Many people, including some lawyers and tax professionals, erroneously believe that federal income taxes can never be discharged in a Bankruptcy proceeding.
Generally, tax debts that have been outstanding more than 3 years from the due date of the tax returns giving rise to them and that have been outstanding more than 240 days from the date of their assessment may be discharged in a federal bankruptcy proceeding.
There are two types of bankruptcy that a delinquent taxpayer should consider:
- Chapter 7 – a complete liquidation of the debtor’s assets and a discharge of any dischargeable debts remaining after the assets are distributed to creditors.
- Chapter 13 – also called a wage earner’s bankruptcy, enables debtors with regular income to develop a plan to repay all or part of their debts.
The following comparison chart will give you an idea of which chapter might be best for you:
| What happens if… | Chapter 13 | Chapter 7 |
| You’re behind on your mortgage or car loan. | You can repay the arrears through your plan, over three to five years, and keep the house or car, so long as you keep current on the existing monthly payments. If it’s feasible to pay off the entire loan before the end of your plan, you may be able reduce the amount you have to pay. | You’ll probably have to either give the house or car back to the creditor or arrange to pay its wholesale value in full during your bankruptcy case |
| You owe back taxes to the IRS. | To the extent they are not paid in full under the Chapter 13 plan, discharge of all non-priority taxes (this includes taxes excluded from dischargability under Chap 7 (i.e. 3 year rule and 240 day rule taxes). | Dischargeable to the extent outstanding more than 3 years from the due date of the tax returns giving rise to them and more than 240 days from the date of their assessment. |
| You have valuable nonexempt property. | You keep all of your property. | You must give it up, pay the trustee its fair market value or, if the trustee agrees, swap exempt property of equal value for it. |
| You have co-debtors on personal loans. | The creditor may not seek payment from your codebtor for the duration of your case. | The creditor will go after your codebtor for payment. |
| You received a bankruptcy discharge within the previous eight years. | No problem; you can file anytime. | You can’t file for Chapter 7 unless the recent bankruptcy was a Chapter 13 case, and you repaid at least 70% of your debts. |
| You want to keep secured property by paying the creditor its value. | You pay its replacement value (with interest) over time through your plan. | You pay the wholesale value in a lump sum. |
| Your disposable income is sufficient to fund a Chapter 13 plan. | N/A | The bankruptcy court might throw out your case or pressure you to convert it to Chapter 13. |
You owe debts for:
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These debts must be paid in full in your Chapter 13 repayment plan or you will owe a balance at the end of your bankruptcy. | These debts cannot be erased in Chapter 7 bankruptcy. |
| You owe nonsupport debts under a property settlement, agreement, or divorce decree. | If you do not pay them in full during your Chapter 13 bankruptcy, the balance is wiped out at the end under Chapter 13 bankruptcy’s “superdischarge.” | If your ex-spouse or another creditor objects, these debts are not discharged unless you prove to the court that:
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You have debts due to:
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If you do not pay them in full during your Chapter 13 case, the balance is wiped out at the end under the superdischarge. | These debts are not dischargeable if the creditor objects and proves your bad act to the court. |
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2 responses so far ↓
1 Debt Consolidation Aurora // Feb 9, 2010 at 10:02 pm
This is great, it clarified some opposition I had heard.
2 waterman // Jul 22, 2011 at 11:32 pm
Lets say you owe taxes from 2005 and you file chapter 7 in 09. Could the taxes be claimed in bankruptcy if you were late on your return being filed?
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