What Happens if you Owe Back Taxes and Declare Bankruptcy?
Now that we have all survived the anxiety related to income tax preparation before April 15th, I thought it was a good time to review the issue of back taxes and bankruptcy.
As we all know, taxes are a fact of life. Generally, we need to file federal, state and local taxes on or before April 15th of each year. Unfortunately, for many of us, if we have used improper withholding schedules, or have had unusual tax events, or have collected unemployment, we may have a situation where we owe income taxes that we are unable to pay.
While this presents a problem, bankruptcy is often a common solution.
Chapter 13 and Taxes
Generally speaking, income taxes, whether state, local or federal, may be repaid through a Chapter 13 bankruptcy. Enhancing the desirability of this solution, the back taxes are usually payable without interest or penalties. This alone can justify the bankruptcy, because the IRS, the state and local tax entities will generally charge interest and penalties on back taxes outside of bankruptcy.
Because of the structure of a Chapter 13 Plan, the taxing entities will be satisfied with the taxpayers’ commitment to repay their taxes. The payment of the tax owed without interest and penalties is an incentive to complete your Plan. A Chapter 13 plan gives the taxpayer five years to repay the taxes and the taxing entities are assured that the debtors will become current.
Bankruptcy requires that all income tax returns must be filed. However, they do not need to be filed prior to a bankruptcy. If you are afraid of owing back taxes, I strongly urge you to consult a bankruptcy attorney. Very often, once the tax returns are filed, a bankruptcy debtor is pleasantly surprised that no taxes are due. This is usually because employer withholdings have been sufficient, which means that many bankruptcy debtors may actually receive a refund.
However, as noted above, even if back taxes are owed, a Chapter 13 bankruptcy is a very desirable way to pay back taxes.