Charbel S. Joseph was a construction contractor who decided for whatever reasons not to file or pay his federal income taxes due. On September 1, 2023, Joseph filed a petition in the U.S. Bankruptcy Court for the Eastern District of Kentucky seeking Chapter 7 relief. In later filings, Joseph would claim that he had only $21,095 in assets against more than $10 million in debts.
Curious as to the wide discrepancy between the debtor’s assets and liabilities, the U.S. Trustee began to conduct discovery about Joseph’s assets and business activities. The documents that Joseph produced were scanty and seemed to have mostly comprised eight pages of documents and four paper receipts that Joseph had obtained from somebody who had done subcontracting work for him ― although Joseph would later claim this person had “many boxes of business records” but would not produce those documents.
The U.S. Trustee then filed an adversary proceeding against Joseph seeking to deny him a discharge for his failure to fully produce his business records. Discovery was conducted by the U.S. Trustee in this adversary proceeding. Joseph did provide some additional documents to the U.S. Trustee, including pictures of 139 bank checks that he had received, and apparently cashed, totaling a little over $1.4 million. However, it also came out that Joseph did not maintain any bank accounts but instead conducted his business only on a pure cash-only basis and did not maintain anything like a general ledger for his business.
If Joseph did not maintain a general ledger or other records for his construction business, how could he report and pay his taxes? The answer is simple: He did not. In fact, Joseph had not filed any income tax returns since 2007, giving the reason that “his records are not good” and that he was “never getting around to it.” Because of this, Joseph could not explain where the money he earned had gone.
Based on all of this, the U.S. Trustee moved for summary judgment to deny Joseph his discharge, and this lead to the opinion next to be discussed in Randolph v. Joseph (In re Joseph), Bk.E.D.Ky. Case No. 23-51021, Doc. 34 (Oct. 31, 2024).
The Court first noted that Bankruptcy Code § 727(a)(3) requires that a debtor’s discharge be denied if the debtor has failed to keep records of the debtor’s financial condition or business activities. While § 727(a)(3) does not express mention tax returns, numerous court opinions have held that tax returns are among the records that a debtor is required to keep. The Court then commented:
“Debtor’s failure to file personal tax returns for sixteen years (2008 to 2023) is outrageous. This is especially true given Debtor operated a construction business as a sole proprietorship and received significant income from that work. At oral argument, the UST advised no case could be found involving such a lengthy, persistent failure to file tax returns. The Court also could not locate such a case through independent research. The admission that Debtor failed to file federal tax returns for sixteen years constitutes an adequate basis to conclude the UST met its burden under § 727(a)(3), thereby shifting the burden to Debtor to justify the inadequacy of his records.”
But it wasn’t just Joseph’s failure to make and keep tax records that was a problem. Section 727(a)(3) fundamentally requires that a debtor provide enough information for creditors and others involved in the bankruptcy to determine the financial condition of the debtor and his history of financial transactions. Joseph did not have anywhere close to enough records to satisfy this requirement:
“Since at least January 1, 2019, Debtor has not had a bank account, and thus produced no bank records to the UST. Debtor operated only in cash in this period—using check cashing businesses to cash large checks—further resulting in a dearth of financial records. While Debtor provided the UST with images of checks he received in a twenty-month period in 2022 and 2023 totaling $1,421,337, Debtor only provided documentary evidence to the UST to explain $65,426 in disbursements (other than to his spouse) in this period. Debtor thus did not provide records to explain what happened to over $1.3 million in revenue he earned in the twenty months before he filed his bankruptcy petition.”
Joseph did give an affidavit which sort of tried to explain his financial situation, but this wasn’t enough. Such affidavits, which tend to be self-serving, are simply not anything like a replacement for ordinary business records. The affidavit stated that after filing for bankruptcy he had tried to find a tax preparer to file his back returns, but none would help him under the circumstances. Joseph also complained that one of his subcontractors failed to provide records to him. But none of this was sufficient excuse for Joseph’s own failure to keep proper business records or file his tax returns. Thus, the Court concluded:
“Debtor ran a construction business for a significant time period and, thus, should have some sophistication as a business owner. Debtor chose to operate a business that generated significant income and required frequent outlays for expenses without a bank account. Debtor failed to keep the records of his sole proprietorship in a manner sufficient to establish his financial condition with substantial completeness and accuracy. Debtor also failed to file tax returns for a very long period. Debtor did not offer sufficient evidence to create a material dispute of fact to justify these failures, such that a trial would be required. No reasonable fact-finder could find in Debtor’s favor on the justification issue based on the evidence presented on the Motion.”
With that, the Court granted the U.S. Trustee’s motion for summary judgment and denied Joseph’s discharge.
ANALYSIS
The bottom line to all this is that a person who doesn’t file their income taxes, known simply enough as a non-filer, will find it very difficult to obtain a discharge in bankruptcy. But that is probably also true for folks who timely file their income taxes but for whatever reason can’t keep adequate business records. Note the irony here that a person who can’t keep proper business books is probably more likely to land in bankruptcy than a person who does have the ability to keep such books.
Not much else to say about this case, but it is useful for advisors to know when talking with financially-distressed clients.
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