Filing for bankruptcy can help you manage outstanding federal income taxes that you owe. For instance, you might be able to eliminate IRS taxes, interest, and penalties if they’re old enough, and you meet certain other requirements. For IRS taxes that you can’t get rid of in bankruptcy, you can use bankruptcy to pay the outstanding balance you owe over three to five years.
Chapter 7 bankruptcy discharges (forgives) many debts without requiring you to pay into a repayment plan (if you qualify by passing the means test)—but not all of them. In the case of federal income taxes, if you meet requirements, older tax debts can be discharged. By contrast, new unpaid taxes are nondischargeable.
Applying the rules to determine whether your IRS taxes will be discharged in bankruptcy can be a bit challenging, to say the least. Here are the basics that you’ll need to know:
To be discharged, the debt has to be a tax on your income. Other federal taxes are not dischargeable, like excise, gift, or estate taxes. Taxes that you withhold from an employee’s pay (called trust fund taxes or 941 taxes) are not dischargeable if you failed to turn over the money to the IRS.
The tax must be at least three years old. It cannot be due on a return for one of the three most recent tax years. Also, you must be careful about extensions. The three-year rule runs from the date the taxes were due under the last extension the IRS granted you.
Suppose that you plan to file for bankruptcy on September 1, 2017. The three prior tax years are 2016, 2015, and 2014. The taxes that you owe for those years won’t be dischargeable.
But what about the taxes you owe for 2013? Your tax return for 2013 was due April 15, 2014, and, if you had filed your return by that date, your taxes might be eligible for discharge. If, however, you filed for an extension with a new deadline of October 15, 2014, a bankruptcy case filed on September 1, 2017, won’t discharge the 2013 income taxes because the taxes were due less than three years before that date.
To be dischargeable, you must have filed your return at least two years before you filed for bankruptcy. If you don’t file a return, the IRS might file a substitute return for you (the substitute return will qualify under the two-year rule). If you followed the IRS’s substitute return with one of your own, the IRS taxes you owe for that return would be eligible for discharge two years after the filing of the substitute return if you meet the other requirements.
Suppose that the IRS filed a 2012 return for you on April 1, 2014. You filed your own 2012 return on June 1, 2015. You’ll meet the two-year rule if you file your bankruptcy case after June 1, 2015.
Please be aware that in a few jurisdictions, the courts have concluded that once the IRS files a substitute return for you, you cannot remedy the situation by filing your return. In those jurisdictions, the taxes due on that return will never be dischargeable. A consumer bankruptcy attorney can help you determine if this is the rule the judge would apply in the court you would file your bankruptcy case.
You cannot discharge any taxes that were assessed within the 240-day period before you filed your bankruptcy case. Even though your taxes are considered “assessed” as of the day you file your tax return, the IRS can take a second look at your return, consider income that you didn’t include on your return, or even conduct a full-scale audit, after which the IRS may assess additional taxes.
If you commit fraud, like using a false Social Security number, or you willfully use the tax return to evade paying taxes, you’re out of luck. Taxes due on that return will never get discharged.
Each bankruptcy jurisdiction can interpret how these rules apply to some extent. For instance, in some jurisdictions, you’ll automatically lose the right to discharge federal taxes if you failed to file your return on time. To find out what to expect in your case, speak with a local bankruptcy lawyer.
Discharging IRS taxes you owe in bankruptcy can be quite technical. You could lose the right to discharge certain taxes if you make a mistake in your calculations, so it’s always advisable to consult with an experienced bankruptcy attorney, CPA, or other tax professional.
You should know that filing for bankruptcy won’t wipe out a tax lien that has already been assessed against your property, and therefore, even if you wipe out your personal responsibility to pay off the debt, your property can be used to satisfy the IRS amount owed. You’ll have to fully pay off your debt—regardless of its age—in order to get rid of a lien. (Learn more in What Is a Property Lien?)
If you owe any federal income taxes that aren’t dischargeable, you can use a Chapter 13 case to pay the debt over time. Under Chapter 13 bankruptcy, you propose a plan to pay all or most of your debts over a three- to five-year period. A Chapter 13 trustee will distribute your monthly payment among the creditors who file valid claims in your case, including the IRS. For the plan to be approved, it will have to provide that your entire nondischargeable tax debt, including interest and penalties, be paid in full by the end of the Chapter 13 plan.
You’ll include all of your debts in a Chapter 13 plan. A Chapter 13 case can help you keep property if you’re struggling with your mortgage, car loans, or unsecured accounts like credit cards while you’re paying off your income tax debt.
(You can learn more by reading about Chapter 13 bankruptcy.)