Discharge of taxes in Bankruptcy

There are three primary types of bankruptcy:  Chapter 7 – complete discharge; Chapter 11 – reorganization – used by businesses; and Chapter 13  – a payment plan to pay off debts.  These remarks refer to Chapters 7 and 13.  To discharge taxes in a Chapter 7 case, several tests must be met.

The most important ones are: (a) the Three Year Rule: the tax year must be more than 3 years prior to the filing date; (b) the Two Year Rule: the actual filing date of the tax return must be more than 2 years before the bankruptcy filing date; and (c) the 240 Day Rule: the date of assessment of the tax must be more than 240 days prior to the bankruptcy filing.  If these three tests plus several others are not met, then the taxes are not dischargeable.

In a Chapter 13 case, for personal taxes, the Three Year Rule and the 240 Day Rule apply, but not the Two Year Rule.

Taxes in a year in which a fraudulent tax return was filed are not dischargeable, nor are taxes associated with any tax evasion.  For a company, payroll taxes are never dischargeable.

Many changes were implemented in the Bankruptcy Abuse and Consumer Protection Act of 2005; however, most of the discharge rules are still applicable.  Debtors are just now beginning to come out of 5 year Chapter 13 plans and the IRS has issued a memo listing some taxes that will not be dischargeable in a Chapter 13 plan.  These are: (a) debts for withheld taxes, (b) taxes for which a return was not filed, (c) taxes for which a return was late-filed within two years of the bankruptcy filing, (d) taxes for which the debtor filed a fraudulent return, and (e) taxes that the debtor tried to evade.

As you can see the subject of discharging taxes in bankruptcy is very complex and one should consult a knowledgeable tax professional or bankruptcy attorney before making the decision to file for bankruptcy.