While filing for bankruptcy is a big decision that has an effect on every aspect of your life, it can be a great option for those who are struggling to meet payments and catch up with their debt. Whether it’s your day-to-day finances or your long-term financial plan, however, bankruptcy can leave its mark on everything.
Bankruptcy can be confusing and stressful enough on its own – even when you don’t carry out a consideration of the complications that can arise when it comes to filing for taxes. If you have already filed for bankruptcy, are considering bankruptcy, or are wondering if bankruptcy is the best option for you, you should know how your taxes could change.
Discharging Tax Debts
If you owe money to the IRS and have accumulated tax debts, you may have heard of bankruptcy as an option to eliminate those payments. Unfortunately, however, there are only certain tax debts that can be eliminated through bankruptcy.
The only kind of tax debt that can be discharged or reduced in bankruptcy is owed income taxes. This means that any payroll taxes or fraud penalties cannot be eliminated through bankruptcy. Even if you go forward with filing for bankruptcy, you are likely to continue owing those debts.
If your owed payments are income taxes, you must still meet several qualifications in order to discharge those debts in bankruptcy. First and foremost, you have to have filed a tax return for the debt in question at least two years before you file for bankruptcy. Depending on your situation, a late return filed after that two years may or may not serve to be valid.
In order to discharge that debt, it must have been assessed by the IRS within 240 days of filing for bankruptcy (unless another agreement has been made). This is referred to as the “250-day rule.” Additionally, in order to eliminate tax debt, the tax return must have originally been due at least three years before your bankruptcy filing. This means that, in order to file for bankruptcy and have your tax debt discharged, those tax debts must be at least three years old.
An important note: in order to discharge your tax debt, you cannot have committed any sort of fraud or willful evasion when it comes to the tax debt in question. Any filing of a false or fraudulent tax return, therefore, will stop a bankruptcy discharge from going forward.
Filing Taxes After Bankruptcy
Filing your tax return after bankruptcy can be a daunting process, especially if you have only recently experienced the financial changes that bankruptcy brings.
First and foremost, you must file an individual tax return (or request an extension) after filing for bankruptcy- just a simple 1040 as is your usual obligation. If you don’t file this paperwork, there is a possibility that your bankruptcy case can be dismissed entirely or converted after completion.
If you have filed for bankruptcy, you need to be sure that a few more things have been taken care of when it comes to filing your taxes. In the context of a Chapter 7 bankruptcy, the bankruptcy trustee is required to file an estate tax return for the bankruptcy estate. This is a form specifically for the bankruptcy estate known as a 1041. In the context of a Chapter 11 bankruptcy, the situation is roughly similar- the government requires a 1041 to be filed in addition to the usual tax return paperwork.
Additionally, however, it’s important that you keep your eye out for any additional paperwork or forms that come your way. For example, forgiveness of debt may be considered taxable income that can change the way your taxes look and how much you owe. If you receive a 1099 from a lender, you should absolutely report it on your taxes and keep the information in a safe place.
For those who have gone through a bankruptcy, it may be best to enlist the assistance of a tax or bankruptcy expert to ensure that you are taking the necessary precautions to keep up on your payments. If you are considering bankruptcy and are seeking guidance, contact our Colorado bankruptcy specialists today.
Photo by rawpixel on Unsplash