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Archive for the ‘tax interest and penaltiies’ tag

Timing Bankruptcy to Discharge Income Taxes

July 27th, 2020 at 7:00 am

  

Usually you can discharge income taxes (write them off forever) by waiting to file bankruptcy long enough. Here’s how it works under Chapter 7.

 

Our blog post of two weeks ago introduced the importance of timing your bankruptcy filing right. We gave a list of 15 examples of timing considerations. Last week we started with the first one, timing the filing to cover as many debts as possible. Today it’s about discharging/writing off income taxes, specifically under a Chapter 7 “straight bankruptcy.”

Here are a few eye-catching facts:

  • It is possible to discharge many income tax debts, so that you do not owe a dime of that tax.
  • You just have to meet a list of conditions.
  • Most, but not all, of those conditions involve the passing of time. You need to wait long enough before filing bankruptcy to permanently discharge a tax debt.
  • If you don’t meet the conditions, bankruptcy does not discharge the tax at all. You owe it in full. If you filed a Chapter 7 case, you have to pay the tax after completing the case.
  • In that situation you’d also have to pay the continuously incurring tax interest and penalties.
  • But if you do meet the conditions, your Chapter 7 case will discharge the entire tax. You will owe nothing after your case is finished (usually only about 4 months after filing it).
  • You will also not owe any of the related tax interest or penalties.
  • There are various additional factors—such as recorded tax liens—that can complicate the situation and the tactics involved.

Timing is Often Crucial

Although there is a list of conditions, often the ones that matter are the ones involving timing. Specifically they pertain to when you file your Chapter 7 case.

Much of the time a Chapter 7 case will discharge an income tax debt if you meet two timing conditions. The date that you and your bankruptcy lawyer file that bankruptcy case must be both:

  1. at least 3 years after the tax return for that tax was due, and
  2. at least 2 years after that tax return was actually submitted to the IRS or state tax authority.  

See Section 507(a)(8)(A)(i) of the U.S. Bankruptcy Code for this first timing condition; section 523(a)(1)(B) for the second.

Note: Regarding the first 3-year condition above, add any time given through an extension to file the pertinent tax return. Section 507(a)(8)(A)(i) of the Bankruptcy Code. For example, assume you got the usual 6-month tax return extension from April 15 to October 15 for the pertinent year. Then you don’t start the 3-year time period until that October 15 instead of April 15.

Applying these Timing Rules

These two timing rules will make more sense when applied to an example.

Assume the following. You:

  • owe $10,000 in income taxes for the 2016 tax year, plus a bunch of accruing interest and penalties
  • had asked for a 6-month extension to October 15, 2017 (actually to October 16 since the 15th that year was a Sunday)
  • actually did not submit the tax return until December 1, 2017

If you file a Chapter 7 case before October 16, 2020, you would not discharge the $10,000 tax. You’d continue owing the $10,000 tax, plus the accruing interest and penalties.

However, under many circumstances if you file on or after October 16, 2020 you would discharge all of the $10,000. You would no longer owe any of it, including the interest and penalties.

Why the total difference? Because as of October 16, 2020:

  1. At least 3 years would have passed since the extended tax return due date of October 16, 2017, and also
  2. At least 2 years would have passed since actually submitting the tax return on December 1, 2017.

Other Conditions

Earlier we said that are other conditions to meet besides the two timing ones referred to here. So what are those other conditions that would result in an income tax not being discharged, even after meeting the above 2-year and 3-year conditions?

There are three other conditions or situations to look out for:

  1. Tax Fraud or Evasion:  The Bankruptcy Code says you can’t get a discharge of a tax for which you “made a fraudulent return or willfully attempted in any manner to evade or defeat such tax.” Section 523(a)(1)(C).  The problem is that language is quite vague. So bankruptcy judges interpret this language differently. For example, is it a willful attempt to evade a tax if you don’t submit the tax return when due, even if you submitted it voluntarily a year later? Talk with your bankruptcy lawyer about how your local bankruptcy court interprets this language. 
  2. Income Tax Liens: Once the IRS or state tax agency records a tax lien, that puts a legal cloud over either all your personal or real property, or both. Depending on what you own, that can turn a tax debt that bankruptcy will discharge in full into one that you still have to pay in full or in part. A tax lien creates complications that you need to thoroughly discuss with your bankruptcy lawyer.
  3. Offer in Compromise/Prior Bankruptcy: Have you made an “offer in compromise” to the IRS or state to settle the debt? Have you filed a prior bankruptcy case involving this same tax debt? Under these rather unusual circumstances there are some additional timing rules. Tell your lawyer if either of these circumstances applies to you, in order to meet the special rules.  

Conclusion

Assuming these three special conditions do not apply, and you’ve met the 2-year and 3-year conditions, a Chapter 7 case should discharge your tax debt.

 

Tax Filing and Payment Extended to July 15

March 23rd, 2020 at 7:00 am

The federal April 15, 2020 tax filing and payment deadlines have been postponed to July 15, 2020.  Also, no interest or penalties accrue. 

 

Federal Income Tax Return Deadline Postponed

Responding to the COVID-19 pandemic, the IRS has postponed the deadline to file federal income tax returns by 3 months. This was announced (on Twitter, no less!) on Friday, March 20, and then explained in more detail on Saturday.

This tax return postponement applies to all individuals, but also more broadly. It includes every legal “person”:  “an individual, a trust, estate, partnership, association, company or corporation.” IRS Notice 2020-18. So it covers all individuals and businesses.  

Federal Income Tax Payment Due Date Postponed

Just as important, the date that tax payments are due is also postponed from April 15 to July 15, 2020. (The IRS actually announced this two days earlier, on Wednesday, March 18, 2020. IRS Notice 2020-17.)

This applies more broadly than just taxes due for the 2019 tax year. For those paying estimated income taxes quarterly, the payment that was due April 15 is now instead due on July 15, 2020.

There’s no limit to the amount of tax amount postponed. There was a prior maximum amount postponed (in IRS Notice 2020-17) but that maximum has been eliminated. IRS Notice 2020-18, Section III, paragraph 2.

No Interim Interest and Penalties

Since taxes previously due on April 15 are now due on July 15, 2020, no interest or penalties will accrue during those 3 months. As the official Notice states:

the period beginning on April 15, 2020, and ending on July 15, 2020, will be disregarded in the calculation of any interest, penalty, or addition to tax for failure to file the Federal income tax returns or to pay the Federal income taxes postponed by this notice. Interest, penalties, and additions to tax… will begin to accrue on July 16, 2020.

IRS Notice 2020-18, Section III, paragraph 5.

No Extension Needed

This postponement of tax returns and tax payments is automatic. You don’t need to file any extension forms.

If you’ll need more time past July 15, the IRS says:

Individual taxpayers who need additional time to file beyond the July 15 deadline can request a filing extension by filing Form 4868 through their tax professional, tax software or using the Free File link on IRS.gov. Businesses who need additional time must file Form 7004.

IR-2020-58.

Tax Refunds Not Affected?

You may well be expecting a tax refund and so want to file as soon as possible. The IRS is encouraging you to do so:

The IRS urges taxpayers who are due a refund to file as soon as possible. Most tax refunds are still being issued within 21 days.

IR-2020-58. If you need your refund, the pandemic makes it all the more important to file as soon as possible.

ONLY April 15, 2020 Deadlines Affected

Things are changing fast, but at the moment this postponement does not apply to any other deadlines. For example, there’s no current extension for the March 16, 2020 deadline for corporate tax returns for tax year 2019 or the May 15, 2020 deadline for tax-exempt organizations. Also, the regular filing/payment date of July 15, 2020 still applies for quarterly filers. Again, these may also change.

State Income Tax Deadlines

Many states with income taxes have already matched the IRS’s postponement of tax returns and payments. For example:

  • California had earlier postponed to June 15 but extended to July 15 to match the IRS.
  • New Jersey’s legislature unanimously passed a bill last week to the likely same effect.
  • Montana’s governor on Friday postponed state filing and payment deadlines to April 15.
  • Arizona’s governor and then its Dept. of Revenue postponed the April deadlines to July.

It’s reasonable to believe that all or most states will follow the IRS’ lead, and do so quickly. So, please check with your own state’s taxing authority for updates.

 

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