If you’re thinking of filing bankruptcy because of heavy tax debts, there are some things you need to know before doing so. The Bankruptcy Code makes it pretty difficult for you to get your tax debts discharged, because the government’s trying to get paid.
However, it is possible to get some of your tax debts wiped out. You just have to have an attorney that knows which types can get discharged, and how to make sure that happens when you file.
What Kinds of Tax Debts are Dischargeable?
Only certain types of tax debts are dischargeable (which means they get wiped out by your bankruptcy filing so you don’t have to pay them anymore.) That means you could file bankruptcy and go through the whole process, and still owe some tax debts.
Tax debts can get discharged in bankruptcy if all the following things are true:
- The debt is from a year where you actually filed a return (fun side note: obviously, you don’t actually have to have paid the taxes, you just need to have filed the return.
However, if you didn’t file a return, you can get the taxes discharged if you file the return, don’t pay the taxes, and wait three years.
We know that’s not an option for most folks who need to get their debts sorted out in the short term.)
- You didn’t file a fraudulent return (meaning you told the truth and filled out your taxes honestly) and you didn’t try to evade taxes in any way
- The tax debt is more than three years old
- The IRS has to have assessed the tax debt at least 240 days ago
- The debt has to be for income taxes (can’t be social security, medicare, certain property taxes, etc.)
Which Type of Bankruptcy is Best to Handle Tax Debt?
It’s also important to know that your tax debts will be affected by which type of bankruptcy you file. See our other blog posts for the exact differences between chapter 7 and chapter 13 bankruptcy.
If you file for chapter 7, your “non-priority” tax debts will get discharged, if they meet all the requirements outlined above. That means they’re gone.
In chapter 13, they don’t automatically get discharged, but they are lumped in with your “non-secured” debts, like credit card bills and other debts that aren’t backed by some collateral you gave to a bank or other institution in exchange for the loan, credit, etc.
Getting lumped in with those debts just means that you’ll likely only pay a tiny portion of those debts, and then whatever’s left on them will get discharged at the end of your plan (three or five years).
Which Tax Debts are Definitely Not Dischargeable?
Having said that, there are certain types of tax debts (“priority tax debts”) which are not dischargeable, meaning they can’t get wiped out by bankruptcy. They are:
- Tax liens. If the IRS or the state you live in got a lien put on your property because you didn’t pay taxes, bankruptcy can’t wipe those out.
What will happen is that you’ll be personally off the hook for the taxes, but if you go to sell the property, the IRS gets what they’re owed from the sale price before you get any money. For all practical purposes, this means you’re still on the hook for the debt.
- Property taxes that are less than a year old. These can’t get discharged in any kind of bankruptcy, and what usually happens is that when you wait more than a year, the state gets a tax lien on the property for the taxes you haven’t paid.
In that case, the section above would apply.
- Most taxes that get taken out of your paycheck, or other taxes that get collected or withheld by a third party.
This means that any tax debt you owe because of medicare or social security, or other similar taxes like excise taxes (withholdings that get used for some public purpose), can’t get discharged.
This doesn’t matter for most people.
- “Non-punitive” tax penalties. These are just the penalties that go along with not paying the taxes you can’t otherwise get out of, as outlined above.
However, you can get these discharged if they’re associated with dischargeable taxes or if the event that created the penalty happened more than three years before you file.
Are There Alternative Ways to Eliminate Tax Debt?
If the only debt you are struggling with is tax debt, then bankruptcy might not be the most appropriate option for you. Or, at the very least, you should consider alternative ways of dealing with your tax debt before turning to bankruptcy.
One option is to make the IRS an offer in compromise. This is a system in place where you make an offer to pay the IRS what you can.
Though still less than what you owe, they may choose to accept the offer and forgive the leftover debt. There are catches, of course, and many people don’t qualify for this program.
Another option is to speak to the IRS to create a payment plan for paying your tax debt in installments. After all, they just want to get their money.
If their best chance of getting it back is through an installment plan, then what do they have to lose?
If neither of these options works, bankruptcy may still be a possible solution to your tax debt woes.
So, you can probably tell that things can get complicated when you deal with the IRS, and they make it very difficult for you get out of paying them. That doesn’t mean it’s impossible, though.
Give us a call and we’ll take a look at your debt and advise you on what your options are.
We know dealing with the federal government can be scary, but we’ve done it before, and we know how to get you out of paying, where it’s possible. Come sit down at the office for a consultation, and we’ll show you what we can do.