Tax Solutions

Discharging Taxes In Bankruptcy

Bankruptcy can offer tax debt relief. Many people believe that tax debt is not dischargeable in bankruptcy.

The truth is certain tax debt is dischargeable in tax debt so long as it meets certain rules. An experienced tax attorney can help determine if you can get relief in the bankruptcy court.

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“If you have tax debt and other creditor issues like credit debt or medical debt, filing bankruptcy can be a good option. However, some tax debts may not be dischargeable and may remain after a bankruptcy discharge.”

- Alyssa Maloof Whatley

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How Can I Declare Bankruptcy?

Before you file your petition with the bankruptcy court, you should speak with a qualified tax attorney who can review your tax debt and filing status and identify whether bankruptcy can eliminate your tax obligation.

Certain types of tax debt can be wiped out in a Chapter 7 bankruptcy if conditions are met:

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Your debt is income tax debt owed to a state or federal taxing authority.

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Your tax debt is not related to fraudulent tax return or any you didn’t willfully evade your obligation pay taxes.

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Your tax debt was due at least three years prior to filing bankruptcy including any extensions.

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You have filed a tax return at least 2 years prior to filing for bankruptcy.

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If the Service has filed a Substitute For Return (“SFR”) prior to you filing a return, this can cause the debt to not be dischargeable.

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The circuits are split on late filed returns prior to the Service issuing an SFR on whether that tax is dischargeable (so dischargeability can depend on where you live, until the Supreme Court decided to rule on this issue).

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Your tax debt was assessed at least 240 days prior to filing bankruptcy.

Be Mindful Of IRS Deadlines

When it comes to dealing with the Internal Revenue Service, dates and deadlines can quickly get confusing and complicated. I have spent most of my legal career educating bankruptcy and tax attorneys on tax dischargeability rules as they are very complex.

In addition, many of the rules above are nuanced and the timelines can be tolled (extended) when taxpayers take certain actions like a previous bankruptcy filing, filing a collection due process appeal, filing an offer in compromise, etc. When things aren’t as straightforward as they appear, it’s too easy to make miscalculations that can lead you into filing bankruptcy too early when the tax is not dischargeable.

If your tax debt cannot be discharged in bankruptcy, you may have other options to explore with an experienced tax attorney. ”

- Alyssa Maloof Whatley

From left to right, Alyssa Maloof Whatley, Harrison Kulp, and Kiara Maxie
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Can Income Taxes Be Discharged In A Chapter 7 Bankruptcy?

Back income taxes can be discharged in a Chapter 7 bankruptcy assuming they meet all the rules for dischargeability. However, if the IRS has filed a Notice of Federal Tax Lien prior to filing bankruptcy, the underlying debt will be discharged, but the lien will remain.

This means that if the lien is attached to property prior to filing bankruptcy and you receive a discharge, the IRS cannot actively collection upon that debt, but if you sell your home and the lien is still valid, you may have to pay proceeds from the sale of the home to pay off the tax lien even though that debt was discharged.

Can Income Taxes Be Discharged In A Chapter 13 Bankruptcy?

A Chapter 13 plan is known as a reorganization bankruptcy and essentially allows you to pay monthly installment agreement to creditors based on a Chapter 13 Plan approved by the bankruptcy court over a period of 3-5 years.

How much each creditor receives is based on their priority (Secure, Priority, and Unsecured). If the IRS has a Notice of Lien Filing and there is equity that secures the lien, the debt must be paid as a secure claim. Taxes due within the past three years, filed within the past two years, assessed within 240 days are considered priority and will have to be paid back in full over the course of the Chapter 13 Plan.

In addition, other types of taxes are given priority status such as taxes you were required to withhold or collection (Trust Fund Recovery Penalty - Employees Portion of Federal Income Taxes, FICA, Medicare), property taxes incur within one year before filing bankruptcy, some excise taxes, and certain penalties related to non-dischargeable taxes.

Older tax debts that are not secured and not considered priority, are considered unsecured. These tax debts will be paid based on disposable income on a pro-rate (percentage) and any amount remaining will be discharged, unless they are not dischargeable due to willful evasion/fraud. If tax is not dischargeable, the IRS can seek to recover post-petition interest after the bankruptcy discharge.

Discharged in a Chapter 13 bankruptcy?

Pro Tip:

Chapter 13 isn’t for everyone.

While Chapter 13 can be helpful to some, it can be harmful for others as the statute of limitations on collection of the tax debt is tolled while you are in bankruptcy. This means that if you don’t complete the plan and get a discharge, you could have made a lot of payments to the IRS while allowing additional time for them to collect.

“Using Chapter 13 to enter into a more favorable repayment schedule needs to be thoughtfully considered. Before you file your petition, talk to a tax attorney with bankruptcy experience. ”

- Alyssa Maloof Whatley

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What Types Of Tax Debts Cannot Be Discharged In Bankruptcy?

While you can usually discharge old income tax debts in a Chapter 7 filing, there are plenty of tax obligations that aren’t eligible for relief even in bankruptcy.

Some taxes that aren’t dischargeable in bankruptcy include:

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FICA or “trust fund” taxes.

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Sales taxes collected from customers.

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Recent property taxes.

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Non-punitive tax penalties less than 3 years old.

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Employment taxes.

You’ll need the guidance of an experienced attorney to review your financial situation and see if pursuing bankruptcy can provide you with any tax debt relief.

Will Filing For Bankruptcy Remove My Tax Liens?

It depends on the Chapter and the resolution of the case. Tax liens are not dischargeable in a Chapter 7. Tax liens in a Chapter 7 remain attached to the property and continue in effect until they are paid off or otherwise released. If a Chapter 13 Plan is completed, discharged is entered, and the tax debt is otherwise dischargeable, a Chapter 13 can resolve a federal tax lien.

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