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If you’re considering filing bankruptcy, you’ve just begun the process, or you’re managing life after the proceeding, you may have a few questions about your taxes. Here are the answers to 5 frequently asked questions about bankruptcy, your tax return, and what you may owe the IRS.
Unfortunately, you may need to pay taxes on discharged debt. The IRS views forgiven debt as a form of income, and any creditors who receive less than what you owe will file Form 1099-C with the IRS. This form lays out your arrangement, and you will need to report any discharged debt on your own tax return. Some types of cancelled debt are not taxable, but you will need to file Form 982 to demonstrate why the IRS should not include certain amounts in your taxable income.
Discharging tax debt through bankruptcy is extremely rare and can only occur in severely limited circumstances. If you qualify, you must file tax returns for what you owe at least two years before filing bankruptcy, and you can only discharge taxes three or more years after their initial due date. No matter the case, you will never be able to discharge taxes you attempted to evade or penalties for tax fraud. If you cannot pay your tax debt, the IRS suggests an offer in compromise or a payment plan.
Even if you successfully discharge tax debt through bankruptcy, tax liens on your property will remain. Therefore, the government will receive proceeds when you sell the property. It can also seize the property for future unpaid taxes.
Each chapter of bankruptcy has its own tax return requirements. Chapter 13 bankruptcy, for example, requires you to file the last four years of tax returns, and you must continue to file and pay taxes during your Chapter 13 repayment plan. Chapter 7, on the other hand, only requires you to submit your most recently filed return, but failing to file current returns during bankruptcy may result in a dismissed case.
Whether you can keep your tax refund depends on multiple factors, including the size of your refund and state and federal laws. You may be more likely to keep the refund if you earned the refunded income after the bankruptcy filing. If your refund is for work you did before you filed bankruptcy, however, it will become the property of the “bankruptcy estate.” In other words, it will be used to pay your debt. Depending on your eligibility and state law, you may be able to protect your refund with a wildcard exemption.
If you need insight, thoughtful counsel, and strategic guidance through bankruptcy, our attorneys at the Bach Law Offices, Inc. are ready to assist. We can answer any and all questions you have about the relationship between bankruptcy and taxes. Our goal is to restore your financial independence as well as your confidence in your future.
Schedule your initial consultation with our firm by calling (847) 440-5998 today.