Tax Debts In Each Chapter
Tax debts are typically priority debts in all chapter filings. They’re addressed and paid first when assets are liquidated in Chapter 7, and they must be included and paid in full in Chapter 12 and 13 payment plans.
Priority tax debts are not dischargeable in Chapters 11, 12, or 13.
You can receive tax refunds while under bankruptcy protection, but they will most likely be directed toward paying your tax debts.
Do You Have To File A Tax Return When Going Through Bankruptcy
While you can sometimes deal with past tax debt through a bankruptcy filing, you wont be protected from all past, current or future tax liability or obligations to the IRS.
- Chapter 13 filers are required to file returns for tax periods ending within four years of the bankruptcy filing before you have a meeting with creditors to work out your debt repayment plan.
- In Chapter 7 and Chapter 11, the bankruptcy estate that takes ownership of your assets is also required to file a separate tax return. The return must be filed by the trustee appointed to manage assets but sometimes in Chapter 11, the bankruptcy filer acts as the trustee and thus must take on this obligation.
And, no matter what chapter of bankruptcy you file under, all tax returns due after you file must be submitted on time unless you file for an extension. Failing to file or request an extension can result in dismissal of your bankruptcy proceedings or conversion of your bankruptcy to a different type.
What Are The Requirements For Discharging Taxes Under The Bankruptcy Law
While you can discharge some of your tax debt under the bankruptcy laws, there are certain requirements that need to be met for the debt to qualify for bankruptcy discharge. Some of these requirements include that:
- The taxes are based on income
- The taxes were due a minimum of three years prior
- The return was filed at least two years before filing bankruptcy
- Your taxes were assessed at least 240 days ago
- No willful fraud or tax evasion occurred when filing the return
A skilled bankruptcy attorney at the Law Office of Rebecca L. Evans can help you determine which of your tax debts qualifies for discharge under the bankruptcy law. We can also help you gather the information and proper paperwork you need to file making the process easier for all involved.
Does Bankruptcy Clear Tax Debt In Canada
When you file for bankruptcy, you enjoy CRA debt relief along with relief from all other unsecured creditors. The common belief that you cant escape tax debt this way comes from the past. Before 1992, the Canada Revenue Agency was considered a preferred creditor in the Bankruptcy and Insolvency Act, and it could use this status to oppose a debtors discharge from income tax debt.
Since 1992, it has been listed as an ordinary unsecured creditor on the same level as any bank, credit card company, or other lenders. CRA debt can now be discharged unopposed.
There are some exceptions to this rule, including those who owe over $200,000 in taxes, and that number represents more than 75% of their proven debts. Otherwise, as a general rule, if you owe Revenue Canada money, insolvency can help.
Tax Returns And Chapter 13 Bankruptcy
You must be up to date on your tax returns before you file a Chapter 13 case, but the rules allow you a little wiggle room. You’ll provide copies of the returns for the previous four tax years to the Chapter 13 trustee before the 341 meeting of creditors . If you’re not required to file a return, your trustee might ask for a letter, an affidavit, or a certification explaining why. Sometimes local courts will impose additional rules for documents in their districts.
If you owe the IRS a return but don’t file it before your 341 meeting of creditors, things can happen to derail your case.
- A motion. The trustee will file a motion giving you a very brief period to provide your returns. If you miss the deadline, the court can automatically dismiss your case, leaving you no chance to plead your case to the judge.
- A substitute return. The IRS might file a “best estimate” claim based on your past income. The problem? IRS estimates are almost always higher than what you would owe after you file a proper return.
Discharging California Sales Tax And Other Taxes
Sales taxes and other taxes, such as those owed to the State Franchise Tax Board, or Board of Equalization or Employment Development Department may also be dealt with in a bankruptcy case.
In California, discharging sales tax liability requires the same elements listed above for income taxes. The additional issues with sales taxes is that the business that generated the liability must be closed so that no new sales tax liability can be assessed and the taxes must have been actually assessed against you as the responsible party more then 240 days before filing the bankruptcy case.
What Taxes Are Nondischargeable Under Bankruptcy Law
While some tax debt may qualify for discharge under bankruptcy law, there are some exceptions and types of tax debt that cannot be included in your bankruptcy filing. Some tax debts that are not dischargeable include:
- Tax liens recorded against any property before you filed bankruptcy are still liens against that property even if you might not be personally liable
- Your most recent property taxes that were due before you filed bankruptcy
- Taxes that have been withheld by a third party such as payroll taxes which are to be sent to the government
- Tax penalties on nondischargeable taxes that are not punitive
- Some types of employment taxes, excise taxes and customs duties taxes
Five Rules To Discharge Tax Debts
Dischargeable tax debts must meet five other criteria.
Tax debts are associated with a particular tax return and tax year, and bankruptcy law lays out specific criteria for how old a tax debt must be before it can be discharged.
Tax debt is dischargeable in Chapter 7 bankruptcies if it meets all five of these rules:
- The due date for filing the tax return in question was at least three years ago.
- The tax return was filed at least two years ago.
- The tax assessment is at least 240 days old.
- The tax return was not fraudulent.
- The taxpayer is not guilty of tax evasion.
Apply these criteria to each year’s tax debt to determine whether that year’s unpaid balance is dischargeable through bankruptcy. Some of your debts might be eligible, while others might not.
Debt Relief Alternatives To Bankruptcy
Bankruptcy has serious consequences. A Chapter 7 bankruptcy will remain on your for 10 years, and a Chapter 13 will remain for seven years. That can make it more expensive or even impossible to borrow money in the future, such as for a mortgage or car loan, or to obtain a credit card. It can also affect your insurance rates.
So itâs worth exploring other types of debt relief before filing for bankruptcy. Debt relief typically involves negotiating with your creditors to make your debts more manageable, such as reducing the interest rates, canceling some portion of the debt, or giving you longer to repay. Debt relief often works to the creditorâs advantage, too, as they are likely to get more money out of the arrangement than if you were to declare bankruptcy.
You can negotiate on your own or hire a reputable debt relief company to help you. As with , there are scam artists who pose as debt relief experts, so be sure to check out any company that youâre considering. Investopedia publishes a regularly updated list of the best debt relief companies.
Do I Qualify To File A Chapter 7 Case
You must meet income requirements to qualify to file a Chapter 7 bankruptcy case. If your average income is below the median income for your state, you should qualify to file a Chapter 7 case. However, if your income exceeds the state median income, you may want to talk to a bankruptcy attorney.
If your average income falls below the state median income, it means you pass whatâs called the Chapter 7 Means Test. If you âpassâ the Means Test, you are typically eligible for a bankruptcy discharge under Chapter 7. However, if you âfailâ the first section of the Means Test, you may still qualify to file a Chapter 7 case.
The second section of the Chapter 7 Means Test subtracts allowable expenses from your monthly income. The amount of money remaining after you subtract all allowable expenses is your disposable income. Individuals who do not have disposable income or who have very low disposable income may still qualify to file a Chapter 7 bankruptcy case.
So, What Happens if I Donât Pass the Chapter 7 Means Test?
If you do not qualify for debt relief under Chapter 7, there are a couple things to consider. You can try talking to a lawyer to make sure you donât qualify. If not, you might consider filing for Chapter 13.
Restrictions On Access To Bankruptcy
Even while the treatment of taxes in Chapter 13 has grown to more closely resemble that of similar liabilities in Chapter 7, the BAPCPA has imposed a new means testing system for those with primarily consumer debt, preventing many debtors from filing under Chapter 7 at all. However, income taxes are not considered consumer debt. And thus a debtor whose biggest creditor is the IRS may avoid the problem altogether. Consequently, an element of all future pre-bankruptcy planning will be measuring and perhaps managing the balance between the clients consumer and nonconsumer debt.
Under the BAPCPA, a Chapter 7 involving primarily consumer debt will be dismissed upon a finding of abuse. Such a finding can be based on a presumption applicable under certain circumstances, or on general grounds including bad faith considering the totality of the facts. If the debtors income is above the median income for the state in which the case is filed, either the presumption or the general grounds standard can be raised by the Court, the trustee, or a creditor. The presumption is inapplicable if the debtors income is below the median income level for the state.
If the means test applies, it compares monthly income to allowable deductions. Income is defined as the debtors average income over the six full months prior to the petition date.
When Bankruptcy Can Discharge Tax Debt
If you want to discharge tax debt through bankruptcy, Chapter 7 might be able to help you. However, only a certain type of tax debt qualifies for discharge. Below is a list of all the conditions that must be met before discharging tax debt through bankruptcy:
- The taxes you own must be income taxes: Other taxes such as payroll taxes and fraud penalties cannot be eliminated through bankruptcy.
- The debt must be at least three years old: If your tax debt is less than three years old, it cant be wiped out in bankruptcy.
- You filed a tax return: If you didnt file a tax return in the last two years before filing for bankruptcy, you cannot discharge the tax.
- You pass the 240-day rule: The IRS must assess the income tax debt at least 240 days before you file bankruptcy.
Chapter 7 Bankruptcy: The Details
In Chapter 7 bankruptcy, the debtor liquidates or sells nearly all of their personal assets to pay off the balance of their debts. Certain property is exempt from liquidation. For example, you are entitled to keep a portion of the following up to a certain value:
- Your homestead
- Health aids
Once your items have been sold and the proceeds have been used to pay down your debt, the rest is discharged, meaning you do not have to pay it, and the creditor cannot continue to pursue you for it. This is generally intended for lower-income debtors to help give them a means to not stay in debt forever.
What Is A Judgment
A judgment is a court order, issued in response to a creditor’s suit against you, that declares you liable to pay what you owe them. A creditor with a judgment against you can do any or all of the following in pursuit of the money they are owed:
- Garnish your wages
- Take from your bank accounts
- Obtain a judgmentlien against your property , which could allow a creditor to seize the property, compel you to sell it, or entitle them to collect what they’re owed from the proceeds when you sell the property voluntarily.
Judgments can be issued in all kinds of civil matters, including personal injury liability suits, small-claims cases and even property-boundary disputesin any case where monetary damages can be assigned.
The most common judgments relevant to bankruptcy involve unpaid debts. Lenders, credit card issuers and other creditors may bring suit if you default on your accounts and secure judgments ordering you to pay what you owe.
The nature of the debt behind each judgment, and whether it is considered priority debt that cannot be discharged, will determine if bankruptcy can erase it.
Consumer Proposals Vs Bankruptcy And Cra Debt
A consumer proposal is a popular alternative to bankruptcy because it provides debt relief from unsecured creditors, including debt forgiveness from CRA. When you file a consumer proposal with a licensed insolvency trustee you are not required to sell any of your assets to repay your debts or pay any surplus income.
To start the consumer proposal process, you will first need to schedule a consultation with a licensed insolvency trustee where you will review your finances. After reviewing your income, expenses, and total debts, the two of you will find a fair amount that you can pay each month to all of your creditors. These payments can last up to five years after which, you will be discharged from all debts covered by the proposal, including CRA debts.
Tax debt in Canada can be included in a consumer proposal and the CRA will often accept less than your full amount owing, though how much they will settle for will depend on the situation. In order to get the CRA to accept your proposal, you will have to file any and all outstanding tax returns. If you want CRA debt relief and 50% or more of your total unsecured debts are owed to the agency, you will have to get them to accept the proposal.
If a consumer proposal is not a viable option for you, then filing for bankruptcy may be your next solution. With this, your trustee would be required to file a pre-bankruptcy tax return and a post-bankruptcy tax return.
Drawbacks To Filing For Bankruptcy
While Chapter 7 bankruptcy allows you to start fresh with no debt, the solution has drawbacks. Your credit score will plummet and the bankruptcy stays on your for up to 10 years.
Non-exempt items that can be seized during Chapter 7 bankruptcy include credit cards, investments, and valuables such as stamp and coin collections, family heirlooms, a second home or vacation home, and a second vehicle.
The exempt property you can keep includes vehicles , most clothing, household goods and furniture, appliances, jewelry , your home and some of its equity, and pensions.
If you dont wish to part with your property and your tax debt is several years old, Chapter 7 bankruptcy may not be the best idea. There is a 10-year statute of limitations on tax debt. After 10 years, tax debt is usually forgiven by the IRS. If youre close to forgiveness, it may pay to wait. Filing for bankruptcy extends the statute of limitations, which also extends your obligation to pay.
How To Get Rid Of Tax Debt By Filing Bankruptcy
Filing a Chapter 7 bankruptcy can help you to get out of a great deal of debt, including medical bills, credit card debt, and more. However, tax debt is considered a secured debt and isnt as easy to get out of. But, if you meet certain criteria, back taxes could be discharged like credit card debt or medical bills. Heres how you may be able to dissolve your tax debt by filing for bankruptcy.
What Is Lien Avoidance
Some judgment liens can be eliminated, or avoided in legal lingo, in the course of a bankruptcy. A judgment lien is avoided if it applies to property you claim as exempt from liquidation or forfeiture in your bankruptcy.
In a Chapter 7 bankruptcy, the debtor’s primary vehicle is exempt from liquidation or forfeiture if it’s worth less than your state’s exemption limit. Any judgment lien against an exempted vehicle you own free and clear can be wiped out through bankruptcy.
Note that this is distinct from any claim to the vehicle retained by the issuer of the loan used to purchase it. If you are still paying off a loan on the vehicle, bankruptcy may eliminate your obligation to cover delinquent payments on that loan, but the lender’s right to repossess the vehiclea form of lien that’s not dependent on a court orderstill stands, and you may still lose the vehicle.
In a Chapter 13 bankruptcy, it’s possible to avoid judgment liens against certain real estate holdings by claiming the real estate as exempt from consideration in the bankruptcy process. Doing so can be tricky, however, because it also eliminates any protection you may have against repaying outstanding debt owed on any mortgage on that property. Because of the potential complexity of claiming exemptions under Chapter 13, it’s wise to consult with your lawyer, and perhaps a real estate professional, when considering your options.
Can You File Chapter 7 Against The Irs
One of the most common questions we get is can you file chapter 7 against the IRS, and the answer is often yes. To be able to discharge federal income tax debt, you must qualify based on the conditions mentioned above.
While you can file Chapter 7 for income tax debt, the same strategy will not work for payroll taxes. Additionally, rules on previously unfiled tax returns are not uniform and newer liabilities are unable to be resolved. A Chapter 7 bankruptcy cannot discharge tax liens recorded before filing.
Under this chapter, the debtor will receive an absolute right to discharge all of the debts that are included as part of the bankruptcy. However, taxpayers will not receive an absolute discharge for their tax debts. The following tax debts will not be discharged in a Chapter 7 bankruptcy:
- Tax debts for which no original returns were filed by the taxpayer
- Tax debts for which a return was filed within 2 years of the bankruptcy petition
- Tax debts based on returns that were fraudulently filed
- Tax balances that arose because a taxpayer was found to have willfully attempted to evade their tax responsibility
Other tax debts, including assessed penalties are dischargeable unless the event that gives rise to the penalty occurred within 3 years of the bankruptcy or relates to an underlying tax balance that is not dischargeable.
Chapter 7 is not the only way to handle bankruptcy and taxes with the IRS, so you should consider other chapters before filing.
Most Taxes Can’t Be Eliminated In Bankruptcy But Some Can
If you’ve heard commercials offering the hope of eliminating tax debts in bankruptcy, be cautious. It’s not as simple as it sounds. Most tax debts can’t be wiped out in bankruptcyyou’ll continue to owe them at the end of a Chapter 7 bankruptcy case or have to repay them in full in a Chapter 13 bankruptcy repayment plan. In this article, learn:
- when you can discharge a tax debt
- what happens with federal liens, and
- how to manage tax debt using Chapter 13.
You’ll also learn the pros and cons of filing tax returns before or after bankruptcy.
If you’d like step-by-step guidance through the bankruptcy process, read What You Need to Know to File for Bankruptcy in 2021.
Tax Debt In Chapter 13 Bankruptcy
If you file for Chapter 13 bankruptcy where the court trustee arranges a partial repayment plan, then your tax debt will be included in the plan. If it meets the five criteria listed above, then it will be deemed a nonpriority debt.
This means it will get treated like credit cards and other debts that are generally easy to discharge. Instead of paying off the full amount, the court will determine how much you can reasonably afford to repay. You will repay some of the debt you or the IRS or your state tax office in your payment plan. Then the remaining balances will be discharged.
If your tax debt does not meet those five, then it may be deemed a priority debt. You will still be able to pay it off under your repayment plan. However, it must be repaid in full.
Tax Debt And Bankruptcy
People often think that they cannot eliminate their tax debts through bankruptcy, but this is a misconception. Many income tax debts and even Ohio state taxes, can be discharged through Chapter 7 and Chapter 13 bankruptcies.
Bankruptcy, a legal way to have many debts forgiven, can put you on the road to financial recovery. Chapter 7 provides for full discharge of allowable debts. Chapter 13 provides a payment plan to repay some debts, with the remainder of debts being discharged. Tax debts are treated the same way in both Chapter 7 and Chapter 13 petitions.
How do you know if bankruptcy is right for you? The skilled and seasoned Ohio bankruptcy attorneys at Fesenmyer Cousino Weinzimmer understand that mounting debts can overwhelm even the most well-intentioned people. We offer a free consultation to evaluate your financial situation and find a plan thats best for you.
State of Ohio Chapter 7 Bankruptcy and Tax Debts
A Chapter 7 bankruptcy is considered to be a fresh start bankruptcy, as it enables you to discharge most or all consumer and/or business debts. Chapter 7 bankruptcy is over in a few months, so you can begin rebuilding credit quickly.
A Chapter 7 bankruptcy discharge of income taxes wipes out the personal obligation to pay the tax and prevents the taxing authority from going after your bank account or wages. IRS and local tax debts may be dischargeable through Chapter 7 bankruptcy if the tax debts meet the following requirements:
Nondischargeable Tax Debts
Buttax Liens Don’t Go Away
If the IRS has already placed a lien on your property, you’re out of luck. Even if you can discharge an income tax obligation, the discharge only wipes out your liability for the debtthe lien will not go away. So even though the IRS won’t be able to garnish your wages to collect the discharged tax debt, you’ll need to pay off the lien when you sell the property.
What Happens When You File For Bankruptcy
Filing for bankruptcy will have major repercussions on the rest of your finances. It will discharge you from unsecured debts, which includes credit cards, payday loans, amounts owing to utility companies, student loans under certain circumstances, and tax debt.
The downside is that you will have to sell any non-exempt assets you own to pay off your creditors, as well as 50% of any surplus income over a certain threshold.
Bankruptcy will provide CRA debt relief, but it will come at a cost. Some of the assets that could be liquidated if you declare bankruptcy include:
- Vacation and investment properties that are not your primary residence;
- Secondary vehicles;
- Non-RRSP investments, including TFSAs, as well as RRSP contributions made in the 12 months before filing;
- Jewelry, artwork, collectibles, and other valuables.
In addition to surrendering assets, you will also have to make surplus income payments for 21 months until you are finally discharged from your debts. Surplus income payments are 50% of any net income earned above a certain threshold that depends on the size of your family. It should give you enough to live, but the payments can be considerable depending on your income.
If you owe money to the CRA, bankruptcy will eliminate those debts, but these are all factors to consider. Talk to an insolvency trustee about your options.