Chapter 7 Bankruptcy & Tax Debt

Chapter 7 bankruptcy is a means to discharge debts. This means you are no longer liable for the debt that is discharged in bankruptcy. However, what about debts owed to the IRS?

It is a common misunderstanding that tax debt is not dischargeable in Chapter 7 cases. Certain types of tax debt is dischargeable, but not all of it. Let’s look at some common situations involving tax debt and filing Chapter 7 bankruptcy in Michigan.

Discharging Income Tax Debt in Chapter 7 Bankruptcy

There are certain criteria that must be met to discharge the income tax debt you have. If you are considering filing for Chapter 7 bankruptcy and want to discharge your income tax debt, the following criteria must be met:

The taxes must be income based

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Income tax is the only type of tax debt that can be discharged via Chapter 7 bankruptcy. If you have state or federal income tax debt, you are able to get it discharged. However, other types of tax debt (sales tax, property tax, etc.) can not be relieved via Chapter 7 bankruptcy.

You Filed The Tax Return At Least 2 Years Prior

The tax return must have been filed a minimum of 2 years prior to getting it discharged. In many courts, filing a late return does not qualify as a valid “return,” and therefore, you will not be able to clear your tax debts. This applies when your extension period has expired, and the IRS has filed a substitute return on your behalf. However, some courts allow you to discharge your tax liabilities even if you submit a late return, provided that you satisfy the other eligibility criteria.

The Return Is At Least 3 Years Old

To meet the tax requirements for bankruptcy, the applicable taxes must be from a tax return that was due at least three years before the bankruptcy filing, taking into account all valid extensions. For instance, if you reported taxes in your 2014 income tax return, and the deadline for filing the return extensions expired on October 15, 2014, the tax return due date criterion will be fulfilled if you file for bankruptcy after October 15, 2017.

The Taxes Were Assessed A Minimum of 240 Days Prior

For bankruptcy purposes, the tax authority must have evaluated the tax liability (i.e., recorded the obligation on their records) against you at least 240 days before your bankruptcy filing. This duration may be prolonged if there was a previous offer in compromise with the tax authority or if you had filed for bankruptcy earlier.

There is No Evidence Of Fraud Or Willful Evasion

To be eligible for the discharge of tax debt, the tax return must be legitimate and not frivolous, and you should not have intentionally attempted to evade the tax laws. If you file a joint return, the taxing authority must prove that both you and your spouse engaged in fraudulent activity related to the relevant tax return or deliberately attempted to evade tax to reject the discharge of the tax debt by the court.

Some Tax Debts That Are Not Dischargeable

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As we mentioned earlier, some tax debts are not dischargeable. While there are ways to deal with these items, it is important to remember that Chapter 7 bankruptcy will not be the way forward.

Tax Liens

A Chapter 7 bankruptcy discharge of income taxes absolves you of the legal responsibility to pay the tax debt and prohibits the taxing authority from garnishing your wages or seizing your bank account. Nevertheless, tax liens, referred to as secured taxes, will continue to be associated with your property.

This principle is only applicable to tax liens registered against your property before filing for bankruptcy. This indicates that although you may not be held personally responsible for the tax debt, you will be required to settle the lien from the proceeds when you sell the property.

Recent Property Taxes

If you accrue a property tax before filing for bankruptcy, the tax is considered nondischargeable. However, this provision applies solely to property taxes that were last payable within a year of your bankruptcy petition. You can discharge your individual responsibility for property taxes that were payable (without penalty) more than a year before your bankruptcy filing.

Nevertheless, be aware that several counties impose a lien on your property during assessment or one year afterward. If you have a lien against your property for property tax, the lien will persist after your Chapter 7 discharge, even though your personal liability will be discharged.

Miscellaneous Tax Debts That Are Not Dischargeable

Other tax debts that can’t be discharged in Chapter 7 bankruptcy include: FICA, Medicare and other taxes collected by third-parties or your employer. Excise taxes and customs duties are also not going to be discharged via Chapter 7 bankruptcy. Also, erroneous tax returns will not be covered by a Chapter 7 filing.

Have tax debt and need relief? Call The Mitten Law Firm today for a free and confidential consultation.