Some tax obligations can be discharged in bankruptcy, while others cannot. For example, if there is a tax fraud involved, or if a tax return was not filed, then the tax cannot be discharged in bankruptcy. However, income tax, excise tax, and gift tax may be dischargeable in Chapter 7 (liquidation) if the following criteria are met:
- The tax is for a year for which a tax return is due more than 3 years prior to the filing of the bankruptcy petition;
- A tax return was filed more than two years prior to the filing of the bankruptcy petition;
- The tax was assessed more than 240 days prior to filing of the bankruptcy petition;
- The tax was not due to a fraudulent tax return, nor did the taxpayer attempt to evade or defeat the tax;
- The tax was not assessable at the time of the filing of the bankruptcy petition; and
- The tax was unsecured.
Importantly, the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA) made it much harder for higher income debtors to obtain a discharge. BAPCPA did this by making it more difficult for debtors to file for Bankruptcy under Chapter 7, thereby forcing debtors to file for Bankruptcy under Chapter 13. Generally speaking, whereas Chapter 7 allows for most debts to be discharged, Chapter 13 allows for discharge only after the debtor repays a portion of those debts. Other provisions deserving mention include:
- Debtors filing under chapters 7, 11, 12, and 13 of the Bankruptcy Code must timely file all federal, state, and local tax returns that become due after a case begins. Failure to do so can cause the bankruptcy petition to be converted to another chapter or dismissed.
- A corporate debtor is not discharged from tax debts, for which the debtor filed a fraudulent return or willfully attempted to evade or defeat tax, upon the confirmation of a plan under chapter 11.
- When individuals file under chapter 11, wages and income earned during the bankruptcy case from self-employment are property of the estate and should be reported on the bankruptcy estate’s tax return.
- Withheld taxes, taxes for which no return was filed, taxes for which a return was untimely filed within two years of the bankruptcy, and taxes that the taxpayer attempted to defeat are now excepted from chapter 13 discharge.