The relevant sections of the Bankruptcy Code are Section 507 and Section 523. Reading them together, we see there are four grounds of non-dischargeability. Think of them as four tests; if you can pass all four tests, the tax debt is dischargeable.
Taxes are dischargeable if:
1 – the tax was due more than three years ago,
2 – the tax was assessed more than 240 days ago,
3 – the tax return was filed more than two years ago, and
4 – the filed tax return was not fraudulent and the debtor did not willfully evade the tax.
This is a simplified explanation, but these are the questions your bankruptcy attorney will ask when trying to determine the dischargeability of your tax debt.
As you can see, the four tests above exclude from discharge taxes which were last due within three years and taxes for which a return was never filed. This is why I usually advise my clients to file their tax returns on time, even if they can’t afford to pay the tax. It’s typically best to start the clock ticking on the 240-day, two-year, and three-year tests.
Other taxes, such as employer withholding taxes or sales taxes, are never dischargeable. These are in the nature of “trust fund” taxes, meaning the debtor was merely holding this money for the taxing authority and was required to turn it over when due. Of course, trust fund tax issues nearly always arise only with business owners who file bankruptcy.
Admittedly, such topics don’t come up in most casual conversations. But the next time you hear someone say, “you can’t discharge taxes in bankruptcy,” you can politely correct them. As Oscar from The Office would say, “actually, taxes may be discharged in some cases.”
If you live in southwestern Wisconsin and are considering bankruptcy to help deal with your tax debt, please contact me. I’d be glad to analyze your individual situation and tell you if bankruptcy is a viable option for you.
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