Can Chapter 13 Erase Past Due Income Taxes?

The new gig economy has effectively transformed millions of wage earners into small business owners. These side hustles normally have significant income peaks and valleys, making tax planning very difficult. As a result, many of these individuals fall behind on income tax payments.

If a tax debt looms like a shadow over everything you’ve built, Chapter 13 may offer a way out. In some cases, bankruptcy completely eliminates income tax debt. In other cases, it gives taxpayers up to five years to catch up on past due taxes. The IRS or any other taxing authority, can take no adverse action during the protected repayment period.

Discharging Tax Debt in a Chapter 13

From a purely financial standpoint, income taxes are like credit cards and medical bills. All these obligations are unsecured debts. These kinds of debts are normally 100 percent dischargeable in a bankruptcy.

But many government obligations are in a different category. DSOs (Domestic Support Obligations), like child support and alimony, are usually never dischargeable under any circumstances. Income tax debt may be dischargeable, if the particular obligation meets the following test:

• – Income Tax: Trust withholding taxes and property taxes are not dischargeable. Generally, dischargeable income taxes are anything reported on a 1040 or a comparable state form.
• – Three Years: Income tax debt is dischargeable if it is at least three years old. Bear in mind the Tax Day is not always April 15. Many years, it is a day or two later. Furthermore, many taxpayers receive payment extensions but never actually pay.
• – Two Years: The returns must have been on file for at least two years prior to the bankruptcy filing. Substitute returns which the taxing authority files do not count. They must be taxpayer-submitted returns.
• – 240 Days: This last requirement trips up many debtors. The taxing authority must not have assessed the debt in the last eight months. Generally, if you receive a letter that includes the balance due, the debt has probably been assessed.

Timing is obviously important. Unless the taxpayer files at the right time, the tax debt may be nondischargeable. The IRS has been known to dispute discharge if a petition was filed just a few days too soon or too late.

Bankruptcy discharges the obligation to repay the debt, but it does not eliminate the debt itself. So, if the IRS has already filed a tax lien, the debtor must address that lien separately.

If you do not qualify for tax discharge, do not lose heart. Another option is available in Chapter 13, and it is almost as good as discharge.

Chapter 13 and the Protected Repayment Period

When debtors file their voluntary petitions, the Automatic Stay usually begins. Section 362 of the Bankruptcy Code protects debtors from creditor adverse action for up to five years. So, taxpayers can make catch-up payments without dealing with any IRS harassment. The Automatic Stay technically prohibits all communication between debtors and creditors, so most bankruptcy debtors never hear a peep out of the IRS. Wouldn’t that be nice for a change?

Even though the IRS is a public agency with sweeping powers, court decisions have made it clear that taxing authorities must respect the Automatic Stay just like any other moneylenders. Judges only allow creditors to get around the automatic stay in extreme situations, especially if the creditor is unsecured.

Sadly, penalties and interest may continue to accrue during the protected repayment period. However, an attorney may be able to negotiate with the IRS and reduce or eliminate these fees.

Contact Dedicated Lawyers

Chapter 13 may provide relief from the burden of past-due taxes. For a free consultation with an experienced Chicago Chapter 13 bankruptcy attorney, contact the Bentz Holguin Law Firm, LLC. After-hours visits are available.

Resource:

forbes.com/sites/elainepofeldt/2018/10/31/freelancing-economy-continues-to-roar/

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