Chapter 13 Bankruptcy Tax Tool

For many people, one of the main reasons for filing bankruptcy is unpaid taxes, whether federal, state, or local. Under the prior bankruptcy law, if you filed under chapter 13, you would get a partial discharge for taxes for non-filed and certain late filed returns. Whatever you paid to the government during your repayment period was all that you were required to pay.

The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 changed the rules. Any back taxes related to non-filed or late filed returns can no longer be discharged. This includes any interest that incurred after filing your petition. Penalties cannot be discharged either. In addition, the automatic stay of tax court proceedings is limited to pre-petition taxes.

Overview of Chapter 13

Chapter 13 is a repayment plan. Under this chapter, you can propose to pay your creditors over three to five years. If your monthly income is less than your state's median income, the plan will be for three years unless the court finds "just cause" for a longer period. If your monthly income is greater than your state's median income, the plan must generally be for five years. You cannot have a plan that exceeds the five year limitation.

For a Chapter 13 bankruptcy, you need a stable income with disposable income (income left over after you pay the bare necessities of life such as shelter, food and utilities). For cases started after April 1, 2010, you must have no more than $1,081,400 in secured debt (debt involving property that your creditor might take if you don't make your payments) and $360,475 in unsecured debt. These amounts are adjusted periodically to reflect changes in the consumer price index. The court filing fee is $274.

The Plan

The process begins with the filing of a petition in the federal Bankruptcy Court. In addition to a list of creditors and a schedule of assets and liabilities and a schedule of current income and current expenditures, you must also file a Statement of Financial Affairs.

The filing of the bankruptcy petition must be accompanied by a proposed payment plan over three to five years. The proposed payment plan must provide for the payment of all "priority claims" in full unless the particular priority creditor agrees to a different plan or, if the claim is a domestic support obligation, you agree to contribute all of your disposable income to a five year plan. "Priority claims" are those claims that are given a special status under bankruptcy law, such as taxes and the costs of the bankruptcy proceeding. There are limitations on the ability to modify the payments due on home mortgage loans under Chapter 13.

The bankruptcy trustee appointed by the Bankruptcy Court must review the proposed plan for accuracy and feasibility. The proposed plan is distributed to creditors who have the right to object to the plan if it's unreasonable. If the plan is approved, you keep all assets during the period of the plan. You make monthly payments to the bankruptcy trustee who distributes the funds to the creditors according to the plan. If the plan is completed as approved, you are discharged from unpaid debts. If the proposed plan is not completed as approved, several alternatives are open depending upon the reasons for the non-completion of the plan.

Tax Returns

Under the new law, federal tax returns for the last year must be provided as proof of income in both chapter 7 and chapter 13. If the taxes for the prior year have not been paid, you must do so before the bankruptcy can move ahead.

In order for your chapter 13 plan to be confirmed, you must file all tax returns for the four year period before filing for bankruptcy. You must establish that you filed by the first meeting of the creditors. Seven days before that meeting, you are required to provide the trustee with a copy of your most recent federal tax return. If the returns are not filed, a chapter 7 discharge will not be granted and a chapter 13 plan will not be confirmed. Further, if your creditors request a copy of the return, you must provide it for them.

Tax Liens

Liens give the government a legal claim to your property as security or payment for your tax debt. By filing notice of a lien, your creditors are publicly notified that there is a claim against all your property, including property you acquire after the lien is filed. This notice is used by courts to establish priority in bankruptcy proceedings. The lien attaches to all your property (such as your house or car) and to all your rights to property (such as your accounts receivable, if you are a business).

When the IRS places a tax lien on your property, it must be paid in full. However the IRS may be forced to accept a payment plan through the filing of a Chapter 13 bankruptcy.

Advantages of Chapter 13 Bankruptcy

It's a realistic payment schedule. Payment of tax debts through the plan is based on financial reality: monthly payments reflect what is actually available in your budget after current living expenses, as opposed to arbitrary national standards.

You can avoid other creditors. Other creditors can't collect on debts while you're making payments on the plan, so your cash flow for payments into the plan is protected.

It's quick and inexpensive. Plans are approved within a few months of filing, giving you fast action on the terms of the plan. Attorney's fees are payable in part from the payments you make to the trustee.

Bankruptcy shouldn't be your first choice if you're behind on your taxes, but it may offer significant advantages over installment plans and deals with the IRS if you have tax troubles.

Questions for Your Attorney

  • Can I pay the bankruptcy court fees and legal fees in installments or as part of the plan?
  • What if I can't keep making the payments as required by the bankuptcy plan?
  • Will¬†filing for Chapter 13¬†bankruptcy protect my house from foreclosure?
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