People with overwhelming debts often seek bankruptcy as a viable solution. However, even in bankruptcy, certain debts such as secured debts like mortgage and car loan as well as government taxes and child and spousal support cannot be avoided. Apart from federal taxes, certain states like California also impose state income tax on its citizens. Similar to credit card debt, tax debt also gets added up and often becomes difficult to manage. A bankruptcy filing can definitely get rid of your unsecured debts but many people are confused regarding its effect on their taxes.
What to know before filing for bankruptcy?
According to Los Angeles based bankruptcy law firm Recovery Law Group , a number of options are available for dealing with income tax debts prior to bankruptcy filing such as “offer in compromise” (OIC), installment agreements, or filing a previous tax return. Since every financial obligation and individual circumstances are different, the solution also needs to be tailor-made for every client, after careful consideration of all factors.
OIC option is available to taxpayers with no delinquent returns, who have made all tax payments and are not involved in active bankruptcy. OIC is similar to debt settlement, you offer to pay IRS less than what you owe and if the terms are agreed, you will be able to satisfy your debts. This option is excellent for those people having a higher tax liability and lower income to pay off debts. Initial high payment is expected from the taxpayer in OIC apart from complete compliance with the terms and conditions during the tenure and an additional 5 years after that.
You can also avail to pay your taxes in installment if the IRS agrees. An installment agreement makes you compliant in the IRS’s eyes and prevents any possible debt collection steps. Additional benefits include reduction of harassed phone calls and letters from IRS while the downside to the agreement is that you continue accumulating interest on the tax obligation for the amount of time it takes to pay the debt.
Another way of addressing this delinquent tax debt is to file for amended past due to tax return. This option is preferred as filing for it results in a direct reduction in tax liability due to preparer error. It is essential to weigh all the options with your bankruptcy lawyer or financial/tax expert who is aware of statutes of limitations as well as applicable tax codes.
Viability of bankruptcy
Filing for bankruptcy might relieve you of some tax liability from both federal income tax as well as the state tax. However, the tax debt discharge depends on a number of factors like:
1) duration of tax debt, depends on the date tax returns were due when bankruptcy papers were filed.
2) the date when tax assessment was due.
3) whether you are guilty of avoiding (willful or fraudulently) any tax debt.
4) apart from this, to discharge federal and California state tax during bankruptcy, you need to fulfill these requirements –
* tax debt is due for over past 3 years from the more recent of either an extension or the original filing date;
* taxpayer had filed returns in a timely fashion or it has been a minimum of 2 years since the tax returns were filed;
* taxpayer has not attempted to commit any fraud or tax evasion and the taxes have not been assessed in the past 240 days (240-day rule)
Benefits of the automatic stay in bankruptcy
Consumers can file for bankruptcy under either chapter 7 or chapter 13. In the case of former, all unsecured debts are discharged including income tax if you meet the above-mentioned conditions. During chapter 13 a repayment plan is devised to make payments to all your creditors including IRS if you have included them. You can also enter in an agreement with the IRS to get a rebate in your debts. Any remaining debts are discharged after the duration of your repayment plan. This may include income tax debts if you meet the criteria.
Whichever chapter of bankruptcy you choose to file under, both come accompanied with the benefit of the automatic stay. This puts all collection actions including foreclosure, wage garnishment and repossession on hold.
Though you might not be able to get all your tax liabilities discharged when you file for bankruptcy, you might be able to come to a working agreement with the tax credit on a repayment plan within the bankruptcy.
In case the IRS has obtained tax lien against your property, bankruptcy won’t be able to help you much. Though they will retain the claim on your property, your personal liability will be wiped out. In this case, if the IRS sells the property and gets less than what you owe, you cannot be held for any deficiency. Bankruptcy ensures that none of your assets are seized by the IRS without court permission.
To fully understand your rights when it comes to taxes and bankruptcy you need to be aware of IRS bankruptcy tax guide. In case you are struggling with tax debts and are considering bankruptcy as an option, call 888-297-6203 to consult with expert bankruptcy lawyers regarding your case.