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How Easy (or hard) is it to Eliminate Tax Debt in Bankruptcy?

Bankruptcy is a way to eliminate debts so you can have a fresh start financially, but there are some debts that can’t be discharged and that’s what makes bankruptcy not as simple as it sounds.

When it comes to taxes, most tax debt can’t be wiped out in bankruptcy. If you file Chapter 7 bankruptcy in Minnesota, you’ll find that you will still owe your tax debt at the end of the process. If you file Chapter 13 bankruptcy, your taxes will be a part of your repayment plan, but you will still owe them in full.

If you are in a position where you need to discharge tax debts, Chapter 7 bankruptcy is going to be the best vehicle to try and do that, but only if your debts even qualify for discharge.

Here is when you CAN discharge a tax debt:

  • Income taxes can be discharged, but payroll taxes or penalties for fraud cannot.
  • You did not commit any sort of willful evasion or fraud. If you filed a fraudulent tax return or you evaded taxes, then you cannot discharge that tax debt in bankruptcy court.
  • You filed a tax return for the tax debt that you want discharged at least two years before you filed bankruptcy. In many bankruptcy courts, filing a late return after extensions expired constitutes not filing a return and that means the tax debt cannot be discharged. In other courts, you can discharge the tax debt if you meet the remaining criteria for an on-time tax return. Your bankruptcy attorney is going to be able to help you with this.
  • At least 240 days must pass since the IRS assessed the tax debt before you file bankruptcy. If the debt has not yet been assessed, that is fine. The time limit can be extended if the IRS suspended tax collection activity because of a previous bankruptcy or an offer in compromise.

Federal tax liens cannot be discharged. If the IRS recorded a tax lien on property before you filed bankruptcy, that lien will remain. This means that you will have to pay off the lien before you can every sell your property. Such is still the case when your taxes qualify for discharge, making the victory a bittersweet one.

It is important to go into bankruptcy understanding that there is a possibility that tax debt will not be discharged. Your bankruptcy attorney will assist you with this every step of the way so that you know what is happening, what to expect, and so you can emerge from bankruptcy with better financial status than you did going in.