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How Does Bankruptcy Affect Tax Filing

What Makes A Chapter 12 Bankruptcy Different Than A Chapter 7 Or Chapter 13

How does filing Chapter 7 Bankruptcy affect filing taxes in Minnesota? By Dr. Jesse Horoshak

In a Chapter 12 bankruptcy, usually, the debtor is a family farmer or fisherman. To qualify as a family fisherman, at least half of their income from the previous year must be from fishing. To qualify as a farmer, at least half of a taxpayers income for the last three years must come from farming activities. In a chapter 12 bankruptcy, taxes are priority liabilities, and the taxpayer must pay them first.

My Spouse Is Filing For Bankruptcy Now What

As Licensed Insolvency Trustees we often receive questions from the spouse or common-law partner of someone who is considering filing for bankruptcy. Along with wanting to be supportive of their partners financial rehabilitation, they often have a range of concerns about how a bankruptcy will affect their own financial standing, credit or assets. Read on to help clear the air around some frequently asked questions you may have about your spouse filing for bankruptcy:

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    Bankruptcy Is Supposed To Help You Get A Fresh Start When You Have Too Much Debt But It Will Affect Far More Than Just Your Credit Scores

    There are different types of bankruptcy called chapters and the type of debt you have can influence the chapter you need to file, and how your bankruptcy case will progress. In some cases, the bankruptcy court may require you to sell your assets in order to pay part of your debt. Or, the court may make a payment arrangement for you to pay off creditors over several years before the remaining balance of your debt can be discharged.

    If your debts include tax debt, you may be able to get it discharged, depending on the type of tax debt.

    Because laws related to bankruptcy and taxes are both complicated, its important that you understand before you file for bankruptcy how it will affect past tax debt as well as future obligations to the IRS. Its best to consult with a lawyer before making any decisions about bankruptcy . But this guide can help you learn a little more about how bankruptcy can affect your taxes during and after filing.

    Spend Your Tax Refund Before Filing

    How Does Bankruptcy Affect Tax Debts?

    If it looks like your tax refund will not be exempt, you may want to delay your bankruptcy filing. Often the best way to avoid losing your tax refund in bankruptcy is to spend your refund before you file for bankruptcy. Spending your tax refund on luxury items like jewelry will create problems in your bankruptcy case. But you can use your refund on many ordinary expenses, including rent, mortgage payments, home repairs, food, utilities, clothing, educational expenses, car repairs, medical and dental expenses, and insurance. And if you have spent your tax refund on ordinary expenses before you file for bankruptcy, there is no tax refund to protect in your bankruptcy case.

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    Tax Obligations In Bankruptcy

    Felicity is a 37 year old unemployed woman from Dandenong in Victoria. She is currently single and has no children.

    For 8 years she was a sole trader running a small business as a pastry chef. Felicity struggled to stay on top of her bookkeeping and bills. As a result, personal and business debts built up until Felicity had no choice but to close the business.

    Felicity ended up filing for bankruptcy. At the time she had not lodged a tax return for the past 4 financial years.

    Felicity listed the Australian Taxation Office as a creditor on her bankruptcy form. She did not know how much she owed because of her unfiled tax returns. She estimated on her form that it would be about $150,000.

    AFSA contacted Felicity to talk about her bankruptcy. AFSA explained that Felicity still needed to lodge her overdue and future tax returns in the normal way. AFSA does not do this for her and bankruptcy does not remove this obligation.

    AFSA explained that most ATO debts are covered by bankruptcy. This means they do not have to be repaid . The ATO would still be a creditor in the bankruptcy, which meant that if any money became available to pay creditors, the ATO would get a share.

    However, any tax refund Felicity is entitled to during her bankruptcy may be kept by the ATO. The ATO would use this money to pay off some of her tax debt. This would reduce the ATOs claim against Felicitys bankrupt estate.

    Does Filing Bankruptcy Help

    For many debtors, filing bankruptcy is a huge relief. As soon as you are declared bankrupt, there is no longer an obligation to repay the debts you filed. This means creditors can no longer contact you, and the pressures and stress of overwhelming debts are released. Its also possible to keep some non-exempt assets including a car that may be required for work. Of course, bankruptcy does also impose some restrictions on borrowing money, and it will have an impact on your credit report. Discover more about life after bankruptcy.

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    Bankruptcy And Future Tax Returns

    Whether future returns and refunds are affected depends on the type of bankruptcy filed. If an individual filed for Chapter 13 bankruptcy, the repayment plan may demand that for the first few years following the filing all or a portion of the tax refunds after bankruptcy be turned over and used to pay off debts.

    With Chapter 7 bankruptcy, however, only tax refunds for income earned before filing are affected. The time at which the individual files for bankruptcy could result in a portion or all the refunds being seized. If, for example, the individual files for bankruptcy halfway through the year, the trustee can seize just half of that years tax refund, and the rest will go to the individual. If the individual files after the first quarter, a quarter of the refund may be seized and the rest refunded to the individual. All future refunds go directly to the individual, as with any other return.

    Tax Refunds Are Property Of The Estate

    How filing bankruptcy could affect your tax return and refund. Attorney Robert Geller.

    Your bankruptcy estate is the pool of your assets on the date of your bankruptcyfiling. Unless these assets are protected by an exemption, your bankruptcy trustee can distribute them to your in repayment of your debts. Tax refunds are tricky because they are often part of your bankruptcy estate even though you may not receive the refund until months after your bankruptcy filing.

    Hereâs the rule: if you earned all or part of a tax refund for work you did before filing for bankruptcy, that portion of your tax refund is part of your bankruptcy estate. So that portion of the refund belongs to your trustee, unless the refund is protected by an exemption.

    Example 1: David files for Chapter 7 bankruptcy on January 1, 2019. Two months later, David files his tax return for the previous year and he receives a $2,000 tax refund. Because David earned 100% of the tax refund for his work before filing for bankruptcy, the entire tax refund is part of Davidâs bankruptcy estate. Unless David can protect the refund with an exemption, the bankruptcy trustee is entitled to the $2,000 refund.

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    How Does Your Bankruptcy Affect The Filing Of Your Tax Returns

    People who are over their heads in debt and considering bankruptcy have a number of decisions to make regarding bankruptcy and taxes. As bankruptcy attorneys, we often hear questions from clients about how bankruptcy will affect taxes and tax returns. An individual who files for bankruptcy under Chapter 7 or Chapter 13 of the federal Bankruptcy Code is still required to file an individual tax return or to request a filing extension.

    If an individual going through chapter 13 bankruptcy fails to file a tax return properly or request a filing extension, it can result in a bankruptcy case being dismissed or converted to chapter 7.; Bankruptcy is a complicated process and it can involve changes in the filing of tax returns. A misstep can be costly. It is important to understand the tax implications of a bankruptcy to make forward-looking decisions. You should seek the guidance of a knowledgeable bankruptcy attorney to review your specific situation.

    A Different Way To File Taxes

    The concept of bankruptcy is that you, as a debtor, surrender your right to handle your own affairs, and a trustee is appointed to oversee them, said Carl G. Archer, a bankruptcy lawyer with Maselli Warren, P.C., in Hamilton, New Jersey. Your affairs become part of an estate, the same way they would be if you were incapacitated or if you had died. The trustee’s sole responsibility is to pay creditors with any assets that aren’t exempt under federal or state law, whichever is applicable.

    The confusion for taxpayers in bankruptcy springs from the requirement for the filing of two types of tax forms. One is for the individual and the other is for the bankruptcy estate.

    As a Chapter 7 debtor, you would file your usual 1040 the same way you normally would any other time, Archer said. The trustee would not have anything to do with that because it’s not a debt; it’s an obligation that you have to file that paperwork with the federal government. The trustee, however, would file a Form 1041 for the bankruptcy estate.

    On the other hand, if a debtor files for bankruptcy under Chapter 11, he typically remains in control of the assets and will act as the bankruptcy trustee. The debtor acting as the bankruptcy trustee is required to file both the individual 1040 individual return and the 1041 bankruptcy estate return.

    In the case of a Chapter 13 bankruptcy, the debtor pays disposable income into a monthly plan to pay creditors.

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    Bankruptcy In The United States

    Like the economy, bankruptcy filings in the U.S. rise and fall. In fact, they are like dance partners; where one goes, the other usually follows.

    Bankruptcy peaked with just more than two million filings in 2005. That is the same year the Bankruptcy Abuse Prevention and Consumer Protection Act was passed. That law was meant to stem the tide of consumers and businesses too eager to simply walk away from their debts.

    The number of filings dropped 70% in 2006, but then the Great Recession brought the economy to its knees and bankruptcy filings spiked to 1.6 million in 2010. They retreated again as the economy improved, but the COVID-19 pandemic easily could reverse the trend in 2021. It seems inevitable that many individuals and;small businesses will declare bankruptcy.

    Planning For Chapter 7

    How does your bankruptcy affect the filing of your tax ...

    Here are some ways to increase your chances of keeping your tax refund in Chapter 7 bankruptcy.

    If you file during tax season. Individuals who file bankruptcy during tax season often have to figure out what to do with the tax refund they have just received. You can use any available tax refund or wildcard exemption to protect it. But if your state doesn’t offer these exemptions, or you want to save your wildcard for other assets, consider these strategies:

    • If possible, file for bankruptcy after receiving and spending your tax refund. If you choose to do this, be sure to use your refund on necessities and not to purchase new assets.
    • Use your tax refund to pay your bankruptcy attorney for the fees and costs of your case.

    These strategies have been found to pass muster in most bankruptcy cases because you’re allowed to use your assets to pay expected living expenses. Neither option involves an attempt to avoid paying a creditor, which is considered fraudulent in bankruptcy.

    Adjust withholdings. If you expect a significant return because of amounts deducted from your paycheck, the fix is to adjust your tax withholding early in the year. Keep in mind that this tip won’t be as helpful if you change your withholding later in the year such as from October through December.

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    What Happens To Your Car In A Chapter 7 Bankruptcy Can You Keep It

    When you need to file for bankruptcy, it can be a stressful time. As you struggle to find the right solution and get debt relief, many things can make this process even more complicated. A Chapter 7 bankruptcy filing erases your debts, but theres a catch. If you have any assets, they will be taken away and sold to pay for your debts to creditors. That includes your car or house.

    Can you keep your vehicle if you file bankruptcy under Chapter 7? The answer is yes. You need to meet the requirements of bankruptcy exemption laws or if the bankruptcy trustee decides that you can keep the vehicle provided that you have a payment plan.

    Will I Be Responsible For My Spouses Unpaid Debts If They Go Bankrupt

    The act of marriage on its own does not give your spouses creditors the right to demand payment from you for your spouses unpaid debts if they file bankruptcy.

    You will not be responsible for repaying the creditors for the debts eligible to be discharged unless you have co-signed on the debts included in your spouses bankruptcy. In the event that there was a co-signer on the debts then the responsibility of repayment would then fall to that person. A spouse could also wind up liable for credit card debt if they used a supplementary card with their own name on it.

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    Can I Keep My Tax Refunds If I File Chapter 7

    Tax season is here again. Understandably, people filing or considering filing Chapter 7 are concerned about losing their tax refunds. The good news is that if done properly, the bankruptcy filing will most likely not cause the loss of a tax refund. Most debtors lose their tax refunds because they fail to properly disclose and exempt the tax refunds, which is common when attempting to file without an attorney or when hiring an inexperienced or careless bankruptcy attorney.

    What Assets Are Part Of The Bankruptcy Estate In California

    Filing Bankruptcy and Your Tax Refund

    California is a community property state, which means that barring an agreement to the contrary, property acquired during the marriage normally belongs to both spouses no matter whose name is on the title. That means whether you file a bankruptcy jointly with your spouse or you file individually, all that community property is part of your bankruptcy estate. When you file individually in a community property state like California, a lot more property becomes part of the bankruptcy estate and subject to bankruptcy law than would be the case if you filed individually in a common law state. ;Your California bankruptcy lawyer can explain what property can be protected by bankruptcy exemptions.

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    Turnover Of Tax Refund

    Finally, if youâve already filed for bankruptcy and your tax refund is not exempt, make sure not to spend the refund check. That will get you into trouble. Instead, you must contact your trustee asking how to turn over the non-exempt refund funds. Failing to turn over your non-exempt tax refund can lead to you being denied a bankruptcy discharge.

    When youâre filing for bankruptcy, itâs important to pay attention to your tax refund so you donât lose it. Hopefully, the refund can be protected by your exemption scheme. But if not,the best solution is to spend your refund on essential expenses before filing so it doesnât need to be protected in your bankruptcy.

    What Are Some Other Solutions For Tax Debt

    If unpaid tax debt has you considering bankruptcy, you may want to explore other solutions first especially in light of the complex rules for bankruptcy and taxes.

    These alternatives could include entering into an installment agreement with the IRS, making a deal with the IRS to delay collection efforts, or entering into an offer in compromise. An offer in compromise is an agreement between you and the IRS that allows you to pay a reduced amount.

    There are pros and cons to each of these approaches. For example, youll need to pay a user fee for an installment agreement and will owe fees, interest and possible penalties. And the IRS wont always accept an offer in compromise.

    Still, because these solutions address only your tax debt and dont affect other areas of your finances as much as bankruptcy does, they could be worth considering.

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    Bankruptcy And The Irs

    There are advantages to bankruptcy beyond the temporary Automatic Stay protection. In many cases, your bankruptcy can extend the time required to pay your debt. The IRS is considered a priority creditor in most cases, meaning the interest is secured by the Notice of Federal Tax Lien. This instrument is used by the IRS to set a claim against your property for payment. The IRS, unlike a credit card company, has greater power to reach some kinds of assets, possibly including your home.


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