Eliminate Income Taxes in Bankruptcy

One of the most common misconceptions is that a bankruptcy will not eliminate back income taxes.  While some taxes. such as payroll taxes and tax penalties for fraud cannot be wiped out, income taxes, both state and federal, can be discharged under certain circumstances.

Assuming no fraud was involved, such as using a false social security number or willful evasion of the tax obligation, here are the elements:

1.     The 3 Year Rule.  I also call this rule the “ Due Date Rule.” To eliminate a tax debt, the tax return must have been originally due at least three years before you file   for bankruptcy.  This rule is tricky and requires some explanation.  Say you owe $3500 in income taxes for 2011.  The taxes would normally be due on April 15, 2012, so, you have to start counting the three year period from 4/15/12.  Under this scenario, if you filed a bankruptcy on or after April 16, 2015, you would satisfy this rule.  If you asked for an extension to October 15, 2012, then the rule will be observed if the bankruptcy were filed after October 15, 2015.

2.     The 2 Year Rule or the “Filing Date Rule.”  You must have filed the tax return at least two years before filing for bankruptcy.  Expanding the above example, if you requested an extension to October 15, 2012 and didn’t file until April 15, 2014, you will have satisfied the 3 year rule, but not the two year rule. In this scenario, you must wait until April 16, 2016, to file for bankruptcy if you wish to eliminate the taxes.  If the IRS files a substitute return, you will not be able to satisfy this requirement.

3.     The 240 Day Rule or the “Assessment Date Rule.”  The taxing authority must have assessed the tax against you at least 240 days before you filed for bankruptcy.   “Assessed” means “entered the liability on the taxing authority’s records.”  However, be careful to consider an extension of the 240 day rule.  If there was an offer in compromise between the taxing authority and you, or if you had previously filed for bankruptcy, the time will be continued for as long as the offer in compromise process lasted or the  previous bankruptcy was open.

Great care should be exercised in analyzing each tax year in question and listing the correct information on the proper schedule in your bankruptcy papers.

The post Eliminate Income Taxes in Bankruptcy appeared first on Mark E. Brenner, Counselor at Law.