Is bankruptcy the solution to eliminating tax debt? Unfortunately, it’s not that simple or straightforward.
Although bankruptcy law does allow tax debt to be discharged under certain circumstances, a debtor is often still liable for their tax debt after bankruptcy. In a Chapter 13 bankruptcy, for example, tax debts go into a repayment plan. In a Chapter 7 bankruptcy, however, a debtor may be able to discharge federal tax debt if certain conditions are met.
According to the IRS, taxes are dischargeable under Chapter 7 if all of the following conditions are met:
- The tax debt is for federal income taxes. Other types of taxes or debts, such as tax penalties and payroll taxes, cannot be discharged in bankruptcy.
- The debtor filed a tax return. To qualify for discharge, the debtor must have field a legitimate tax return for the applicable tax years within the two year period preceding the bankruptcy filing. A late-filed tax return is not a “legitimate” tax return for purposes of discharging a tax debt in bankruptcy.
- The tax debt must be over three years old. The delinquent taxes must stem from a tax return that was due more than three years before the bankruptcy petition was filed.
- The 240 day rule has been satisfied. Under the so-called 240 day rule, the tax debt must have been levied by the IRS 240 days or more before the bankruptcy petition was filed.
- The debtor did not deliberately evade paying their taxes. Actions that may be considered evasive include changing one’s name or Social Security number, submitting an incomplete or blank income tax return and habitually failing to pay taxes.
- The debtor did not engage in tax fraud. The applicable tax returns must not have contained any information meant to defraud the IRS.
If all of these conditions are satisfied, delinquent tax debt may be discharged. Once tax debt is discharged, the debtor is no longer liable for the taxes and the IRS cannot pursue collection of the discharged debt.
Determining how to handle your taxes on your own can be tricky. Not even most math-savvy people like to do them. For help understanding your tax liabilities, contact a qualified tax attorney for advice.