Bankruptcy

Did you know that, under certain circumstances, income taxes are dischargeable in bankruptcy? We can analyze your tax situation to determine if your outstanding income tax liability meets the three-year/two-year/240-day rule set forth in Bankruptcy Code § 523(a)(1).

Chapter 7 of the Code provides for a straight liquidation of all assets not otherwise exempt under Bankruptcy Code § 522. Unfortunately, the Bankruptcy Code was changed, effective October 17, 2005, to require that a debtor pass a “means test” to qualify to file for Chapter 7 relief. The means test is designed to determine if the debtor has sufficient/earnings to repay his/her outstanding creditors in part or in full in what can be considered to be an extended bankruptcy court-supervised installment arrangement. In most cases, the debtors will earn more than the allowable income level, as determined on a state-by-state basis, to qualify to file for Chapter 7 bankruptcy protection, in which case the debtor will be required to file under Chapter 13. For example, a debtor located in Connecticut must earn less than $7,475 per month in disposable income to qualify to file a Chapter 7 bankruptcy. If the debtor earns more than $12,475 per month in disposable income, then the debtor will fail the means test and be denied Chapter 7 relief. If the debtor’s disposable income is between those two amounts, then further calculations are required to determine if the debtor qualifies to file for Chapter 7 relief. However, if the only debt that the debtor owes is outstanding income tax, it may be possible to qualify for Chapter 7 relief without the need to satisfy the means test. Under such circumstances, the debtor’s outstanding income tax liability may be partially, or fully, dischargeable without regard to the amount of the debtor’s income. Under no circumstances are trust fund-type taxes (employment taxes and sales taxes) dischargeable. If the debtor does not qualify for Chapter 7 treatment, the debtor must file for Chapter 13.

Chapter 13, commonly known as a wage earner’s plan, essentially creates a bankruptcy court-supervised repayment program for the debtor’s creditors. The exact amount to be repaid is determined by a number of factors, including the debtor’s net wages and the amount that the creditor would have otherwise received had the debtor filed for Chapter 7 bankruptcy. In other words, the Chapter 13 plan must provide that the creditor receives at least as much as the creditor would have received had the debtor filed for bankruptcy under Chapter 7. The term of the repayment plan is typically either 36 months or 60 months. In essence, a Chapter 13 plan works much like an IRS offer in compromise, and, in fact, the Chapter 13 expense guidelines used to determine how much excess income is available to be paid to the creditors in the aggregate are modeled on the IRS published allowable expense guidelines (as modified by the Bankruptcy Code and rules). As a practical matter, Chapter 13 plans are difficult because they require a debtor who, typically, is using all available income to pay for current living expenses to redirect a portion of that income to pay previously outstanding creditor obligations that, typically, have gone unpaid for quite some time. Nevertheless, when a debtor has some type of valuable non-exempt property that the debtor seeks to retain, a Chapter 13 may be a better option than filing under Chapter 7 under which the non-exempt property may be sold by the bankruptcy trustee. Any individual is eligible for Chapter 13 relief so long as that individual’s combined total secured and unsecured debts are less than $2,750,000 as of the date on which the bankruptcy petition is filed. If the debtor owes a total amount of secured and unsecured debts in excess of $2,750,000, the debtor must file a personal Chapter 11 bankruptcy.