In most cases, when you have an IRS tax debt liability, you have a limited amount of options. You can do the obvious, which is paying the full amount you owe, enter into a payment arrangement, attempt to settle the debt (Offer-In-Compromise), or presuming what you owe has been outstanding long enough to meet the criteria for being discharged, file bankruptcy. Recently, a Federal District Court for Northern California District over ruled a previous bankruptcy court ruling, adding a new twist to getting tax liabilities discharged in bankruptcy.
Generally, for tax debt to be dischargeable in bankruptcy, a return has to be filed before the petition is filed and the tax debt has to be at least 3 years old with timely returns filed each year. In addition, the return that generated the tax liability must have been filed at least two years before filing the petition in bankruptcy court in regards to a late filed return. This is after meeting the criteria of the first rule; and at least 240 days of assessment has passed on an audit assessment while considering the first two rules.
“In re Martin Smith, Debtor, 2014-1 U.S.T.C. ¶50,274 (Apr. 29, 2014), the Federal District Court for the Northern California determined that a taxpayer’s late filed return did not qualify as a return for purposes of discharge and the exceptions found in 11 U.S.C. §523 caused a taxpayer’s tax liability to be excepted from discharge. In this case, Smith failed to timely file his 2001 Form 1040 for income tax purposes. In 2006, the IRS assessed against Smith a tax liability preparing a return for him under their Substitute for Return (“SFR”) process and began proceedings to collect the assessed tax. In 2009, Smith prepared and filed his 2001 income tax return reporting more tax owing than the IRS determined to be owing under its SFR assessment. In 2011, Smith filed bankruptcy and the Bankruptcy Court issued an order of discharge as the late filed return had been filed more than two years prior to the petition in bankruptcy being filed” (Federal District Court for the Northern California District, 2014).
Put simply the tax payer in the above case was found to not be in compliance with self-assessment and tax payment obligations until years after IRS collection action had ensued, and the IRS had created substitute returns. The court found the tax payers handling of the outstanding liability was not done in accordance with what the courts consider a sincere and practical try at complying with tax law. This does not mean that tax payers can’t file late returns or replacement returns for substitutes that’s been prepared by the IRS. Just that the tax liability derived from a tax year which a returned was not filed timely thus rendering the tax debt non-dischargeable. Of course, each case stands on its own merits so if you need help with filing a bankruptcy due to a tax debt, by all means contact a bankruptcy attorney.
The point here is always file your taxes in a timely fashion, even if you can’t pay the tax liability. Not only could you be inadvertently extended the statute of limitations for collecting what’s owed, you could miss the chance to have your tax debt discharged in bankruptcy.
Should you need assistance with back taxes or resolving a tax debt issue, contact Advantage Tax Services, Inc. at (866) 606-3570. You will be connected with a licensed professional who can assist you with your specific situation.