Context Matters: The Recharacterization of Leases in Bankruptcy and Tax Law
American Bankruptcy Law Journal, Vol. 82, No. 635, 2008
63 Pages Posted: 31 Jul 2010
Date Written: December 2, 2008
This article identifies an important but problematic business transaction that confronts both the bankruptcy and tax systems — the loan disguised as a lease — and compares the ways in which each system deals with such a transaction. I show in this article that, despite the same core problem of the “untrue lease” confronting the bankruptcy and tax courts, there are significant divergences between how lease recharacterization operates in each system. I demonstrate that these differences are a result of broader fundamental functional and policy characteristics of the bankruptcy and tax laws themselves. Specifically, I identify four underlying contextual differences between the bankruptcy and tax systems that account for the specific divergences observed in how each system deals with the phenomenon of “untrue” leases: (1) different core reasons for recharacterizing transactions at all; (2) fundamentally different conceptions of what constitutes a “sham”; (3) different and complex relationships to state law; and (4) different notions of who or what is being protected. These contextual differences contraindicate the use of an identical approach to recharacterizing leases in bankruptcy and tax. I also argue that, in addition to explaining the observed differences in lease recharacterization, these fundamental differences that I have identified between the systems may also be predictive indicators of how bankruptcy and tax might diverge in dealing with other problems common to both systems, such as the recharacterization of debt as equity or in the analysis of what constitutes a true sale. These four factors should therefore be strongly considered by courts and policymakers in determining how such problems should be dealt with by each system in order to achieve a context-sensitive approach to rule making.
Keywords: Taxation, Bankruptcy, Leasing
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