What is IRS tax discharge?

In some limited cases, delinquent taxes can be discharged through a bankruptcy. However, there are very specific and complex rules in regard to discharging delinquent taxes through a bankruptcy. At minimum, the following criteria must be met:

• Tax returns were filed more than two years prior to the bankruptcy filing.
• The tax liability was assessed more than 240 days prior to filing of the bankruptcy petition.
• The liability is not due on Trust Fund Tax.
• The taxpayer did not attempt to evade or defeat the tax, nor was the tax liability due to a fraudulent tax return.
• The tax was not assessable at the time of the filing of the bankruptcy petition.
• The tax was unsecured.
• It has been more than 3 years since the returns were last due to be filed (including extensions).
• The returns were timely filed, or it has been at least 2 years since the returns were filed.

There are two basic types of bankruptcy available: Chapter 7 and Chapter 13. Chapter 7 of the Bankruptcy Code concerns the discharge of tax liabilities and is considered the more traditional form. Under this code, you either pay for or give up property to settle back taxes. To qualify for Chapter 7, you must prove that you do not have sufficient income to pay a portion of your tax bill.

Chapter 13 bankruptcy means that you do have enough income to pay a portion of your unpaid taxes but not enough to pay it off entirely. This means that you are seeking to restructure your repayments to make them more manageable. Chapter 13 bankruptcy involves adhering to a payment plan that can last up to five years and the tax under this code cannot be discharged.

Under most circumstances, chapter 7 is better because it is faster, and you can avoid paying creditors through a 3–5-year repayment plan that is a part of Chapter 13. However, it will depend on your personal financial situation as to which one may be better suited to you. Once again, under Chapter 13, tax cannot be discharged.

Most non-income-related tax liabilities cannot be discharged in Chapter 7 bankruptcies. These include:

• Tax liens
• Recent property taxes
• Certain employment taxes
• “Trust Fund” taxes such as FICA, Medicare and income taxes that an employer must withhold from the pay of an employee.
• Erroneous tax refunds or credits associated with non-dischargeable taxes.