You can bankrupt income taxes in a Chapter 7 or 13 bankruptcy but only if all of the income tax rules are met. Taxes other than income, such as payroll taxes, a 100% penalty, Trust Fund Recovery penalties, fraud penalties, or several other unusual types of taxes are excepted from bankruptcy discharge but can be repaid in full in a Chapter 13 bankruptcy as a priority debt. Generally if the priority debt’s principle is paid in full the penalties and interest that accrue during the Chapter 13 can be discharged but appropriate language should be in the plan to insure discharge.
1. First you have to file the income tax return. The income tax return must be filed at least two years prior to filing bankruptcy on taxes.
2. The income tax must have become due at least three years ago. An income tax debt does not become due until the return is due to be filed. As an example if the 2002 year return was filed on January 15th 2003 it still became due on April 15th 2003 and was not dischargeable in bankruptcy until April 16th 2006 at the earliest. If you filed an extension, then October 15, is the due date. If the 15th falls on a Saturday or Sunday, the return wasn’t due until a following Monday (unless Monday was also a holiday).
If you fail to file a return the IRS will often file a substitute tax return for your tax return. In that case the time never runs since the tax return was never properly filed and assessed. There is no good faith filing to an IRS generated return because the return must be both signed and filed or given to the IRS.
3. If an income tax was assessed within 240 days prior to filing your bankruptcy you may have to wait until 240 days have passed to discharge the debt.
Income taxes that obey all 6 of the discharge rules and qualify for discharge are treated and discharged the same as any other unsecured debt. There is no discharge for fraudulent tax returns and willful evasion which are the last 3 rules. In order to bankrupt your taxes and not lose property the tax debt must be unsecured. The IRS lien is a statutory lien and cannot be avoided by a 522(f) motion to strip the lien like judicial liens. The IRS in a Chapter 13 will amend it’s claim to the amount you state your property is worth so use liquidation not replacement value for property. After 10 years the tax lien expires automatically. Here is the form to release the lien. Here are the internal tax codes to determine when the tax was assessed or filed but you must have an account transcript to read them Tax Transcript Codes you can get a copy of your return and your account transcript from the 1-800-829-1040 number for the IRS. They will fax the docs to you. Please stand at the fax machine to confirm transmission. Also see our manual and the checklist of documents you will need
The time allowed to the IRS to collect is extended by the non filing of a return, requesting a due process hearing, an offer in compromise or filing a bankruptcy on taxes. These events ”toll” (extend) the “3-Year Rule” and the “240 day rule”. The 3-Year, 2-Year and 240-Day are extended by the period of bankruptcy plus an additional 6 months. If you file an offer in compromise, the 240-Day period is extended by the period it is under IRS consideration, plus 30 days. We compute the time periods all the time for clients we used to work for the Tax Department.
Be especially careful about when a debt is charged off. The Mortgage Forgiveness Debt Relief and Debt Cancellation Act will now expire on December 30th 2013. Lenders have report charged off account amounts as a 1099-c income for Debtors which can cause a tax debt. The IRS requires lenders to report this so that they can take it as a tax write-off. For a time Homeowners were able to avoid the taxable income from a mortgage modification or a foreclosure. But now the failure to file a bankruptcy before a mortgage or debt is charged off will trigger a substantial tax debt that is not dischargeable in bankruptcy for at least 3 years. We expect that this new development will be what triggers a new flood of Chapter 7 and Chapter 13 bankruptcy on taxes cases. There is a calculator to help you determine the exact date you qualify for a discharge for income taxes.