Can bankruptcy help me with my tax debt?

Bankruptcy can stop tax enforcement action, such as bank account levies, seizures and wage garnishments. The automatic stay stops the IRS and the Mississippi State Tax Commission (MSTC) from continuing these collection actions.  Some taxes can be discharged but most cannot.  Thus, once a chapter 7 case has been completed, the IRS and/or MSTC can start collecting the taxes that were not discharged.

While not all taxes are dischargeable, bankruptcy can be a tool for establishing a reasonable payment plan where you can pay back taxes without fear of your accounts being levied or wages being garnished. For example, a Chapter 13 can be used to pay back taxes over three to five years.   There will be more on what can be done in chapter 13 cases below.

What taxes can be discharged in a chapter 7 case?

Certain taxes, such as trust fund taxes, are never dischargeable.  The two most common trust fund taxes are sales taxes collected by a business which are never paid over to the state and payroll taxes withheld from employee’s salaries which are never paid over to the IRS or MSTC.

For income taxes to be dischargeable, the tax debt must meet the following conditions:

  1. The tax must have been due at least 3 years prior to the date of filing the case.  Example: 2004 taxes due on April 15, 2005 met the three year requirement on April 16, 2008.  However, if the person obtained an extension for the filing of the tax return to August 15 or to October 15, 2005, the the three year period did not end until August 16 or October 16, 2008.
  2. The tax return has to have been filed at least 2 years prior to the filing of the case.  If the return was filed on time, this time period will be satisfied, but if it was filed late, then it is critical for the bankruptcy lawyer to find out what date the return was filed.
  3. If there was an additional assessment, then the additional tax must have been assessed at least 240 days (approximately 8 months) prior to the filing of the case.  Example:  If the IRS determines that an individual was not allowed to claim a child as a dependent or if the IRS finds that the individual earned more income than was reported and assesses additional tax liability to that person, then the 240 day rule applies.

Our staff will obtain information from the IRS to make sure that when we file the bankruptcy case that our client knows what he/she can discharge by filing at the time we review this for them and how much additional tax can be discharged by waiting along with how long we must wait to file.

In one case, we were able to hold off filing a case for a client for approximately one and one-half years.  By waiting six months, the debtor was able to discharge an additional $25,000.00 and by waiting the next year he was able to discharge another $30,000.00.

What can be done under chapter 13 if my taxes can’t be discharged in a chapter 7?

The same basic discharge rules apply in chapter 13 cases.  However, for tax debt that is trust fund debt (sales taxes, etc), income taxes that are less than three years old, and any additional tax assessment made in the last 240 days, a chapter 13 does give additional relief.

  1. The automatic stay still stops the collection activity by the IRS, the MSTC and any other taxing authority and the stay remains in place during the entire chapter 13 proceeding (normally 3 to 5 years).
  2. The tax debt can be paid over the term of the plan with no new interest accruing during the plan.  (example: taxes owed $3,000.00 and interest due on date of filing $420.00, then the $3,420.00 can be paid over the 3 to 5 years with no new interest.  Upon completion of the plan and payment of $3,420.00 all accrued interest will be discharged)
  3. The penalties owed on the non-dischargeable trust fund taxes, taxes less than 3 years old and assessments less than 240 days old can be discharged with little or no payment in most cases.  (example:  In addition to the $3,420.00 tax and interest, the debtor owes $390.00 in penalties on the $3,000.00 tax.   If his/her plan proposes to pay nothing to general unsecured creditors, such as credit card debt, then the $390.00  penalty will be treated the same and when the case is complete the penalty and other unsecured debt will be discharged).

How does Gambrell & Associates, PLLC work with clients with tax problems?

Understanding what can be done related to tax liability can be complex and confusing even for some bankruptcy lawyers.  Thus, we make an effort to make sure that we stay current on how taxes can be discharged.  We not only review the information that you provide to us, but we obtain a transcript of each year’s tax liability to find out when you filed your returns, if you obtained an extension to file your returns, if there was an additional assessment made, how much debt is owed and how much of that is penalties.

Once we have a complete understanding of your situation, then we can explain to you what can be done and the best approach to take.

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