With January comes the start of the new tax year and the requirement to file your personal income taxes no later than April 15. This time of year we handle a larger volume of questions regarding the IRS and bankruptcy proceedings. For example, people wonder whether bankruptcies will eliminate their tax debts. Others want to know if they still have to file tax returns in the midst of a bankruptcy proceeding.
The simple and painful reality is that bankruptcy does not eliminate tax debt. It can make the process of paying back taxes easier, but the only thing that will eliminate what you owe is your death. And even that offers no guarantees. Your estate could still be responsible for paying back taxes.
Should you be considering bankruptcy within a scenario that also includes tax debt, here are four things you need to know about bankruptcy proceedings and the IRS:
1. The IRS Offers Payment Options
As with commercial creditors, the IRS views bankruptcy as a last resort option. They have no intention of making tax problems the primary cause of personal bankruptcy, regardless of the amount owed. Therefore, they do offer two options for settling tax debt.
The first option is to enter into a repayment plan based on your current budget and income. Payment plans can extend for as long as the consumer needs to pay off existing tax debt. Keep in mind that this option adds interest and penalties to the debt the longer you take to repay.
The second option is known as an offer in compromise. This is a scenario in which the government agrees to take less than you owe if you are willing to make a single, lump-sum payment. An offer in compromise considers your total debt, your income, your ability to pay, your current expenses, and any assets you own.
2. Filing Your Returns
In order for your bankruptcy to remain unaffected by tax debt, you must file all tax returns for years ending within four years of your bankruptcy filing. In addition, you must continue to file all returns due while your bankruptcy is still active. This includes extensions to file if you are unable to submit your returns by their due dates. Failing to file all required returns could result in your bankruptcy case being dismissed.
3. Paying Current Taxes
Both Chapter 13 and Chapter 7 bankruptcies only deal with debt you failed to pay in the past. It does not address current and future debt. As far as your taxes are concerned, you must continue paying all taxes due in the current year and future years in order to avoid further action by the IRS. All future taxes must be paid when due, regardless of how your bankruptcy case is finally settled.
4. Case Dismissal
Rest assured that the IRS will keep in contact with the bankruptcy court throughout your case. Should you fail to file any forms (including returns, extensions, and amended returns) or pay taxes that come due, your case is likely to be dismissed. This will affect not only the repayment of your back taxes but all of the other debt that you are struggling with.
People who do not understand how bankruptcy works are sometimes confused in that they think filing for bankruptcy will eliminate back taxes. That is not the case. The government will get its due one way or the other. Therefore, if you are considering bankruptcy, you need to proceed in light of what the IRS will expect from you.