Business Taxes In Bankruptcy
Income taxes that you incur personally as a result of operating a business are dischargeable in bankruptcy under the 3-2-240 rules. However, different rules apply to other business-related taxes:
Payroll Trust Fund Taxes. Trust fund taxes are not dischargeable in bankruptcy. Trust fund taxes include payroll taxes that employer withholds from an employee’s pay on behalf of the government. If you fail to withhold required taxes or withhold the taxes from an employee’s check but fail to pay the withheld funds to the taxing authority, the taxes are not dischargeable.
Employer’s Portion of the Payroll Tax. The employer’s part of the payroll tax is dischargeable in bankruptcy under rules similar to the 3-2-240 rules. The debtor must file for bankruptcy a minimum of three years from the date that the IRS 941 form was due and two years from the date the debtor filed the tax forms.
Sales Tax. Like other trust fund taxes, sales taxes are not dischargeable in bankruptcy in Pennsylvania.
Consumer Proposal Tax Returns Vs Bankruptcy
It is essential to consider the future of your tax returns when you are weighing your options and considering a consumer proposal vs a bankruptcy.
One of the reasons David Sklar & Associates encourages clients to consider a consumer proposal over bankruptcy is that it allows you to keep your tax refunds and protects you in the case of any future increases in income
In the case of a consumer proposal, you will agree to pay your creditors a fixed monthly amount for a period of up to five years. That agreement doesnt change unless you file for a new one with a faster payback rate.The average tax refund in Canada is $1,700, which is money that can help a lot when youre climbing your way out of debt. In bankruptcy, these returns are forgone. Consider how consumer proposal tax returns get treated differently than bankruptcy tax returns.
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.
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How Will An Automatic Stay Affect Tax Debt
The IRS has some fairly extensive rules on what the automatic stay will and wont do when it comes to your back taxes and their collection actions. As with any other type of debt, bankruptcys automatic stay will prevent most collection actions by the IRS, including:
- Collection letters and balance due notices
- Wage garnishment
- Tax refund offset, where they take your current refund to pay off existing tax debt
- Filing a new Notice of Federal Tax Lien
However, there are other IRS actions that the automatic stay wont prevent or stop. Even after you file for bankruptcy, the IRS can still:
- Do a tax audit to determine your liability
- Issue a notice of deficiency
- Issue a demand for a tax return if you have not filed yet
- Refile a Notice of Federal Tax Lien
- Intercept your tax refund for past-due child or spousal support
Bankruptcy And Tax Debt
Its more common than you think: simple income tax debt can drive Canadian consumers and small business owners into insolvency. Tax bills can be large and unexpected, and the Canada Revenue Agency can be ruthless. To top it off, CRA has powers of collection that are unavailable to other creditors.
When you are sure just how much income tax you really owe to CRA, and have considered less serious solutions , your final possibility is to resolve your income tax debts with bankruptcy.
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Does Bankruptcy Clear Tax Debt
Filing for bankruptcy can clear tax debt depending on the nature and circumstances of your situation. Certain tax obligations may be discharged, forgiven, or managed in a bankruptcy filing. Here are some of the criteria that the IRS will consider when deciding whether or not you or your business is eligible for complete tax forgiveness.
- The dates you filed your required returns : The IRS is more likely to assist you when they see that you have made an effort to pay your taxes on time.
- The age of the taxes: The IRS is going to examine the date the returns were last due or meant to be filed.
- The date of assessment of the taxes.
- Willfulness: If the IRS has any reason to believe that you willfully attempted to evade payment of the tax by fraud they will immediately dismiss any tax forgiveness through bankruptcy.
Whether or not the IRS will grant tax bankruptcy discharge is directly tied to the above factors as well as any other miscellaneous factors that pertain to the particular chapter you choose to file under.
Adjust Tax Withholdings For Your Income
Once you know that bankruptcy is the option you need and you start that process, it is a good practice to update your tax withholdings from your employer. You want to make sure that enough money is coming out to cover your taxes so that you will owe less at tax season. A tax specialist will guide you on the right exemptions you may need so that the right amount is coming out of each taxable income you may have.
If your income is earned off of contracted labor through 1099 forms, you will need to send in quarterly payments to the IRS to cover these taxes. You do not want to have a large tax bill due following the bankruptcy. If you do not file quarterly, you could also be penalized with a fine.
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Important Note On Late
Filing a tax return late is a costly mistake, whether or not you file for bankruptcy. In bankruptcy, it can be catastrophic. Unfortunately, a some courts, including a federal appeals court, have held that a tax return filed even a day late is not a tax return under the statute allowing discharge of tax debts in bankruptcy. In other words, if your forms were filed late without an extension in any given tax year, you cannot discharge the taxes for that year.
To be sure, the courts’ interpretations of the statute are tortured and run counter to the Bankruptcy Code’s purpose. Hopefully, the U.S. Supreme Court will clarify this issue. However, until then, I advise clients that debts arising from late-filed forms may not be dischargeable. In the meantime, if you have unfiled tax returns, you should get them filed as soon as possible.
Quick Note:If you know you will be filing late, get an extension. Even if you cannot pay the amount due, at least file the forms. As discussed below, you can lose your ability to discharge taxes in bankruptcy and incur unnecessary penalties if you file late without an extension.
The Importance of Filing Tax Returns on time. There here is no upside to not filing your tax forms or filing them late. In my Philadelphia bankruptcy practice, I sometimes see clients whose taxes would have been dischargeable, if only they had filed their tax forms or filed them on time.
Erasing Tax Debt With A Bankruptcy
Is bankruptcy the right option to deal with your back tax debt? Maybe the right solution for you depends on your situation.
If your only debts are taxes then we will need to discuss how those debts came about. The Canada Revenue Agency has specific policies to deal with different scenarios. For example, if you filed your tax returns on time every year, but have been unable to pay the debt, CRA treats you better than someone who has never filed any tax returns. Your bankruptcy trustee will want to discuss how your tax debts were created and the trustee will select the most appropriate options for you to consider.
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Does Bankruptcy Clear Tax Debt In Missouri And Kansas
Tax debt is not quite the same as other consumer debts, and cannot always be discharged through bankruptcy. However, in some cases, particularly with old taxes, bankruptcy can provide debt relief. You can discharge tax debt in either Chapter 7 bankruptcy or Chapter 13 bankruptcy if:
- The debt is for income taxes. Property and other types of taxes are not eligible for discharge.
- The tax debt is at least three years old and returns were filed. New taxes are generally nondischargeable for this reason. However, the statute of limitations on tax collection is 10 years, so if you have older overdue taxes, bankruptcy can help.
- You filed tax returns for eligible debt at least two years before filing bankruptcy. If you do not file, the IRS may complete a return for you. However, this substitute return is not sufficient if you wish to file bankruptcy. You must file a tax return for each year yourself, even if you miss the deadline. We often tell clients that being unable to pay your taxes is not a crime, however, not filing a return is a crime!
- Your debt passes the 240-Day Rule. If the IRS has assessed your tax debt, it must be at least 240 days prior to the day you file bankruptcy. In an assessment, the IRS considers what you owe and tries to negotiate a solution with you.
When Can Tax Debts Be Discharged
IRS and New Jersey personal income taxes can be discharged if the following conditions are met:
- The tax debt is more than three years old.
- The tax return was filed more than two years before your bankruptcy filing.
- The tax was assessed more than 240 days prior to filing bankruptcy.
- There was no willful attempt to evade personal income tax.
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You Can File A Bankruptcy If Your Taxes Arent Done Sort Of
The Bankruptcy Code requires you to provide the bankruptcy trustee a copy of your Federal income tax return for the most recent tax year ending immediately before filing the bankruptcy. So if you file bankruptcy in 2020, you are required to produce your 2019 tax returns. Failure to provide these returns to the trustee will result in the trustee moving to dismiss your case.
If you are able to file your tax returns before filing bankruptcy, you should. This makes everything easier. If your taxes arent done, we typically advise you to not file your bankruptcy until your returns are filed.
But what if theres an emergency? Lets suppose your house is being sold at a foreclosure sale and you havent file your tax returns. Can you file the bankruptcy? Yes, you can file bankruptcy if your taxes arent done, but youll need to supply your tax returns within 7 days of your 341 meeting of creditors. That means youll have about a month to prepare and file your returns.
Does Bankruptcy Clear State Tax Debt
State tax debts can sometimes be cleared by filing for bankruptcy. It depends on the type of tax debt that is owed. Many of the same rules apply to state income tax debt and tax debt owed to the Internal Revenue Service , but not all. In this article, you’ll learn about:
- state rules for wiping out tax debt
- state taxes that aren’t dischargeable in bankruptcy, and
- paying off nondischargeable tax in Chapter 13 bankruptcy.
Be aware that tax liability resulting from business ownership, such as sales, withholding, and franchise tax, have specific rules that vary between states. Youll want to speak with an experienced attorney about your particular case.
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Debts Never Discharged In Bankruptcy
While the goal of both Chapter 7 and Chapter 13 bankruptcy is to put your debts behind you so that you can move on with your life, not all debts are eligible for discharge.
The U.S. Bankruptcy Code lists 19 different categories of debts that cannot be discharged in Chapter 7, Chapter 13, or Chapter 12 . While the specifics vary somewhat among the different chapters, the most common examples of non-dischargeable debts are:
- Alimony and child support.
- Certain unpaid taxes, such as tax liens. However, some federal, state, and local taxes may be eligible for discharge if they date back several years.
- Debts for willful and malicious injury to another person or property. âWillful and maliciousâ here means deliberate and without just cause. In Chapter 13 bankruptcy, this applies only to injury to people debts for property damage may be discharged.
- Debts for death or personal injury caused by the debtorâs operation of a motor vehicle while intoxicated from alcohol or impaired by other substances.
- Debts that you failed to list in your bankruptcy filing.
What Are The Requirements For Tax Discharge
There are a number of pre-requisites that have to be met before you can solve your bankruptcy tax debt. In order to be cleared of all income tax debt , the following minimum requirements have to be met:
- 3 years need to have passed since your returns were last due to be filedthis includes any extensions that you may have received.
- The returns were filed in a timely manner or its been at least 2 years since the returns were filed.
- There was no fraud or attempts to avoid and evade paying the IRS .
- The taxes havent been assessed in the last 240 days.
Sometimes, there are occasional exceptions and ways to get around the above requirements. You shouldnt give up on filing for bankruptcy to absolve yourself of tax debt until you have a qualified professional take a look at your files first. Even if you cant completely get rid of your tax debt through bankruptcy, you may be able to get a partial tax bankruptcy discharge for some of itand set up a payment plan for the rest.
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Can I Discharge Income Tax Debts In Bankruptcy
Although revised bankruptcy laws require that delinquent taxes be treated similarly to all other debts, not all tax debts can be discharged in bankruptcy. Under a Chapter 7 bankruptcy plan, five criteria must be met in order to successfully discharge federal and state income tax debts:
The tax debt must be related to an income tax return that was due at least three years prior to the bankruptcy filing. The tax debt must be related to an income tax return that was filed at least two years prior to the bankruptcy filing. The tax debt must have been assessed by the IRS at least 240 days prior to the bankruptcy filing. The tax return does not contain fraudulent or misleading information. The taxpayer cannot be guilty of tax evasion.
If a debtor fails to comply with the terms established by the Chapter 13 repayment plan, all interest and penalties assessed by the IRS will be calculated retroactively, as if the bankruptcy had never occurred. The chapter 13 bankruptcy case is a good option to resolve any tax debt whether it is dischargeable or not.
The rules stated above only deal with income taxes, other rules apply to other forms of tax debt.
Tax Debt: Bankruptcy And The Automatic Stay
Most IRS collections start with a notice of past-due taxes. Then, every few months, the IRS sends another letter. Each is slightly more threatening than the last. Eventually, these letters become legal notices. They also sometimes involve filing a lien, seizing a bank account, or garnishing wages. The automatic stay acts as a pause button. It prevents creditors from contacting you to collect their debts. As soon as you file your voluntary petition, the automatic stay usually takes effect. When that happens, IRS agents can’t even send you a letter about your back taxes. They are forbidden from trying to collect the debt.
The automatic stay extends to property as well. Although most of your personal property is exempt â or protected â during Chapter 7, the IRS and other debt collectors can’t touch any of the more valuable assets you happen to own.
An automatic stay is a powerful tool for protecting individuals. No matter what stage IRS collection efforts are in, the automatic stay stops them cold. With few exceptions, the stay applies to all forms of communication between debtors and creditors. Creditors who violate the stay can face serious consequences. And, although the stay prevents creditors from contacting you, it does not prevent you from beginning conversations with them. This puts you in control of negotiations with your creditors during bankruptcy.
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