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Bankruptcy and filing taxes FAQ
The tax deadline for 2014 Taxes is coming. You may have questions regarding your bankruptcy and filing taxes.
First off, if you are in the middle of a bankruptcy, talk to your team, that’s why you pay them. If you are still pondering filing for bankruptcy and you have questions read on.
I realize that if you owe taxes you may view that as a debt, which makes the IRS/US Government the creditor. The state taxing authorities (in the New Mexico the Taxation and Revenue Department) have similar rights. If you are not aware, there is no other creditor, anywhere, that is allowed–without first obtaining a judgment–to literally take money from your bank account to pay a debt, the IRS can… and does.
There are many ways in which a bankruptcy may postpone payment of taxes, but if you’re looking to avoid paying last years taxes, it may be too late. Filing for bankruptcy is a complicated process, and nothing you would want to risk rushing through to attempt to avoid paying one year of taxes.
1. Do taxes qualify as debt when filing bankruptcy?
It depends. Consider these 5 qualifying conditions:
- Were assessed 240 days before you filed
- Are income taxes
- Were filed two years before filing for Chapter 7
- Are three years or older
- No fraudulent activity or tax evasion is involved
2. I need tax relief, should I file for Bankruptcy?
Bankruptcy should be arguably the last resort if you are solely trying to reduce the amount you owe in taxes. Bankruptcy is about your complete financial state and the impact is long lasting, there are other options such as these:
- Offer in Compromise–only available for federal but not New Mexico state taxes
- Partial Payment Installment Agreement
- Uncollectible / Hardship
- Penalty Abatement–again, less likely for state of New Mexico taxes
- Amending tax return
Please note, a good option is generally NOT one advertised on the radio or television offering to cut your back taxes to the IRS. Those places are often scams.
3. I thought Chapter 7 allowed me to discharge taxes?
Bankruptcy is all about time and deadlines.
- If an Offer in Compromise (OIC) was filed before you filed for bankruptcy, this impacts the 240 day assessment rule pushing it back. The time delay is the duration that passed from the day it was filed to when it was rejected plus 30 days.
- If you had filed for bankruptcy in the past, you must delay the tax rules related to discharging by the length of the bankruptcy proceeding plus one-hundred and eighty days.
If you filed all of your tax returns on time, and you have given the government several years to try to collect, there is a good chance that you may be able to discharge your taxes.
4. Will my Bankruptcy remove a tax lien?
Simply, for Chapter 7 most likely no, and for Chapter 13, potentially yes.
A tax lien will not usually be removed or released if it was placed before you filed for Chapter 7 Bankruptcy. This means that in most cases, the tax lien will be present after bankruptcy and you cannot sell your property until the lien is satisfied. However, some times the taxing authorities will agree to releasing a lien if partial payment is made and you can demonstrate that you have no other property, and the tax has been discharged.
In Chapter 13, once your payment plan is fully completed (after 3-5 years) the tax lien will be removed but rarely is it removed before the completion of your restructuring and payment plan.
5. What are the tax differences between Chapter 13 and Chapter 7?
- In Chapter 7, tax debt can be discharged as opposed to “repaid” with Chapter 13.
- In Chapter 7 you can normally keep all of your assets, as in New Mexico there are generous exemptions allowed
- in Chapter 13 assets do not have to be sold because your income secures the payment plan.
- Chapter 7 is you must pass a “means test” to qualify – in other words, if you made more over the last 6 months than the state’s median income, the presumption is that you do not qualify for Chapter 7. However, secured debt, medical expenses, charitable contributions and even tax debt can be counted to enable someone to pass the means test even though they have high income. We help people in this situation all the time.
- Ironically perhaps, high tax debt is actually a positive factor in the Chapter 7 “means test” calculation, and sometimes the best option is to discharge all the dischargeable debt (credit cards or money judgments) and focus on entering into an installment agreement with the taxing authority post bankruptcy.
6. What can I protect from Chapter 7 Bankruptcy?
- 401(k)s, IRAs and other retirement plans
- Welfare, Social Security and Unemployment Insurance
- Home Equity (varies by state, but $60,000 for an individual or $120,000 for a couple in New Mexico under the state exemptions; $22,000 under the federal exemptions)
- Books, tools, and other personal property (varies by state)
- Reasonable equity in a motor vehicle
- If the federal exemptions are chosen in New Mexico, there is a $11,000 “wild card” exemption that can be taken, which can be used for any property.
- Household goods (furniture, appliances, electronics, etc)
7. Is a Chapter 13 better than?
Potentially. Here are things that may make a Chapter 13 a better choice:
- You are behind on your car payments or mortgage payments
- You did not qualify for Chapter 7
- You have unpaid taxes that are recent that you want to resolve, and the taxing authorities will not work with you
- You find out that you cannot discharge certain debts with Chapter 7
- You want to stop the liquidation of non-exempt assets
Before you begin trying to handle these very important, definitely life changing decisions, please talk to a bankruptcy lawyer and or CPA in your state. Do not attempt to take on the legal resolutions alone.