Tax debts are typically considered “priority” debts. This means that they are addressed and paid first when assets are liquidated in Chapter 7. If there are no assets to pay for the priority debt, the debt will survive the bankruptcy discharge. However, income taxes lose their priority over time. When the income tax debt becomes “nonpriority,” it can be discharged in a Chapter 7 bankruptcy, like any other dischargeable debt.
In order for income taxes to be eligible for discharge in a Chapter 7 bankruptcy, the following rules must be met:
The taxpayer filed the return for which the balance is due.
The tax return was not fraudulent.
The due tax of that return is more than three years old.
The return was filed more than two years ago.
The last date of assessment on the return occurred more than 240 days ago.
There is no evidence the taxpayer has committed tax evasion.
These criteria must be applied to each year’s tax debt to determine if that year’s unpaid balance is dischargeable through bankruptcy. Some of your tax debts might be while others might not.
Both bankruptcy and an OIC have the ability to fully resolve the taxpayer’s entire tax balance. Deciding which option to pursue depends on the taxpayer’s situation. Taxpayers with only tax debt may want to go the OIC route. Taxpayers who have tax debt and other dischargeable debt may want to pursue a bankruptcy. A taxpayer’s 401K can be protected in bankruptcy, whereas the IRS may want to count the 401K as an asset and include it in the OIC. Accordingly, it would be wise to seek the counsel of an attorney who can provide both Offers in Compromise and bankruptcy services.
Making the determination as to whether a taxpayer’s income tax debt qualifies for a discharge in bankruptcy takes a skilled legal practitioner. As the founder of The Law Office of John D. Harrington, PLLC, I have years of experience reviewing tax transcripts and determining whether income tax debt qualifies for discharge in bankruptcy.
The bankruptcy option for tax debt relief is another example of why people with tax problems need an attorney. Only properly admitted attorneys can file bankruptcy petitions. Only attorneys can render legal opinions as to whether you qualify for bankruptcy and whether your tax debt qualifies for discharge in bankruptcy. CPAs, accountants, and enrolled agents cannot render an opinion as it is the practice of law.
There are other reasons to file a bankruptcy, even if the tax debt is not dischargeable. Discharge of other debt can free up funds to pay off your tax debt. Even if the tax debt is not dischargeable, as long as the due date of the returns were more than three years old, the penalties can be discharged.
A taxpayer may have $30,000 in credit card debt for which they make a minimum payment of $1,200. They are also paying $450.00 per month toward an income tax debt of $30,000. The tax debt is from a return that was filed a year ago, but the due date on the return was more than three years ago. Once the taxpayer goes through a Chapter 7 bankruptcy, the credit card debt is written off as well as penalties on the taxes leaving $25,000 remaining on the tax debt. After discharge, a new payment plan can be negotiated with the IRS based on the $25,000 owed and the new payment would be $350.00 per month. In this example, the taxpayer got rid of the credit card debt, reduced their tax debt by $5,000, and freed up an additional $1,300 per month or $15,600 per year.
Contact The Law Office of John D. Harrington, PLLC, today for a free consultation regarding taxes, debt and bankruptcy. I serve those in the areas of Ann Arbor, Southfield, Oakland County, including Flint, Washtenaw County, or Bloomfield Hills. Call my office in Brighton or use this email contact form.