Some tax debt can be eliminated through bankruptcy. However, the majority of what you owe to the IRS or a state tax agency will probably have to be paid. It’s important to work closely with an experienced tax and legal professional who understands the nuances of discharging tax debt through bankruptcy. They can help you navigate the legal issues that will arise when you file for bankruptcy and try to clear your tax debt.
Types of Tax Debt
There are different types of tax debt, some of which may be eliminated through certain forms of bankruptcy and others may not. Some types of tax debt you may have include:
- Federal income tax debt – This is money you owe to the Internal Revenue Service (IRS) for federal income taxes. You may or may not have already filed your Form 1040 or other necessary tax documents to determine how much federal income tax you owe.
- State income tax debt – This is debt you owe to your state tax agency. If you have not already filed an income tax return with your state agency, you will need to so that you are aware of how much you owe.
- Tax arrears – This includes any past due tax debt to state or federal agencies. Hundreds of thousands of people have delinquent tax returns that need to be completed. The IRS often offers options for repayment to people who have tax arrears regardless of how old the debt is.
- Tax fraud penalties – If you purposefully misstate information on a tax form or intentionally fail to correct a tax return, you may be assessed tax fraud penalties.
- Payroll taxes – These are paid by employees and employers each time a person is paid a regular wage. There are some exceptions. However, if payroll taxes are not paid, then an individual or company may end up with tax debt that must be paid.
- Tax liens – This is the government’s legal claim against property when an individual fails to pay a tax debt. Tax liens may be assessed against real estate, personal property, or financial assets.
There are other types of tax debt that your bankruptcy lawyer can help you understand to ensure you include everything in your legal action.
When Can Tax Debt Be Cleared Through Bankruptcy?
Certain types of tax debt that is a certain age may be discharged through bankruptcy. However, the availability of dismissal or discharge of your tax debt depends on the type of bankruptcy that you file.
What Types of Tax Debt Can Be Cleared Through Bankruptcy?
In general, tax debt to the IRS may be dismissed or discharged if it is more than three years old. The requirements for this vary depending on the type of bankruptcy filed. State tax agencies have differing requirements.
Tax fraud penalties and tax liens cannot be discharged through bankruptcy. However, if you file a Chapter 13 bankruptcy, you may be able to include that type of debt in your payment plan.
Chapter 7 Bankruptcy and Tax Debt
Individuals as well as businesses can file Chapter 7 bankruptcy, also called “liquidation bankruptcy.” This form of bankruptcy allows the debtor to sell assets and repay creditors. Before filing for bankruptcy, a debtor must file tax returns for the last four tax periods.
During the bankruptcy, the IRS will extend the time that the filer has to repay tax liabilities. However, personal liability for tax debts will be discharged if those tax debts are older than three years unless returns are filed late. Businesses cannot receive a discharge of tax debts because they’re liquidated.
After the Chapter 7 bankruptcy, the filer must file income taxes and pay any income taxes that are due. Post-petition tax liabilities (those that are incurred after the bankruptcy is filed) cannot be discharged. Additionally, the IRS may use post-petition tax overpayments to apply to past due tax debts or send them to the bankruptcy trustee if the court requests such.
Chapter 13 Bankruptcy and Tax Debt
Individuals and sole proprietors may file Chapter 13 bankruptcy, also called “reorganization bankruptcy.” This type of bankruptcy involves forming a three- to five-year payment that allows a debtor who has enough income to repay debts over time. Like with Chapter 7, a debtor must file all tax returns for the last four tax periods before filing for Chapter 13 bankruptcy.
The IRS will extend the time that the bankruptcy debtor has to repay taxes during the Chapter 13 process. Tax debts that are included in the repayment plan will be cleared. Tax debts older than three years may be discharged in certain circumstances, even if they are not repaid through the payment plan.
After the Chapter 13 bankruptcy is complete, it’s important for the debtor to file income tax returns in a timely manner and pay any income tax that is due. Post-petition tax liabilities will not be discharged. The IRS may use post-petition tax overpayments to pay other tax debts or give them to the bankruptcy trustee.
Learn More About Your Options From a Bankruptcy Lawyer
Certain tax debt can be cleared through bankruptcy. However, there are restrictions on discharge of your tax debts. Whether you are considering Chapter 7 or Chapter 13, you should get legal advice from an experienced bankruptcy lawyer who can inform you about your options.
Call the bankruptcy attorneys at Clark & Washington at (865) 689-1777 for a consultation of your specific case.