Bankruptcy and Taxes: Eliminating Tax Debts in Bankruptcy

There are many cases where a debtor is still liable for his tax debts even after a bankruptcy case. But, there are instances when a bankruptcy law can forgive even tax debts. A debtor who files for a Chapter 7 Bankruptcy is more apt to be forgiven for a tax debt as compared to a debtor who has filed for a Chapter 13 bankruptcy. This is because, in Chapter 13 the debtor will undergo a repayment plan and tax debts and with other stipulated debts are included in the debts to be repaid under the said plan. While for a Chapter 7 bankruptcy, a debtor is forgiven for many types of debt including some federal tax debt, credit card debt and medical bills.

How to Qualify for a Discharge

There are many factors that need to be weighed in order for a debtor to be forgiven of his tax debts. Examples of these factors are: the age of the tax debt, whether or not the debtor was able to file a return plus the type of bankruptcy the debtor filed under. Under Chapter 7, a debtor may be forgiven of his debts if the debtor meets the following criteria:

A valid tax return was filed by the debtor – A tax return was filed by the debtor on the relevant year. The relevant year should be at least 2 years and above from the date of bankruptcy filing.

The discharge is for income taxes – Penalties for fraud and Payroll taxes are not qualified for discharge.

Willful Tax Evasion was never committed by the Debtor – Examples of possible evasive actions are: changing the spelling of your name, changing your name or repeated failure to pay taxes or Social Security number or withdrawing money from a bank and hiding it or repeated failure to pay taxes.

Tax liability is at least three years old – the tax debt you want exempted should be 3 years old to the date of your bankruptcy filing.

Tax Fraud was never committed by the Debtor – The return that was filed should not have any fraudulent information. The penalties for the dischargeable tax debt are also forgiven. Once the tax debt is already discharged the debtor is no longer obliged to pay for it and the IRS has no authority to garnish the debtor’s wage.

The debtor is eligible under the 240-day rule – the debt should have been assessed at least 240 days before the debtor has filed for bankruptcy

Liens Due to Federal Taxes

If a discharge for tax debt has been given under a chapter 7 bankruptcy and tax lien has already been placed on the debtor’s property prior to the bankruptcy filing, then the lien will not be discharged even after the end of the case. Thus, the debtor needs to pay off the lien in order to clear the property and be able to sell it.

Tax debts not Eligible for discharge

Here are examples of tax debts that are not discharged even by a Chapter 7 Bankruptcy:

  • You cannot discharge tax penalties from a tax debt that is not qualified for discharge
  • Tax debts incurred due to an unfiled tax return
  • Trust fund or withholding taxes that were withheld by the employer from the debtor’s or employee’s paycheck

If you have tax debts and filed a bankruptcy under Chapter 7, you can consider other options to pay for the debt such as paying in installment terms or other agreement with the IRS in order for you to fulfill the amount due.

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