March 23, 2022

How Does Bankruptcy Affect Tax Debts?

Filing for bankruptcy is certainly not an easy process; it can become quite complex depending on the nature of your current situation. Still, it is not the magic bullet many people think it is. However, it can certainly be worthwhile and can help you get rid of tax debts you can’t pay. There are rules and requirements for discharging tax debts.

These requirements are contained in the different bankruptcy chapters and their tax debts.

Suppose you are looking for assistance with tax debt. In that case, whether it is income tax debt or general IRS tax debt, our team at The Law Offices of Michael Alan Siddons, Esquire can help you navigate the complex world of income tax, payroll taxes, priority tax debts, federal tax lien matters and more as they relate to your bankruptcy case.

Our bankruptcy lawyer professionals will be here to work with you as you seek to discharge tax debt through your bankruptcy case.

Schedule an appointment at a bankruptcy law firm in Media, PA; Rising Sun, MD & Staten Island, NY today.

The Different Chapters of Bankruptcy

There are six numbered chapters relating to bankruptcy filings. Chapters 7 and 13 apply to individuals who want to discharge tax debts. In contrast, chapters 11 and 12 apply to incorporated businesses, business owners, and entrepreneurs. Chapters 9 and 15 do not have anything to do with tax debts.

  • Chapter 7: This is also called “straight” bankruptcy as it allows you to discharge all your allowable debts completely. In this instance, the bankruptcy court liquidates your assets. It then uses the proceeds to cover as much of your debts as possible. After this, you are no longer responsible for the debts, even if your assets were not enough to pay for all your debts.
  • Chapter 13: This provides a multi-year payment plan approved by the court to repay as much of your debts as possible. Typically, the repayment period is designed to allow you to repay your debts completely. But the plan often allows discouragement for debts that cannot be repaid.
  • Chapter 11: This chapter covers debt reorganization and offers a multi-year payment plan like a Chapter 13 filing. This is mainly designed for incorporated businesses and individuals whose debts are beyond the limits for a Chapter 13 filing ($394,725 as of 2020).
  • Chapter 12: This allows a repayment plan for fishermen and family farmers who cannot afford to pay their debts due to business-related expenses. It is quicker than a chapter 13 filing and limits how long creditors can recover debts.

Tax Debts in Each Chapter

Tax debts are classified as priority debts in all the chapter fillings. A chapter 7 filing is to be paid first when assets are liquidated. Chapter 12 and 13 payment plans require paying all tax debts in full. Under Chapters 11, 12, or 13, tax debts are not dischargeable.

You may receive tax refunds even under bankruptcy protection, but these will most likely be used to repay your tax debts.

Whether it is income tax debts or priority tax debts, we know that you may have quite a bit of questions and concerns in your bankruptcy case. That is why our team of lawyers are here at the Law Offices of Michael Alan Siddons, Esquire, to meet your Chapter 7 bankruptcy or other tax obligation and bankruptcy filing concerns.

We have helped clients realize the value of a qualified bankruptcy attorney in tax lien, tax liability, and unfortunate tax evasion matters. We abide by the attorney-client relationship and keep all information confidential as we meet our obligations. Find out how we can help you with debt relief today.

Requirements to Discharge Tax Debts

Bankruptcy laws have strict criteria on how old a tax debt must be before it becomes dischargeable. There are five rules that a tax debt must meet before being discharged for a chapter 7 filing

  • The tax return filing was due at least three years ago.
  • The tax return filing was made at least two years ago.
  • The tax assessment was at least 240 days old.
  • The tax return was not fraudulent.
  • The taxpayer did not try to evade paying taxes.

You should know that tax debts are handled based on the tax year and a particular tax return. This is why some of your debts might be eligible for discharge while others are not. Apply the rules above to a year’s tax debt to know if that year’s debt can be discharged by filing for bankruptcy.

Here is a brief explanation of how to apply each rule.

The tax return filing was due at least three years ago

The tax debt for that year’s tax return must have been due for filing at least three years before the bankruptcy filing. Any tax payment extension you get will extend the due date. So, for instance, if you received a tax extension for your 2021 tax return, the tax return filing will be due in October 2022.

The tax return filing was made at least two years ago

You should have filed the tax return for that year’s tax debt two years before you file for bankruptcy. The two-year gap is calculated from the date you filed the tax return. In most cases, this is around the period of the due date rule unless you filled your return later than the due date.

Any tax debt from an unfilled tax return will not be discharged. Taxpayers cannot discharge those tax liabilities until they fill a tax return for the year in question. The Internal Revenue Service (IRS) takes this rule seriously and regularly assesses taxes on unfiled returns.

The tax assessment (either by you or the IRS) is at least 240 days old

The IRS must have assessed the task at least 240 days before you file for bankruptcy. The assessment can either be:

  • A self-reported balance by filling your tax return
  • An IRS final determination in an audit, or 
  • An IRS proposed assessment that becomes final.

In other words, you either stated what you owed, or the IRS declared what you owed.

The tax return was not fraudulent

The tax return cannot be frivolous or fraudulent. You cannot claim your pet Spartacus is dependent on your tax returns and then file for bankruptcy when the IRS detects the fraud on your returns. Tax debts from fraudulent returns are not dischargeable.

The taxpayer did not try to evade paying taxes

Taxpayers guilty of evading the tax laws will not have their tax debts discharged even if they file for bankruptcy.

Other Qualifying Rules

There are two additional rules for bankruptcy petitioners.

  1. You have to prove that you filed the tax returns for the last four tax years before you will be granted a bankruptcy discharge. You must have filled these four previous tax returns on or before the date of your first creditors’ meeting in a bankruptcy case.
  2. You must submit copies of your most recent tax returns to the bankruptcy court. You must also submit copies to creditors who also request copies of returns.

Are You Seeking Help with Priority Debt – Tax Liens – Property Taxes and More? Consult with Our Attorneys Today

We are here to address trust fund taxes, credit card debt, property taxes, bankruptcy petitions, and more.

If you seek to file bankruptcy and want to do so in a comprehensive fashion, our team is here to ensure that we address your concerns. We will provide you with legal resources to ensure that you have the protection you require while unraveling and addressing your debt and tax situation.

Reach out to us today to see how we work on current taxes, Chapter 13 bankruptcy, other debts, and understand matters such as nonexempt assets, total monthly income, and other elements of your case.