Can I Discharge Income Tax Debt in a Chapter 7 Bankruptcy?

It’s a common misconception that income taxes cannot be discharged in a Chapter 7 bankruptcy. Most people assume that, even if they are deep in tax debt, that they would not be able to erase their tax debt through a bankruptcy proceeding. The good news is that those assumptions are wrong; however, there are some specific rules that apply when a debtor wants to discharge his or her owed back taxes.

The rules surrounding dischargeable tax debt are commonly referred to as the 3 – 2 – 240 rules. Any person wishing to discharge back taxes must meet all three of these qualifications, and the only type of taxes that are eligible for discharge via bankruptcy are income taxes.

A little more about the 3 – 2 – 240 rules:

The Three-Year Rule simply states that anyone wishing to discharge his or her back tax debt in a bankruptcy cannot file for bankruptcy until at least three years have passed since the taxes in question became due. For example, if Debtor A owes back taxes from the year 2013, he would not be able to file for bankruptcy until 2016. As tax day is almost always April 15 of any given year, Debtor A’s 2013 taxes would have come due on April 15, 2013 and therefore, he would not be able to file for bankruptcy until April 15, 2016.

 The Two-Year Rule sets out that a debtor must have filed the taxes in question at least two years prior to filing for bankruptcy. This rule applies even to debtors who filed their taxes late, as long as they were filed. For example, if Debtor B owed income taxes on April 15, 2014 but did not actually file her taxes until March 15, 2015, she will not be able to file for bankruptcy until May 15, 2017. This date puts her two years out from when she actually filed her taxes and also meets the Three-Year Rule as stated above.

The 240 Day Rule states that any tax assessment that is completed must take place at least 240 days before the date of any bankruptcy filing to discharge income taxes. This is usually only an issue if a debtor files a correction or is audited. For example, Debtor C files her taxes on time on April 15, 2012 but is audited by the IRS and is determined to have made an error in her tax paperwork. The date of the IRS’s new assessment of how much she owes didn’t take place until March 15, 2015. Because of this assessment and Debtor C’s error, she will now be unable to file for bankruptcy until October 12, 2015 (March 15 + 240 days), which meets all three of the 3 – 2 – 240 rules.

Obviously, anyone who commits tax fraud or willful tax evasion will not be eligible to discharge his or her taxes in a bankruptcy.

There are, of course, special considerations and your case may be unique, so if you wish to discharge your income tax debt via Chapter 7 bankruptcy, but aren’t sure if you’d qualify, seek out the advice of a seasoned bankruptcy attorney in your area.

Benjamin Franklin was quoted as saying, “In this world, nothing can be said to be certain, except death and taxes.” As it turns out, you may have other options!

Image credit: Alan Cleaver