The district court describes Quintela as a small human resources consulting company. It provides tests and testing software to guide human resources decisions. The court states that, though small and in existence only since 2009, it has an impressive client list including several major universities and about 10 Fortune 500 companies. That does seem impressive but despite landing some big clients, Quintela also landed in chapter 11 due to the accumulation of too much debt, including fairly significant tax debt.
Quintela had about $250K in federal tax liens filed against it in addition to other outstanding debts between $1 and $10 million. The court says it proposed to pay its priority creditors in full over 5 years. While the court makes this sound like a major accomplishment, basically putting this language in the plan fulfilled a requirement that would have led to an easily sustainable IRS objection had the debtor not said this. Since the debtor’s plan met the statutory requirement for repayment in its description of what it promised to do, the IRS objection had to come from the more difficult position of arguing that the debtor could not actually do what it promised to do in the plan.
The IRS argument requires the court to determine the plan’s feasibility. The debtor put on a witness to explain why the court should believe that it would make the payments it promised to make. The IRS did not put on a witness but instead relied upon punching holes in the claims made by debtor’s witness.
I will pause here to note that this is very similar to what the IRS does in Tax Court cases – at least the relatively small dollar cases in which I am involved. My former colleague in the Portland District Counsel Office and former director of the Lewis & Clark low income tax clinic, Jan Pierce, called this the raised eyebrow defense. In many small cases, it’s not cost effective or even feasible for the IRS to find a witness to actually contradict the testimony of the taxpayer. So, the raised eyebrow defense has its place; however, if you want to attack financial projections it also has its severe limitations which the IRS faced in the Quintela case.
The bankruptcy court generally wants to confirm the plan. If the plan works, creditors will generally get more money than they would in a liquidation. If the plan doesn’t work, most creditors are not much worse off than they could have been if the court had denied confirmation. So, the deck is a bit stacked against any creditor in this situation. When you add to that natural stacking of the deck the fact that the IRS only used the raised eyebrow defense, stopping confirmation would have been difficult.
So, the bankruptcy court confirmed the plan, the IRS objected to that confirmation, and the district court essentially said the bankruptcy court had enough information to make its decision. It declined to reverse confirmation, saying:
Having reviewed the record and the bankruptcy court’s thorough explanation of its reasoning, the Court concludes that the bankruptcy court’s finding was not clearly erroneous.
The record shows that Quintela Group sells products for which there is an appreciable demand. Quintela testified at the confirmation hearing that his company had brought in a significant amount of revenue and amassed an impressive clientele during its 11 years in business without conducting any sort of marketing or sales campaign. (Dkt. 8 at pp. 246–47). According to Quintela, Quintela Group counted 10 Fortune 500 companies among its clients, and it averaged between $1 million and $2 million in annual revenue for at least three of the years between 2015 and 2020. (Dkt. 8 at pp. 173, 228, 242–43). In its least successful year, 2020, Quintela Group was still on track to gross $700,000. (Dkt. 8 at p. 242). Quintela further testified that the COVID pandemic’s effect on Quintela Group’s business was starting to abate and that “the projects [Quintela Group] had in the pipeline [before the pandemic were] coming back[.]” (Dkt. 8 at p. 236). Quintela added that 2020 was “pretty unique,” and he projected that his company would “be back to probably at 1.2 million” in annual gross revenue in 2021. (Dkt. 8 at p. 243).
Since the record indicates that a market exists for Quintela Group’s products, the bankruptcy judge, in announcing his findings, focused on additional measures proposed by Quintela Group that would enable the company to tap into that market, promote its products more effectively, and ensure high net profits. The bankruptcy judge specifically mentioned the company’s more “focused marketing plan[,]” which included a contract with SHRM, the largest trade group in the human-resources industry, that would enable Quintela Group to offer its services on SHRM’s website for the first time. (Dkt. 8 at p. 284). The bankruptcy judge noted that the additional measures proposed by Quintela Group would not require substantial capital expenditures and that “management and current employees w[ould] continue to work for” Quintela Group. (Dkt. 8 at p. 284). The bankruptcy judge also discussed Quintela Group’s improved internal policies. Quintela testified that Quintela Group had improved its internal financial controls and accounti ng methods by working with a certified public accountant; the bankruptcy judge highlighted and credited that testimony. (Dkt. 8 at pp. 241, 283 –84).
The bankruptcy court did not clearly err in finding that Quintela Group’s proposed reorganization plan was feasible….
Pretty standard stuff for a review of a factual determination where the court was relying on a clearly erroneous standard. The appeal of a bankruptcy decision to the district court does not involve the Appellate Section of the Department of Justice and the process of appeal review described in posts here and here concerning the room of lies. I will be shocked if this case goes to the 5th Circuit. I will not be shocked if debtor’s plan fails but, if it does, that does not necessarily mean the judge’s crystal ball is broken.
The IRS occasionally appeals plan confirmation but almost always it does so based on a legal failure of the plan and rarely, as here, based on an argument regarding a factual determination.
In addition to the somewhat unusual appeal of the fact-based decision where the IRS argued no contradicting evidence, the government attorney objected to questions asked by the bankruptcy judge. This deserves quick mention. Relatively rare circumstances exist where an attorney appropriately objects to a judge’s questions. This does not seem to fit into those rare circumstances:
The mention of revenue projections during Quintela’s testimony led to an exchange in which the IRS objected to a line of questioning initiated by the bankruptcy judge. At the beginning of the confirmation hearing, the IRS objected to the admission of Quintela Group’s exhibits, including a set of written revenue projections, on the basis that Quintela Group had provided its exhibits to the IRS the day before the hearing instead of two days before the hearing. (Dkt. 8 at pp. 221–22).2 The basis for the IRS’s objection — untimely disclosure — seems a bit questionable as to Quintela Group’s written financial projections, considering that the IRS itself had extensively analyzed those same projections in a filing of its own two weeks before the hearing. (Dkt. 8 at pp. 55 –63). See Southern District of Texas bankruptcy case number 20-32577 at docket entries 53 and 61. In any event, the bankruptcy judge sustained the IRS’s objection but explained that he would give Quintela Group “an opportunity to prove [its exhibits] up.” (Dkt. 8 at pp. 221–22). When the bankruptcy judge later asked Quintela some general questions about there liability of Quintela Group’s revenue projections, the IRS objected to the bankruptcy judge’s line of questioning on the basis that it “[a]ssume[d] facts not in evidence” because “[t]he numbers in the projections [we]re not in evidence[.]” (Dkt. 8 at 241–42). The bankruptcy judge overruled the objection:
I’m overruling. I’m asking where the numbers came from. What facts did he have? What facts can be in evidence? Just asking where they came from. He can answer that.
I would be curious to learn from readers those circumstances in which they benefited from objecting to a question asked from the bench. You know the court will overrule the objection. The only hope is using the questions as a basis for appeal. That did not work here.