Florida's invocation of the substantive federalism canon that "courts should 'proceed carefully when asked to recognize an exemption from state taxation that Congress has not clearly expressed.'" Id. (slip op., at 14) (quoting California State Bd. of Equalization v. Sierra Summit, Inc., 490 U.S. 844, 851-52 (1989)). The Court determined that it was obliged under that canon to construe Section 1146(a)'s exemption narrowly. Incisively, Justice Breyer rejoins: "But when, as here, we interpret a provision the express point of which is to exempt some category of state taxation, how can the statement in Sierra Summit prove determinative?" Id. (dissenting op., at 3) (emphasis in original).

In siding with Florida's interpretation, Justice Thomas and the majority found "no absurdity" in their reading of the statute, which set a "bright-line rule". Id. (slip op., at 18). The decision succinctly closed by stated: "The most natural reading of § 1146(a)'s text, the provision's placement within the Code, and applicable substantive canons all lead to the same conclusion: Section 1146(a) affords a stamp-tax exemption only to transfers made pursuant to a Chapter 11 plan that has been confirmed." Id. (slip op., at 19).

At the end of its analysis, just before concluding, the Court addressed the "practical realities" of Chapter 11: "Lastly, to the extent the 'practical realities' of Chapter 11 reorganizations are increasingly rendering postconfirmation transfers a thing of the past, it is incumbent upon the Legislature, and not the Judiciary, to determine whether § 1146(a) is in need of revision." Id. (slip op., at 19) (internal citations omitted).

While the market for distressed assets waits for Congress to act, market participants will do well to note this important development as they price their next deal.