§ 125.6     Failure to Deduct or Remit
Cite as:    Keith M. Lundin, Lundin On Chapter 13, § 125.6, at ¶ ____, LundinOnChapter13.com (last visited __________).
[1]

Employers occasionally violate income deduction orders either by failing to deduct from the debtor’s paycheck or by failing to remit to the trustee. Usually, the lapse is innocent, and a phone call or letter from the trustee or debtor’s counsel straightens out the problem.

[2]

The problem comes to everyone’s attention when payments to creditors are not made because the trustee does not have funds and a motion to dismiss or convert or for relief from the stay is filed by a creditor or by the trustee. The debtor responds that the employer has failed to comply with the income deduction order. If the employer made deductions from the debtor’s wages and did not remit to the trustee, then the problem is easily remedied when the employer pays over the accumulated deductions.

[3]

If the employer failed to deduct from the debtor’s wages and the debtor has enjoyed full salary without funding the plan, it will be more difficult to convince the court that the debtor is an innocent victim. The debtor would know that deductions were not being made and should have corrected the situation by calling it to the employer’s attention or contacting counsel. And during the interim, the debtor should have known to make payments directly to the trustee until the problem was corrected. The best hedge against this situation is careful instructions at the beginning of the case so the debtor understands the responsibility to pay the trustee unless and until the deduction order starts working.

[4]

When the employer has deducted from the debtor’s wages but failed to pay the trustee and the problem is not resolved immediately by payment of all accumulated funds to the trustee, the debtor must consider filing a motion for contempt of the income deduction order. The employer should be given every reasonable opportunity to quickly pay all amounts that have been deducted from the debtor’s income, but the money involved belongs to the estate and no delay by the employer should be tolerated. Stubborn or foolish employers face the full range of contempt remedies, including incarceration.1 Egregious employer misconduct should be referred to the U.S. attorney to determine whether a bankruptcy crime has been committed.2

[5]

Employers can face jeopardy for even an innocent failure to comply with an income deduction order. Although there are no reported decisions, it has been related that some courts consider the employer and the debtor to be jointly responsible for the deficiency when the employer fails to make deductions from the debtor’s paycheck. Payment by the employer of the missed deductions may be necessary to avoid contempt of the income deduction order.

[6]

In cases funded by a direct-pay order to the debtor,3 the debtor’s failure to make payments is typically remedied by a motion for relief from the stay, to dismiss, or to convert. The debtor could be called before the court for failure to comply with the direct-pay order by motion for contempt; but creditors and the trustee are usually more interested in an end to the case than in sanctions against the debtor. If the debtor willfully failed to comply with the direct-pay order—if the debtor had sufficient income but purposefully defaulted in payments under the plan—the willful failure might be used to preclude a subsequent bankruptcy filing within 180 days under § 109(g)(1).4

[7]

Because the failure of an employer to comply with an income deduction order usually comes before the court as the debtor’s defense to a motion to dismiss or convert or for relief from the stay, the debtor has the burden to prove that default was caused by the employer. The debtor may have to subpoena the employer to appear at the hearing. The debtor’s testimony that “they haven’t been taking the money out of my paycheck” is not particularly satisfying because the debtor shares responsibility with the employer to see that payments are made into the plan. The debtor’s pay stubs showing deductions, coupled with the trustee’s records that the employer has not remitted to the trustee, are good evidence that the employer is at fault.

[8]

Notice to the employer can be a problem. Especially when the proceeding begins as a motion to dismiss or convert, the employer is not a party with notice of the motion. Debtor’s counsel may have to file a separate motion to hold the employer in contempt and ask that the contempt proceeding be heard simultaneously with the hearing on the motion to dismiss or convert.

[9]

A debtor’s action against an employer for failing to remit pursuant to an income deduction order is probably governed by Bankruptcy Rule 9020. This rule, and the extent of the bankruptcy court’s power to punish civil or criminal contempt, have been the subject of much litigation.5 For this discussion, it is enough to say that the debtor might label its motion as an action for “sanctions” and as an action for “civil contempt” when the remedy sought is to force an employer to pay over income deducted from the debtor’s wages.

[10]

An action for contempt against an employer for failing to remit funds pursuant to an income deduction order can become a time-consuming, complicated process. Bankruptcy Rule 9020(b) requires written notice to the employer, stating “the essential facts constituting the contempt charged . . . and [stating] the time and place of hearing, allowing a reasonable time for the preparation of the defense.”6 Bankruptcy Rule 9020(c) contemplates that an order of contempt is not effective for 10 days after service, during which time the responding employer has the right to serve objections to the order for contempt consistent with Bankruptcy Rule 9033(b).7 Fortunately, most such actions are quickly resolved by the employer’s paying over the money it deducted from the debtor’s wages. It has been reported anecdotally that, in egregious cases, employers have been ordered to pay off Chapter 13 cases in full when a substantial default developed because of an employer’s failure to respect an income deduction order.

[11]

In one of the few reported cases discussing the liability of an employer for failing to remit in a Chapter 13 case, the debtor scored a pyrrhic victory but the case is instructive. In In re Stebbins,8 the debtor’s employer, Bison Blow Pipe, Inc., withheld the sum required by the bankruptcy court’s income deduction order. However, Bison did not consistently remit to the trustee. After several months of partial payment or no payment, the trustee moved to dismiss the Chapter 13 case. About that time, Bison went out of business having deducted more than $1,000 that was not remitted to the trustee.

[12]

The bankruptcy court found Bison in contempt and awarded damages, including attorney fees. Because Bison was out of business, the bankruptcy court acknowledged that the contempt judgment was not worth much. With respect to the real issue—whether the owners of the corporation were individually liable for Bison’s failure to remit—the bankruptcy court found “no showing has been made that [the owners] acted affirmatively to cause or facilitate a violation of the wage order.”9

[13]

On truly outrageous facts, one bankruptcy court found cause for relief from the stay that the debtor defaulted in payments to the Chapter 13 trustee because the debtor’s employer deducted pursuant to an income deduction order but failed to remit to the trustee. In In re Hyde,10 the first payment pursuant to the payroll order was due on February 21, 1998, but the employer made no payment until April 17, 1998, after a motion for relief from the stay was filed. The court assigned responsibility for this default to the debtor and the employer, explaining the unusual situation as follows:

[T]he failure to remit the payments is not only the fault of the debtor, it is evidence of delay and bad faith. In this instance, the employer who was withholding the funds but not remitting them is debtor’s own counsel. It is scandalous that counsel, who has a substantial bankruptcy practice, not only failed to comply with the Order requiring transmission of the payments to the chapter 13 trustee, but held the funds deducted from the debtor’s paycheck. This was not only a breach of an obligation to the Court and to the employee, it was also a breach of obligations to a client. Moreover, the debtor cannot be held blameless as he is the paralegal in counsel’s office.11

 

1  See, e.g., In re Stebbins, 293 B.R. 113 (Bankr. W.D.N.Y. 2003) (Failure of corporate employer to remit money deducted from debtor’s paycheck renders corporation liable for contempt, including attorney fees.).

 

2  An intentional failure to remit income deducted from a Chapter 13 debtor’s wages might constitute a violation of the first or fifth subparagraphs of 18 U.S.C. § 152.

 

3  See § 250.1 [ Direct-Pay Orders ] § 125.3  Direct-Pay Orders.

 

4  See § 22.1 [ 11 U.S.C. § 109(g)(1)—Willful Failure to Abide by Court Order or to Appear in Proper Prosecution ] § 25.2  11 U.S.C. § 109(g)(1)—Willful Failure to Abide by Court Order or to Appear in Proper Prosecution.

 

5  See, e.g., Budget Serv. Co. v. Better Homes of Va., Inc., 804 F.2d 289 (4th Cir. 1986); In re Magwood, 785 F.2d 1077 (D.C. Cir. 1986); In re Advanced Prof. Home Health Care, Inc., 94 B.R. 95 (E.D. Mich. 1988); In re Crabtree, 47 B.R. 150 (Bankr. E.D. Tenn. 1985).

 

6  Fed. R. Bankr. P. 9020(b).

 

7  Fed. R. Bankr. P. 9020(c).

 

8  293 B.R. 113 (Bankr. W.D.N.Y. 2003).

 

9  293 B.R. at 115.

 

10  227 B.R. 170 (Bankr. W.D. Ark. 1998).

 

11  227 B.R. at 172.