You might think the cheapest way to get out of tax debt is to declare bankruptcy, but new regulations could mean still owing the IRS. Bankruptcy is not an automatic IRS debt forgiveness program, and it can be worse for your credit than other solutions. 

If you need help with tax debt and other types of debt, however, bankruptcy may reduce or help you whittle down what you owe. Some types of bankruptcy filings turn into payment plans, so you might still need to make monthly payments until your balance is zero. 

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How Declaring Bankruptcy Could Affect Your Tax Debt
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A tax debt attorney may be able to help by reviewing your case and giving you a more thorough explanation of how bankruptcy affects your debt. In some cases, filing for bankruptcy may remove a portion of your debt. Like the Offer in Compromise, you generally still need to pay some of the debt.

So, how does bankruptcy get rid of tax debt? The six different types of bankruptcy have different requirements. You may benefit from knowing which one best fits your situation. 

Chapter 7 bankruptcy could help with unpaid taxes, but it depends on your personal circumstances. To qualify, you must typically meet the following conditions: 

  • You owe back taxes from income.
  • Your tax debt is at least three years old. Your back taxes must have been due in 2020 to file Chapter 7 in 2023.
  • You filed the tax return at least two years ago.
  • The taxing authority assessed your tax liability at least 240 days ago.
  • You are not attempting to commit fraud or willful evasions. 
  • Your debt is more than half of your income. 
  • You have little to no disposable income. 
  • It would take at least five years for you to repay your debts.

Chapter 7 only discharges income-based taxes. It cannot get rid of the following: 

  • Tax liens 
  • Property taxes 
  • Trust fund taxes 
  • Employment taxes
  • Excise taxes
  • Non-punitive tax penalties

If you can file for Chapter 7, the bankruptcy court liquidates your assets to pay off your creditors, including the IRS. Then, the court will discharge your remaining balance. So, although you will be free of tax debt, it still comes at the expense of almost all your assets. 

Chapter 11 bankruptcy is more like a payment plan. The court reorganizes your debt into one monthly payment that pays off your balances. To qualify for Chapter 11, you may need to have a balance of: 

  • Secured debts of more than $1,257,850.
  • Unsecured debts of more than $419,275.

Payment plans typically last for five years, after which the court eliminates your remaining balance. However, you may still owe back taxes, since debt discharge does not apply to certain tax types.

Chapter 13 bankruptcy is only available for individuals and sole proprietors. Like Chapter 11, you’ll make monthly payments, and the bankruptcy trustee will distribute payments to your creditors, including the IRS. After a certain period of time (usually between three and five years) the court discharges your remaining balance. 

To file for Chapter 13, you must usually meet the following requirements:

  • Have a regular income
  • Have filed all tax returns within the last four years
  • Have a balance of secured debts of less than $1,257,850
  • Have a balance of unsecured debts of less than $419,275

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Updated on 02/27/2023