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Ozzie Gomez
- June 12, 2024
Do you have back taxes? You might be wondering if filing for bankruptcy is the solution. After all, bankruptcy allows you to clear many common types of debt.
But can bankruptcy clear tax debt? Well, it depends entirely on your unique situation. Below, our team explains what you need to know.
What Is Bankruptcy?
Bankruptcy is a legal process for declaring yourself unable to pay your bills. People or business owners can file for bankruptcy if they can’t pay their debts such as:
- Mortgages
- Home loans
- Credit cards
- Car loans
What happens if you’re declared bankrupt? Essentially, it’s a chance for a “fresh start”. The courts pass an order which “forgives” your debts and wipes the slate clean. However, there are caveats.
- Your assets are valued by the courts. If you have any assets of value, they may be used to pay off some of your debts.
- Bankruptcy stays on your credit file for up to a decade. This could seriously affect your ability to obtain credit in the future.
Types of Bankruptcy
The most common types of bankruptcies are Chapter 7 and Chapter 13 bankruptcies.
- Chapter 7: If you’re a business owner or individual without regular income, you might consider Chapter 7 bankruptcy. Some of your property will be sold to repay at least part of your debts.
- Chapter 13: If you’re an individual with a regular income, you might file a Chapter 13 bankruptcy. You will set up a payment plan, normally over three to five years, to settle your debts. In exchange, you can keep your assets.
Bankruptcy is a complex process. You should not file without getting legal advice first.
Does Filing Bankruptcy Clear Tax Debt?
The short answer is yes, it can. In reality, though, filing for bankruptcy will not clear all back taxes. It only clears certain types of tax debt. Let’s take a closer look at how bankruptcy affects federal and state tax debt.
Does Bankruptcy Clear Federal Tax Debt?
Bankruptcy clears federal tax debt under the following conditions.
- The debt is income tax. It can’t be payroll tax or any other type of tax debt.
- The debt is at least three years old. Bankruptcy won’t cover more recent tax debts.
- You must have filed tax returns for the debt at least two years before filing for bankruptcy. If you haven’t filed valid tax returns, bankruptcy won’t cover the debt.
- The IRS must have assessed the debt more than 240 days ago.
You must also file your tax returns honestly. If there are mistakes in your return, or allegations of fraud, bankruptcy won’t cover those debts.
Does Bankruptcy Clear State Tax Debt?
Similar rules apply to state tax debt as with federal tax debt. So, in Florida, you can clear or “discharge” income tax debt through bankruptcy. Again, you must have submitted valid returns, and the debt can’t be too “new”.
Be mindful that rules vary between states. Seek advice before assuming bankruptcy clears debt at state or federal level.
Will Bankruptcy Clear Tax Liens?
No. Although the IRS can’t technically collect on the lien while bankruptcy is in place, the lien still exists. So, for example, if you sell your house and there’s an IRS lien over it, the IRS can collect from the proceeds.
Do I Need to Pay My Current Taxes?
Yes! You should still file your taxes as normal and pay them as they fall due. Remember, bankruptcy only covers certain old tax debts. Failing to pay existing taxes could still result in the IRS acting against you.
How to File for Bankruptcy in Florida
To file for bankruptcy, you must file bankruptcy forms with your local federal court. For individuals, “local” means where they live. And for businesses, “local” means where the main business premises is located.
You can find bankruptcy forms online or at your local court. You will need to provide various details in support of your petition, including:
- Detailed list of income and outgoings
- List of your property
- Details of any creditors
- Your sources of income
- Your spouse’s income (to determine your household’s financial situation)
You’ll also need to pay filing fees. These vary by court.
Filing for bankruptcy means complying with various laws and regulations. It is a formal process that should not be undertaken lightly. One mistake can be enough to derail your application. It is strongly recommended that you hire a professional to file bankruptcy on your behalf.
Alternatives to Filing for Bankruptcy to Clear Tax Debt
Bankruptcy is not right for everyone. There are many other ways to manage tax debt, including:
- Payment plans
- An offer in compromise
- Penalty abatement
- Currently non-collectible
You’ll still need to pay at least some of your tax debt. However, the IRS might agree to write some debt off, or let you pay in manageable instalments. The key point is that you can often handle delinquent taxes without bankruptcy.
Our tax specialists can help you understand your options and decide whether bankruptcy is the right choice.
Get Advice on Debt Relief Now
Can bankruptcy clear tax debt? For some individuals, the answer is yes.
However, it’s not right for everyone. And it won’t clear all tax debt. It’s simply one option for managing debt if you’re in severe financial hardship.
Before filing for bankruptcy, consider other ways to pay tax debt. At Innovative Tax Relief, we specialize in finding effective, simple ways for our clients to handle back taxes. We’ll evaluate your situation, explain your options, and empower you to find a way forward.
Don’t attempt to manage tax debt – or anything as serious as bankruptcy – alone. Call Innovative Tax Relief now to schedule a free overview of your financial situation.
