The Ongoing Debate: The 1099-C and Collections

By Matthew D. Urban, Esq.

The issue of whether or not a credit union, or any creditor for that matter, should issue a 1099-C after an account has been charged off is always a topic of great discussion, particularly when the creditor is interested in continuing collection efforts. As many know, pursuant to IRS regulations governing the issuance of a 1099-C, one of eight identifiable events that trigger the filing of a 1099-C occurs when a creditor makes a decision to discontinue collection activity and discharge the debt. While this would appear to prevent a credit union from issuing a 1099-C and then continuing to collect on the debt, a 2009 decision out of the US Bankruptcy Court for the Western District of Pennsylvania says otherwise.

In the case of In Re: Stephen M. Zilka, Debtor, Eric Bononi, Trustee of the Bankruptcy Estate of Stephen Zilka, movant v. Bayer Employees Federal Credit Union, Respondent, 407 B.R. 684; 2009 Bankr. LEXIS 1855 (hereinafter “Zilka”), Bayer issued four separate 1099-C forms in relation to Zilka’s four accounts with the credit union, which were included as part of his bankruptcy petition. During the pendency of the bankruptcy, a personal injury claim of Zilka’s was settled for an amount sufficient to pay all of Zilka’s unsecured claims. Zilka subsequently objected to the trustee paying the claims of Bayer on the basis that the credit union issued a 1099-C and as a result argued that the debt was discharged, collection efforts could no longer be pursued and that Bayer’s claims should not be paid.

Bankruptcy Judge M. Bruce McCulough, however, disagreed after conducting a detailed review of the regulations surrounding the issuance of a 1099-C. Specifically, Judge McCullough laid out several basis to support his conclusion that the issuance of a 1099-C did not serve to discharge a debt and preclude further collection efforts. Initially, the court found that the IRS has consistently held the view that Form 1099-C was not an admission by the creditor that it has discharged its debt and can no longer pursue collection. Second, a Form 1099-C can not constitute an admission by the creditor that is has discharged its debt on the basis that a Form 1099-C is sometimes filed in error and can and are typically amended or corrected. Third, while citing several court decisions across the country, the court found that a 1099-C itself does not, as a matter of law, operate to legally discharge a debt. Last, the court also held that under Pennsylvania’s Uniform Commercial Code, the 1099-C again does not itself operate to legally discharge a debtor from liability. Ultimately, Judge McCullough required Bayer to file a corrective 1099-C to reflect that Zilka’s debts had since been paid. By doing so, he found that any tax benefit received by Bayer or tax burden incurred by Zilka upon the issuance of the 1099-C could be rectified as a result of the payment on the previously outstanding debt.

As a matter of practice, the issuance of a 1099-C as a collection tool should be carefully looked at as part of an overall collection strategy. The court’s decision in Zilka certainly gives further support to the position of creditors that the issuance of a 1099-C does not discharge a debt and also does not preclude them from pursuing continued collection efforts. However, if a credit union chooses to issue a 1099-C upon the charging off of an account and then pursues and subsequently collects on the outstanding debt, the credit union must be aware of the court’s requirement in Zilka to issue a corrective 1099-C upon that occurrence. Ultimately, it may also be in the credit union’s best interest if immediately issuing a 1099-C including a separate notice to the debtor that they plan to continue debt collection activities, and that the 1099-C does not serve to cancel the debt. Ultimately, no mater how a credit union decides to pursue its delinquent accounts, it must be aware that no matter the path they choose that those choices have consequences which should be carefully discussed and reviewed.

Matthew Urban is the managing attorney of the Credit Union Group in the Pittsburgh office of Weltman, Weinberg & Reis Co., LPA. He oversees the credit union work across Pennsylvania, as well as practices in Consumer Collections. Matthew can be reached at 412.338.7134 and murban@weltman.com.