Debts with the IRS come in many shapes and sizes. The most common debts owed to the IRS are back or unpaid income taxes. Now that more people are working full or part-time, overdue taxes are a bigger problem than ever.
Even if a debtor owes only a few thousand dollars, that debt may feel like huge money. Additionally, the Internal Revenue Services can be aggressive when it comes to collecting unpaid income taxes. As a public body, the world's largest debt collector has a set of tools that only private debt collectors dream of. Fortunately, Chapter 7 is an easy way to end IRS harassment this way. In many cases, as described below, bankruptcy can end IRS harassment forever.
Tax debt: bankruptcy and automatic suspension
Most IRS collections begin with a late tax notification. Then, every few months, the IRS sends out another slightly more threatening letter than the previous one. Over time, these threatening letters turn into legal notifications, which sometimes involve confiscating a bank account, filing a lien, or garnishing wages. Auto-stay acts as a "pause" button and prevents creditors from contacting you to collect their debts.
Once the voluntary petition is submitted, the automatic stay will usually take effect. When this happens, IRS agents can't even send you a letter regarding unpaid taxes. Attempting to collect a debt is prohibited.
The automatic stay also extends to property rights. Although most of your assets are "exempt" or protected, during Chapter 7, the IRS or other collection agent cannot touch your most valuable assets if you own them.
Regardless of the stage of the IRS collection effort, the automatic stay stops it. With a few exceptions, the stay applies to all forms of communication between debtors and creditors. Creditors who violate the stay can suffer serious consequences.
Auto stay is a powerful way to protect people and while the stay prevents creditors from contacting you, that doesn't prevent you from talking to them. Therefore, if you negotiate with creditors during bankruptcy, you are in control.
Tax Debt Discharge in Chapter 7
All of these rules also apply to bankruptcy proceedings. If you have unpaid tax debt, things will be slightly different.
Discharge: the court has the power to pay both secured and unsecured debts. If your debt meets the above requirements, you should receive a discharge notice in approximately 60 days.
Filing: On your documentation, you will include the debt as a priority unsecured debt in Part 1 of Schedule E/F.
Trustee meeting: At 341, the administrator reviews the debtor's documentation, confirms the debtor's identity, and asks about any warning signs of the petition or time.
In special situations, the debtor must meet additional requirements to pay certain types of debt. This is sometimes true in case of tax foreclosure and also in case of student loans. These borrowers must convince the court that "undue hardship" prevents them from repaying the loan.
What determines if your taxes can be waived?
The Internal Revenue Service is very stringent when it comes to rules. There are regulations for almost everything. It is therefore not unusual that there are specific rules for bankruptcy discharge. It is also not surprising that the IRS opposes the discharge if it has reason to do so. All of the main bankruptcy rules are pertaining to time.
Income tax: Chapter 7 bankruptcy only cancels tax liability. Also, the space is not very well defined. The 1040 taxes are income taxes. However, property taxes and taxes on trust funds are certainly not income taxes. Make sure to check the type of taxes you owe to make sure Chapter 7 can eliminate your debt.
The tax debt must be at least 3-years old: The tax debt must be at least three years old. Please note that tax day is not always April 15th. In a few years, it could be 16, 17, or even 18. IRS lawyers are known to oppose discharge over a day or two. Therefore, make sure you send the petition on the correct day. Otherwise, you will have to start over.
You must have made declarations within the last two years (if you have to): Taxpayer tax returns must be filed for at least two years at the time of filing for bankruptcy. The two-year waiting period applies even if returns are made on time. If the taxpayer does not file the tax return, the IRS typically prepares foreign exchange tax returns and uses them to determine the taxpayer's debts. Substitute returns are not considered taxpayer filed returns statements.
Your tax return does not exceed eight months: If the IRS has not assessed the debt in the past 240 days, the tax debt cannot be canceled. It is almost impossible to know whether the IRS has assessed the debt or not, as this process is an internal accounting tool. But in general, if the taxpayer has not received an invoice describing the amount owed in years, likely, the service has not assessed the debt.
Special rules for student loans
Special rules apply to other types of public debt. For example, student loan debts usually cannot be written off with Chapter 7. Borrowers usually have undue difficulty in repaying school debt. "Undue hardship" indicates several things in different parts of the country.
What about the tax refund?
If you are expecting a large refund, talk to your lawyer. It may be a good idea to defer filing until you receive a refund for the previous year.
From a technical standpoint, when consumers file for bankruptcy, all of their non-exempt assets revert to the administrator. This includes tax refunds. Since policies vary depending on where you live, you can use the wildcard exemption to exempt your tax return.
Conclusion
As more people work independently and full time, overdue income taxes can become a more serious problem. These bills are so high that you may owe a lot of money even if you are a little late. Fortunately, if your debts meet certain requirements, Chapter 7 can eliminate your unpaid tax debt.
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