Consumer Bankruptcy:

Income Taxes and Tax Refunds

The treatment of your past due income taxes depends on if you apply for Chapter 7 or Chapter 13 bankruptcy. There are four requirements that must be met for federal income taxes to be wiped out under Chapter 7:

  • There cannot be a tax lien (filed by the IRS) on your assets. If there is, the lien is not eliminated by the bankruptcy discharge, and consequently, the government can still take property in order to collect the tax debts that have been discharged.
  • You cannot have filed fraudulently or attempted to evade paying your taxes
  • The taxes must be more than three years old
  • The tax deficiencies that had been assessed on past returns must have been done so at a minimum of 240 before the filing for bankruptcy.

In a Chapter 13 case, you will have to pay the IRS back, as part of your plan for repayment of debts. Failure to remain up to date on taxes after filing your petition for bankruptcy can undermine your Chapter 13 plan.

Before the Sec. 341 meeting of the creditors, you are required to file copies of your tax returns or transcript, including all tax returns that were not filed and additional amendments while your case is open. These should be filed with your case trustee, as well as any creditor who asks for it. Failure to do so may result in automatic dismissal of the case.

In these proceedings, the advice and guidance of an attorney can be invaluable; this is especially true if a federal Notice of Tax Lien has been recorded before the bankruptcy filing. This makes the discharge of taxes far more complicated.

An additional and relevant issue is if you are required to pay taxes while you are filing for bankruptcy, and obviously the answer is different for Chapter 7 and Chapter 13.

If you file for Chapter 7, a separate and taxable bankruptcy estate is created, which is composed of the property that belongs to you before the date that you filed and this is separated from you, as an individual taxpayer. The trustee is then responsible for dealing with the taxes of the estate (Form 1041) and for paying the taxes. You are still responsible for filing your return (Form 1040) for all income that does not belong to your estate.

Chapter 13 differs from this, in that it does not create a separate taxable estate for the purposes of federal taxes. You must file the same income tax return (Form 1040) that you filed before you filed for bankruptcy. If it is likely that you will be unable to pay your taxes after petitioning for bankruptcy, you should attempt to reach some agreement with the tax man.

Local property taxes must be paid; failure to do so will probably result in a default on the mortgage for your home.