Individuals commonly ask if a bankruptcy can discharge their income tax debt. Older income tax debts are dischargeable in a bankruptcy provided certain conditions are met.
The 3 Year/2Year/240 Day Rule
Your income tax debt may be dischargeable in a bankruptcy if you meet certain time requirements.
The 3 Year Rule: The tax return was due at least three years before the filing of the bankruptcy. For example, 2016 tax returns were due April of 2017. The earliest 2016 taxes would be eligible for discharge in a bankruptcy is April of 2020.
The 2 Year Rule: You must have filed the tax return for the dischargeable tax period at least two (2) years before filing the bankruptcy. An IRS substitute return doesn’t count as a tax return unless you agree to the substitute return, and you sign the substitute return.
The 240-Day Rule: The tax debt must have been “assessed” by the IRS at least 240 days before you file your bankruptcy petition, or if it has not yet been assessed. You can get a tax return transcript from the IRS which will show the date of the tax assessment.
Additionally, you must not have filed a fraudulent tax return or otherwise willfully attempted to evade paying taxes. If you met the requirements above, your old income tax debt is probably dischargeable in a bankruptcy. This means it is lumped in with your other general unsecured debts like credit cards, medical bills, vehicle deficiencies, payday loans, etc. and discharged.
What if I Don’t Meet the 3 Year/2Year/240 Day Rule?
If you do not meet the 3 Year/2Year/240 Day Rule, then you tax debt will be considered priority and will not be discharged in your bankruptcy. If you file a Chapter 7 Bankruptcy, your other debts will be discharged, and you will just need to work out a payment plan with the IRS after you receive your discharge. If you file a Chapter 13 Bankruptcy, your priority tax debt will be repaid during the 3–5 year Chapter 13 plan.
What if I Have a Tax Lien?
If the taxing authority has filed/recorded a tax lien, then the debt is considered secured. However, a tax lien is only secured up to the value of your property. For example: Your house is worth $250,000. You owe $190,000 on the mortgage. Then, the IRS places a lien on your property, saying you owe $50,000. In a Chapter 13 Bankruptcy, only $10,000 would be treated as secured, because after your mortgage, there is only $10,000 that the IRS lien could “attach” to ($250,000 less $190,000 mortgage = $10,000).
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