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Archive for the ‘discharging taxes’ tag

Exceptions to the Discharge of Debts in Chapter 7

December 15th, 2017 at 8:00 am

Often all your debts are discharged—legally written off—in Chapter 7. But some you might want to pay, or might not be able to discharge. 

 

Two blog posts ago we ended by saying that most general unsecured debts get legally written off—“discharged”—in a Chapter 7 bankruptcy case, but that there are some exceptions. We’ll get into those exceptions now. These exceptions include all types of debts—general unsecured, secured, and priority debts.

Definitely Not Discharged vs. Might Not Get Discharged

When you file a Chapter 7 “straight bankruptcy” likely your main objective is to discharge your debts and move on.  The point is to get a fresh financial start. So when you’re considering your options you need to know whether you will still owe any of your debts after finishing bankruptcy.

Debts Definitely Not Discharged

You might still owe debts afterwards that you’ll know in advance you’ll owe. These include two types—those you’ll still owe voluntarily and those you’ll owe whether you want to or not.

Voluntarily Not Discharged

Why would you voluntarily agree to owe a debt after bankruptcy when the main point of Chapter 7 is to wipe out all the debts you can?  You’d do it to get something worthwhile in return.

What would you get in return? The debts most commonly retained are debts secured by collateral, such as a home, vehicle, or something else worth keeping. In return for continuing to make payments and owe the debt, you get to keep the collateral. And you get the sometimes important benefit of being able to quickly start rebuilding your credit record.

In these situations you’d usually formally “reaffirm” the debt. You’d sign a “reaffirmation agreement” to remain legally liable on the debt in return for keeping the collateral. See Section 524(c) of the U.S. Bankruptcy Code.

Or, rarely, you might just want to keep paying a debt, simply because you want to. This is usually done with special, usually more personal debts, such as one owed to a relative. It’s usually based on a moral or family obligation, not a binding legal one. As the Bankruptcy Code says, “[n]othing… prevents a debtor from voluntarily repaying any debt.” Section 522(f).

Not Discharged by Force of Law

There are also debts you simply can’t discharge in a Chapter 7 case because the law says you can’t. Here are the most common ones:

  • Child and spousal support can never be discharged, and most other divorce-related obligations can’t be under Chapter 7. Section 523(a)(5) and Section 523(a)(15).
  • Income tax debts can’t be discharged, unless they meet a list of conditions (mostly related to how old the tax is). Section 523(a)(1)
  • Most (but not all) student loans can’t be discharged unless imposing an “undue hardship” on the debtor. Section 523(a)(8)
  • You can never discharge criminal fines and restitution (except sometimes minor traffic infractions that are not considered “criminal.” Section 523(a)(7) and (13)

Debts that Might, or Might Not Get Discharged

There’s one more set of debts that WILL get discharged in a Chapter 7 case, UNLESS all three of these happens:

1. The creditor files a formal objection to the discharge at the bankruptcy court

2. That objection is filed on time—within 60 days after the “First Meeting of Creditors”

3. The court determines that the debt should not be discharged

As long as the creditor was included on your schedules of creditors and the creditor does not object in time, the debt is discharged just like any other debt.

The bankruptcy court determines whether the debt gets discharged based on whether the creditor convinces the court that the debt meets one of 3 sets of conditions. These conditions include whether you obtained the debt through:

1. Misrepresentation or fraud on the creditor (Section 523(a)(2))

2. Fraud while acting as a fiduciary (such as an executor of a decedent’s estate), embezzlement, or larceny (theft) (Section 523(a)(4))

3. “Willful and malicious injury” against someone or something (Section 523(a)(6))

Again, if the creditor does object on time but does not show that one of these conditions apply, the debt still gets discharged.

Because you don’t know for sure whether a creditor will object, and if one does how the judge will decide, this is a debt that you won’t know in advance whether it will get discharged. But of course you’d usually know if there is a risk that any of your creditors have a basis for raising such an objection. If you have any inkling that one does, talk with your bankruptcy lawyer about it. You’ll find out whether you or not you should be concerned. Often you’ll learn that your risk that the creditor would object is actually quite low. However, sometimes you’ll just have to wait to see if the creditor objects by the deadline.

 

This is just an outline of debts that don’t or may not get discharged. We’ll look more closely at these in the upcoming blog posts.

 

Dealing with Recorded Tax Liens through Chapter 13

October 30th, 2017 at 7:00 am

A recorded tax lien gives the IRS/state a lot of leverage against you and your home. Chapter 13 can gain you back some of that leverage.  


Stopping Tax Liens by Filing Bankruptcy

In our last blog post we showed how Chapter 13 can buy you more time and flexibility than Chapter 7. We showed an example how that’s especially true if you owe more than one year of income taxes. Our example assumed that two tax years met the conditions to discharge (legally write off) that debt, while another tax year didn’t.

That example assumed that the IRS/state had not yet recorded a tax lien on your home for either tax year. A bankruptcy filing stops a tax lien’s recording. Then if the tax debt is discharged, the debt is gone so there’s no further basis for a tax lien. Or if the tax debt is paid in full (usually through a Chapter 13 payment plan) again there’s no further debt on which to impose a tax lien.

Dealing with Tax Liens under Chapter 13

But what if the IRS/state HAS already recorded a tax lien on your home?

That can cause all kinds of problems. Two weeks ago we wrote about how a tax lien can turn a completely dischargeable tax debt into one you have to pay in full. Beyond that, any tax lien is terrible on your credit report. It can make refinancing your home much harder. It may even add a problematic hurdle in the selling of your home. Even if you have little or no equity in your home, the tax lien can sit on your title until there’s enough equity to pay it in full.

So if you get a tax lien recorded against your home you need to consider your options. Assuming you want to keep your home, filing a Chapter 13 “adjustment of debts” is one option worth understanding.

Let’s take the same example we used in our last blog post, with a few more facts.

Our Example

Assume again that you owe income taxes of $24,000—$8,000 for the each of the 2012, 2013, and 2014 tax years. The 2012 and 2013 taxes meet all the conditions for discharge. The 2014 one doesn’t, mostly because it hasn’t yet been 3 years (as of when this is being written) since the date its tax return was due on April 15, 2015.

The IRS/state has just recorded tax liens on all three tax years against your home. Your home is worth $250,000, and has a $245,000 first mortgage owed on it. So, before the tax liens’ recordings you had $5,000 of equity in the home. Now you have NEGATIVE $19,000 of equity. And you are under the financial risks outlined above from the tax liens.

So on advice of your bankruptcy lawyer you file a Chapter 13 case. You do so because you:

  • can’t afford to pay nearly as much as the IRS/state are demanding each month in monthly installment payments
  • are afraid of the actions the IRS/state can take against you and your home on the tax liens
  • are afraid of the other collection actions they can take on the $24,000 in taxes
  • need a plan for taking care of these taxes in a way that you can reasonably manage

The Example’s Chapter 13 Plan

In this example the $16,000 of 2012 and 2013 tax debts would be treated as “general unsecured” debts. That is, they would but for the tax liens. Now those two tax debt are “secured” against your home because of their tax liens.

However, under Chapter 13 you have the power to establish that they are secured only to the extent of your home’s equity. So, the 2012 debt of $8,000 is secured by the $5,000 equity in the home. The remaining $3,000 is not secured. The 2013 debt of $8,000 has no remaining equity in the home for it to be secured by. So both that and the remaining $3,000 of the 2012 tax it is treated as a “general unsecured” debt.

This means that this $11,000 ($3,000 + $8,000) would be paid—if at all—to the same extent as your other ordinary debts with no collateral. In most Chapter 13 cases there’s only a set amount available to pay to the entire pool of “general unsecured” debts. This means that usually that $11,000 would just go into the pot with those other debts, and you’d pay no more than if there was no such $11,000 tax debt. That $11,000 tax debt just reduces how much other “general unsecured” debts get paid, without increasing how much you pay. In fact, in many bankruptcy courts you’re even allowed to pay nothing to the “general unsecured” debts. That happens if all your money during the life of the plan goes elsewhere.

The “Priority” Tax Debt

And how about the third tax year—2014—which doesn’t meet the conditions for discharge? What affect does its tax lien have on it?

It has no effect because all of the home’s equity has already been absorbed by the 2012 tax year.  This 2014 tax already has to be paid in full through the Chapter 13 payment plan. It’s a “priority” debt.  Had there been equity in the home to cover this lien then you’d also pay interest on this tax. Without any equity this 2014 tax is effectively unsecured. So it’s treated like any other “priority” debt. You have to pay it in full during your 3-to-5-year Chapter 13 payment plan.

So you have up to 5 years to pay the $5,000 secured portion of the 2012 tax and the $8,000 2014 tax. Throughout that payment period you’d be protected from the IRS/state by the “automatic stay.” This usually protects you throughout the years of the case (not for just 3-4 months like Chapter 7). That means no further IRS/state or other creditor actions against your or your house throughout your case.

Your payment plan may or may not include some money to pay towards your “general unsecured” debts. This includes the unsecured part of the 2012 tax and all of the 2013 tax. How much, if any, you’d pay on these would mostly depends on what you could afford to do so, after paying the other taxes. The secured part of the 2012 tax and the 2014 “priority” tax debts would usually get paid in full before the “general unsecured” debts would receive anything.

The End of the Chapter 13 Case

At the end of your successful Chapter 13 case the following would happen:  

  • Having by that point paid off the $5,000 secured part of the 2012 tax debt, the unpaid portion of the remaining $3,000 would be forever discharged.
  • The unpaid portion of the 2013 tax debt would also be discharged.
  • Having by that point paid off the $8,000 “priority” tax debt, any interest and penalties that would have accumulated on that tax would be forever waived.
  • With all your tax debts either paid or discharged, there’d be no further risk of a lien against your home from that tax.
  • You’d be tax-debt-free, and altogether debt-free (except for long-term debt like your home mortgage).

Buy Time to Deal with Multiple Years of Income Tax Debts

October 25th, 2017 at 7:00 am

What if you have some income tax debt that qualifies for discharge but one (or more) tax year that doesn’t? Does Chapter 7 ever help enough? 

 

Tax Liens under Chapter 7 

Last week we showed how Chapter 7 can sometimes permanently prevent an income tax lien from hitting your home. It does that by stopping the recording of the tax lien, and then discharging (writing off) the tax debt. 

This works under Chapter 7 “straight bankruptcy” when both:

  • that income tax debt meets the conditions for discharge (mostly it’s old enough)
  • the IRS/state has not already recorded a tax lien

But what if your tax debt meets these circumstances but you have other reasons to file a Chapter 13 case? (For example, you need to do a “cramdown” on your vehicle loan, catch up on a mortgage or on child/spousal support, or financially don’t qualify for a Chapter 7 case.) In particular what happens if you owe other income taxes that do not qualify for discharge? And what happens if a tax lien has already been recorded before you could stop it with a bankruptcy filing?

We’ll look into these circumstances in the upcoming blog posts. Today we get into what to do if you owe two kinds of income tax—those that qualify for discharge and those that don’t. (For the rules about what taxes can be discharged, see our blog post last month about this.)

When Chapter 7 is Appropriate

Assume that you have an income tax debt for one tax year that meets the conditions for discharge and another one from a later year that does not. To keep things simpler for now, assume that neither has had a tax lien recorded on it. So filing a Chapter 7 case would completely write off the first tax but leave you owing the second one.

That would be okay as long as, after discharging your other debts, you could afford to pay that remaining tax. The IRS and most state tax agencies have monthly payment plans that, under the right circumstances, give you a decent way of paying off a tax debt.

Common sense says that Chapter 7 tends to make more sense in two circumstances:

  • The tax(es) being discharged are relatively large
  • The tax(es) left owing are relatively small

An Example

Here’s an example of the combination of these two.

Assume that, after making payments of a while you still owe the IRS $10,000 for the 2012 tax year. And now you’ve just submitted your 2016 tax return (after getting an extension) and owe another $2,000. Assume also that your 2012 tax debt qualifies for discharge while the 2016 one does not. You’ve avoided filing bankruptcy so far, but because of new financial problems are now looking into it.

If you now filed a Chapter 7 case the $10,000 older tax debt would be permanently discharged. The newer $2,000 one would not. But especially if the bankruptcy case leaves you otherwise debt-free, paying off that $2,000 may be quite manageable.

Interest and penalties would continue to accrue during the payment period, so you need to consider that. Of course less interest and penalties would accrue if you paid the tax off faster.

The IRS would not likely record a tax lien for such a relatively small amount. But you should ask your bankruptcy lawyer about this, and about the practices of your state tax agencies if applicable.

Other Considerations

 But what if you:

  • can’t reliably pay anything monthly to the IRS/state because of other debts surviving the Chapter 7 case? (For example, if you’re behind on your home mortgage or vehicle loan or support payments.)
  • don’t qualify for Chapter 7 because of your income and expenses?
  • need to file a Chapter 13 case for its other benefits? (For example, you can “strip” a second mortgage from your home’s title, “cramdown” your vehicle loan, or delay collection of your student loans.)

 In these situations Chapter 13 “adjustment of debts” would likely be the better option. More on that in our next few blog posts.

 

Including New Income Tax Debts in Chapter 13

November 14th, 2016 at 8:00 am

File your Chapter 13 “adjustment of debts” case at the right time to include all possible tax debts. Then budget right to prevent new ones.


Drastic Solutions for a Drastic Situation

Our last blog post was about what we called drastic solutions to a drastic change in circumstances. The changed circumstance was if a large new debt arises during your 3-to-5-year Chapter 13 case. Post-petition debts are those that arise after you file your case.

You can’t include post-petition debts within your Chapter 13 payment plan. You can’t discharge (write off) those debts. You can’t usually include them among the debts you are paying within your Chapter 13 plan.

New, post-petition debts during a Chapter 13 case can be a big problem because you’re in the middle of solving all your prior financial problems when you’re hit with a big new one. If the new debt is large enough, you can’t finish the Chapter 13 case that was resolving your old debts. So the drastic solutions involve throwing out the Chapter 13 case. Then you use a Chapter 7 case, or a new Chapter 13 one, to deal with both the prior debts and the new one.

But if you can, you want to avoid these solutions. They are drastic because they can be a real pain. You’ve put a lot of time, effort, and money at setting up a solution for your whole financial situation. Then you’ve put even more into making that solution work for many months and maybe even for a couple years. Then you have to start over when the new debt(s) hit you.

Avoiding the Drastic Situation with Income Taxes

If the new debt(s) come from a vehicle accident or a medical emergency, you can’t do much to avoid them. But you have some greater control over certain kinds of debts—upcoming income taxes, for example.

Once you are in the middle of a Chapter 13 case you and your bankruptcy lawyer can put your payment plan and your budget together to prevent future income tax debt. And you can file your Chapter 13 case at the right time so that all your income taxes are included.

Preventing Post-Petition Income Tax Debt

If you owe income taxes, there’s a good chance it’s because you didn’t have enough taxes withheld from your income.  Or if you’re self-employed or operate a business, you didn’t pay enough in quarterly estimated taxes. Especially if you owe for more than one year, you’ve probably have some entrenched bad habits along these lines.

Simply put, a carefully thought out Chapter 13 budget and payment plan will cure those bad habits. And they should do so relatively painlessly.

You likely didn’t withhold enough or pay enough in estimated taxes because you didn’t have the money to do so. It was going to pay debts, including maybe some older taxes. Chapter 13 usually drastically reduces the amount you pay each month towards your debts. That allows you to immediately increase the amount withheld for taxes on your paycheck. Or it frees up money for the quarterly estimated tax payments. So when it’s time to file your income tax returns from now on, you will not owe any new taxes.

So you won’t have any post-petition tax debt that could jeopardize your ongoing Chapter 13 case. And you’ll finally be out of the vicious income tax debt cycle.

Timing of Chapter 13 Filing to Include Upcoming Tax Debt

But that solution doesn’t work so well if you’re filing your Chapter 13 case well into the current tax year. By that time you may well have underwithheld, or underpaid estimated taxes, for most of the year. So if you file a Chapter 13 case now you could be setting it up for failure. When you do your tax returns a few months later you find out that you owe more taxes. But all your income would already be budgeted for expenses and your Chapter 13 plan payment, dealing with your past taxes and other debts. So you’d have no means to pay the new post-petition tax.

Often the best solution to this problem is to wait to file the Chapter 13 case until after the end of the tax year (after December 31 for those using the usual calendar tax year). That tax is considered legally owed as of then and would be included in your case. Prepare your tax returns right after filing so that you know how much you owe. Then this tax debt is incorporated into your Chapter 13 payment plan.

If you can’t wait until the start of the new year, consider the possibility of filing a partial-year tax return. You may be able to submit a tax return covering the time up until your Chapter 13 filing. That would include the taxes you owe up until that point, and that tax debt would be included in your case. Then you file another partial-year tax return after the end of the year covering the second part of the year. Since you’ve corrected the budgeting problem in your Chapter 13 case, you shouldn’t owe any more taxes.

Or If You Can’t Make the Tax a Post-Petition Debt…

Finally, if neither of these works for you, another possibility is to just file a Chapter 13 whenever you need to. With the help of a tax professional carefully calculate your current year tax debt amount as of that point. Then have your bankruptcy lawyer make room in your budget for installment payments on that tax when it becomes due later during your Chapter 13 case.

 

Mistakes to Avoid–Selling Your Home Just Because You’re Behind on Property Taxes

September 23rd, 2015 at 7:00 am

Falling behind on property taxes can have serious consequences, but does not necessarily mean you should hurry to sell your home.

 

Property Tax—the Superior Lien

Your local property tax agency usually holds the first lien on your home. That lien comes ahead even of your mortgage. And it’s way ahead of other debts on your home’s title, like creditor judgment liens and IRS and state income tax liens.

Your property tax agency can foreclose on and seize your property if you don’t pay the property taxes. And because of its superior position on the title, the property tax agency can not only take the home away from you but at least theoretically also from your mortgage lender. So if you fall behind on property taxes, at some point the mortgage lender will usually pay the back property taxes to preserve its own rights to your property.

If your mortgage lender does pay some of your property taxes you can bet it will add the amount to your mortgage debt. Most conventional mortgage documents specifically give the mortgage lender the right to pay the property tax, then add that amount to the arrearage that you must pay to the mortgage lender to get current. Indeed your mortgage lender very likely has the right to begin its own foreclosure against your home simply for you being behind on your property taxes.

Much of the time those who fall behind on property taxes are also struggling to pay their mortgage, so the homeowner is usually behind on both and is being foreclosed on for both reasons.

The Temptation to Sell

So, if you’ve fallen behind on property taxes you are likely in serious financial trouble. You understandably may decide that you should sell your home quickly to get any of your equity out of it. And if you don’t have any equity, you may still decide to sell, through a short sale if necessary, to prevent the home from getting foreclosed by either the property tax agency or your lender.

Selling your home, and selling it fast, may be best for you in this situation. But maybe not.

Bankruptcy as the Solution if You Fall Behind on Property Taxes

The last half-dozen or so of our blog posts have been about some of the powerful ways that filing Chapter 7 or Chapter 13 can let you keep your home or sell it later when you are ready to do so.

Very briefly, Chapter 7 “straight bankruptcy” gets rid of most or all of your other debts so that you can focus your financial resources on your home—on the property taxes and the mortgage(s). Chapter 13 “adjustment of debts” gives you years to catch up on the unpaid property taxes and on any mortgage payments, while protecting you and your home from either creditor’s foreclosure or other collection efforts. Chapter 13 also has creative ways of dealing with certain second or third mortgages, income tax and child support liens, and other home-based debts, all of which can greatly help you catch up and keep current on your property taxes.

If you don’t want to keep your home but instead sell it, bankruptcy can buy you enough time to do so later instead of immediately. Chapter 7 likely buys you only a couple months, although more if your attorney can convince your mortgage lender. Depending on all the circumstances, Chapter 13 can delay your sale by anywhere from a few months to as long as five years. Either way you can get more market exposure and so would more likely get the highest price. You’d have more time to make any needed repairs or renovations, or to put your house on the market at the most favorable time. And beyond straight financial considerations, you’d more likely be able to market and sell your home whenever doing so best fits within your family and/or personal circumstances.

Sell Only If, and When, It’s Right for You

Falling behind on property taxes is not good. It could be a sign that you can’t afford to keep the property long term. But that depends on all your circumstances. Given the power of bankruptcy, find out what it can do for you and your home.

 

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