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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.

 

“Priority” Debts in Bankruptcy

September 5th, 2016 at 7:00 am

What makes “priority” debts so special?

 

Your debts fall into three categories:

  • Secured
  • General unsecured
  • Priority

We’ve spent many blog posts covering secured and general unsecured debts. Today it’s time for priority debts.

Priority Debts

Just like it sounds, priority debts are treated in bankruptcy law as more important than other debts. They’re more important, essentially, than “general unsecured” debts.

Debts that are not secured by liens on anything you own are all unsecured debts. Just about all unsecured debts are “general unsecured” ones.

Priority unsecured debts are simply certain kinds that the law has selected to be treated with higher priority than other debts.

Why Are They Treated with Higher Priority?

For each type of priority debt there are reasons why it is treated special.

There are really only two types of priority debts in most consumer bankruptcy cases:

  • child and spousal support—the amount of support owed as of the time of the filing of your bankruptcy case
  • certain income taxes, and some other kinds of taxes—they are priority debts only if they meet certain conditions

Support payments are treated special simply because Congress has decided that this kind of debt should be favored over other debts in bankruptcy. In fact, it is treated with the very highest priority of all priority debts. When money is distributed through bankruptcy procedures, support debts are usually paid first, ahead of all other debts.

Certain income tax debts are treated special because taxes benefit the public, so Congress has decided taxes should be favored. Unlike unpaid support payments, for income taxes to be priority they have to meet certain conditions. Those conditions mostly have to do with how old the taxes are. The newer the tax is the more likely it is to be priority. Otherwise, (older) income taxes are just general unsecured debts.

How Do Priority Debts Have Higher Priority in Bankruptcy?

In bankruptcy, a lot turns on which debts get paid ahead of other debts. That’s because the amount of money available is usually much less than the amount of debt to be paid. So, often all of the money, or most of it, goes to priority debts.

This plays out differently under Chapter 7 “straight bankruptcy” and under Chapter 13 “adjustment of debts.”

In most Chapter 7 cases the bankruptcy trustee does not take possession of any of your assets to distribute to your creditors. Because there are no funds for the trustee to pay any debts, priority debts do not come into play. But there are (relatively few) cases where there are unprotected assets for the trustee to liquidate. In those cases the trustee must pay the priority debts in full before paying the general unsecured ones anything. And the trustee must pay higher priority debts in full before paying the lower priority ones anything at all.

In Chapter 13 cases, you and your bankruptcy lawyer propose a payment plan that you present to the bankruptcy court.  That payment plan must show how you will pay all priority debts in full during the 3-to-5-year case. Creditors can object, and after any objections are resolved, the court approvals a plan. Then during the course of the case you must in fact pay all the priority debts in full before you can complete the case and get a discharge (legal write-off) of your remaining unpaid debts.

The next blog post or two will show how priority debts work in practice.

 

Dealing with a Recorded Income Tax Lien and Preventing Future Ones

July 15th, 2016 at 7:00 am

Chapter 7 sometimes doesn’t give much help with tax liens. But Chapter 13 hugely helps with tax liens already recorded, and stops new liens.

 

Today we cover the 5th of the 10 ways that Chapter 13 helps you keep your home, which we listed in a recent blog post. Here’s how we had introduced this one:

5. Protection from Both Previously Recorded and Future Income Tax Liens

Chapter 7 usually does nothing to address income tax liens that have already been recorded on your home. It also doesn’t prevent future tax liens on income taxes you continue to owe after the bankruptcy case is completed. In contrast, Chapter 13 provides an efficient and effective procedure for valuing, paying off, and securing release of tax liens. Plus, the IRS/state cannot record a tax lien on income taxes during the years while the Chapter 13 case is active.

Let’s show how this works in practice.

The Example

Assume that you own a home worth $215,000 with a mortgage loan balance of $210,000. The home value has been increasing modestly each year.

You tried to start a business at the beginning of 2012 which you couldn’t really get off the ground so you closed it down at the end of 2013. You worked part-time during those two years to have some income, and the business made some money. But the combined income was not nearly enough. As a result you didn’t have the money to pay estimated self-employment or withholding income taxes during those two years. And before, during and after that two-year period you racked up a bunch of credit card and other debt.

As a result you owe $8,000 in income taxes to the IRS for 2012 and $6,000 for 2013. You’ve filed all tax returns on time, don’t owe anything for 2014 and 2015, nor expect to for 2016. Your credit card and other non-mortgage debts now total $68,000.

You just received a notice that the IRS recorded a tax lien against your home on the $8,000 2012 tax debt. You are strapped, have used up all sources of credit and have fallen behind on some credit card payments. You can’t afford to pay anything to the IRS, and don’t know what to do.

Chapter 7 “Straight Bankruptcy” Not Sufficiently Helpful

At first it looks like a Chapter 7 case would solve many of your financial problems. The question is whether it would solve them adequately.

A Chapter 7 case would likely forever “discharge”—legally write off—all or most of the $68,000 in credit card and other miscellaneous debts. That would no doubt free up a fair amount of cash flow.

The 2012 income tax debt would have met the conditions for discharge (essentially, more than 2 years since the tax return was filed and more than 3 years since that tax return was due). But the new tax lien now recorded against and attached to your home would survive a Chapter 7 bankruptcy.

That means that the IRS can still force you to pay that $8,000 tax debt by sitting on the tax lien and maybe threatening to foreclose on your home. There’s currently only $5,000 in equity in the home ($215,000 value minus $210,000 mortgage), less than the amount of the tax lien. But that equity will likely increase as the home’s value increases and you pay down the mortgage. You will eventually have to pay the tax. In the meantime the tax lien will continue significantly hurting your credit.

On top of that, the $5,000 tax debt for 2013 would not yet meet the conditions for discharge. It’s not yet been 3 years since its April 2014 tax return due date. So you would continue owing that entire $5,000 tax debt. Plus the interest and penalties would just keep accruing. Then just as soon as your Chapter 7 case is completed the IRS would be able to use all of its usual collection powers. That includes recording a tax lien on this 2013 tax debt as well.

So a few month after your Chapter 7 case would be finished you would likely have two tax liens of $8,000 and $5,000 on your home, and have to figure out how to pay them off.

Chapter 13 Often Much Better

As we stated at the beginning, “Chapter 13 provides an efficient and effective procedure for valuing, paying off, and securing release of tax liens.” Here’s how that works.

In the example provided, you and your bankruptcy lawywer would propose a Chapter 13 payment plan that treats the 2012 tax debt as partially secured against your home and partially not secured. That $8,000 tax debt is secured to the extent of $5,000 (again, the $215,000 value minus $210,000 mortgage). The remaining $3,000 of that $8,000 would be declared by the court to be unsecured. That portion would be paid if, and only to the extent, that there was any leftover money to pay it during the course of the Chapter 13 case.

As for the $5,000 in 2013 income taxes, your Chapter 13 payment plan would have to earmark enough to pay that in full as an unsecured “priority” debt. But the interest and penalties would stop accruing, effectively reducing the amount that you’d have to pay. And you’d have a great deal of flexibility when and how it was paid. The payments would be based on your budget and worked around other important debts. And, in contrast to Chapter 7, and very importantly, the IRS would not be able to record a tax lien against your home during the course of your case.

At the successful completion of your case you would have paid off the secured port of the 2012 tax. And so that tax lien would be released. Whatever portion of the unsecured part of that tax would not have been paid would be discharged, along with any unpaid portion of the other $68,000 in debts. The 2013 priority debt would be paid in full. You’d owe no taxes. And other than the mortgage, you’d be altogether debt-free.

 

Income Taxes Discharged and Not Discharged in Bankruptcy

April 15th, 2016 at 7:00 am

Bankruptcy DOES discharge–permanently write off–certain income taxes. It’s mostly just a matter of time.  

 

 

Taxes Can Be Discharged (Legally Written Off)

Some special kinds of debts can never be discharged through bankruptcy. Examples are child and spousal support, and criminal fines and restitution. A bankruptcy filing does not write off these kinds of debts.

Income taxes are not like these. Almost all income taxes can be discharged, once a few conditions have been met.

Once the tax you owe meets those conditions, it is discharged exactly like any other debt. The IRS and your state taxing authority are no different than your credit card creditor. Once a tax debt is discharged, they can never chase you for that debt again.

The Two Main Conditions to Discharge Income Taxes

For most people the conditions are not complicated. They require filing your tax returns and waiting out a certain amount of time.

To discharge an income tax in bankruptcy, BOTH:

  • More than 2 years must have passed between the date that you submitted the pertinent tax return to the IRS or state tax agency and the date you file your bankruptcy case.
  • More than 3 years must have passed between the legal due date for that tax return and the date you file your bankruptcy case.

That’s usually all it takes: filing the tax return and waiting for these two-year and three-year deadlines to pass before filing bankruptcy.

A Few Cautions

Keep three practical considerations in mind about these two time periods:

  • The 3-year period starts to run when the tax return was “last due, including extensions.” So if you asked for (and got) an extension of time to send in the tax return—from April 15 to October 15, usually—the three-year period does not begin until the extended due date for filing the tax.
  • You need to be precise about the actual date the tax return was due for the tax year in question. For example, this year April 15 falls on a Friday but that’s also a holiday in Washington D.C., so tax returns are not actually due until Monday, April 18. A couple days may seem minor but can make all the difference between a tax debt being completely discharged and being still fully owed.
  • With the 2-years-since-tax-returns-filed condition, be sure to determine accurately whether and when the IRS/state actually received your tax returns. Unless you already have documented proof of that date, get that directly from the IRS/state to make sure.

Two Other Conditions that Seldom Apply

Most of the time, your tax debt is discharged if those two conditions are met. But there are two conditions that could possibly come into play for some people.

  • More than 240 days must have passed between the date that the tax was assessed by the IRS/state and the date you file your bankruptcy case. This is seldom an issue because assessment usually happens within a few weeks after you get your tax returns in to the IRS/state. So you automatically meet this 240-day condition when you meet the 2-year and 3-year ones. It only comes into play when assessment gets delayed with a tax audit, litigation in Tax Court, a tax appeal, offer in compromise, and similar complications.
  • If you file a fraudulent tax return or intentionally evade a tax, it cannot be discharged in bankruptcy. This is relatively rare. It arises only if you were materially dishonest on your tax return, by not including some of your income, or by intentionally claiming deductions or credits which you knew you were not entitled to, or by cheating the IRS/state in some other way.

Conclusion

Assuming that these last two conditions don’t apply to you, and you filed your tax return for the tax in question, that tax can be discharged once the 2-year and 3-year periods have expired.

For example, assume you owe $7,500 for 2012 income taxes, for which you submitted your tax return for that tax on the regular due date of April 15, 2013. Assume the tax was assessed as usual way back in 2013, and there’s no tax fraud involved. You met the 2-year condition as of April 16, 2015. You meet the 3-year condition by filing your bankruptcy case on or after April 16, 2016. That bankruptcy case would discharge the $7,500 income tax debt and it would be permanently out of your life.

 

A Fresh Start for Your Home Partly Encumbered by a Tax Lien

February 12th, 2016 at 8:00 am

Chapter 13 handles a tax lien on a home especially well when the home has enough equity to cover some but not all of the tax lien amount.

 

In our last two blog posts we dug into tax liens, and we do so one more time today. Two blog posts ago it was about tax liens that have no equity at all to attach to. Then the last blog post was about tax liens that have enough equity in the home to cover the entire amount of the tax lien.

Today we get into the in-between situation—where there’s enough equity in the home to cover part of the tax lien but not all of it. How can you get a fresh start on you home in this situation?

A Quick Summary about Tax Liens

A recorded tax lien on your home turns an income tax debt that you could have completely discharged (legally written off) in a Chapter 7 “straight bankruptcy”case into one that you may have to pay in full. If that income tax debt meets the conditions for discharge (mostly by being old enough), whether and how much you have to pay that tax depends mostly on whether there is equity in the home to cover this tax debt.

If there’s no equity at all for the tax lien because the mortgage and other liens legally ahead of the income tax lien eat up more than the full value of the home, you may not have to pay anything, or relatively little, of the tax at issue.

If there is enough equity in the home to cover the entire value of the secured by the recorded tax lien, you will have to pay the tax if you want to keep the home.

So what happens if the tax lien is neither completely unsecured for lack of equity nor completely secured by more than enough equity? What happens with a partially secured tax lien?

The Problem with a Partially Secured Tax Debt under Chapter 7

A Chapter 7 case is great if you owe an income tax which meets the conditions for discharge, IF there’s no tax lien. But if there IS a recorded tax lien, and there’s some equity that the lien attaches to, you finish the Chapter 7 case with that dangerous tax lien still encumbering your home equity. Then the IRS/state will use that tax lien as leverage to make you pay as much of the tax as possible. If the value of the home is increasing, the IRS/state will likely be able to make you pay all or most of the tax amount before agreeing to release its tax lien.

The problem is that there is no legal mechanism under Chapter 7 to divide the partially secured tax lien into two parts, the secured part and the unsecured part. You can’t discharge the unsecured part and just pay on the secured part. Instead the IRS/state takes advantage of its tax lien by making you pay all or most of the tax.

A Partially Secured Tax Debt under Chapter 13

However, Chapter 13 “adjustment of debts” does have exactly this kind of legal mechanism. The bankruptcy court helps you fix in time the amount of equity in your home to which an income tax lien attaches. Then that amount—that part of the tax lien—and no more, is paid over time through the Chapter 13 payment plan. That’s the secured part of the tax debt.

The rest of the tax beyond the secured part is treated as a “general unsecured” debt. So it’s lumped in with the rest of your bottom-of-the-barrel “general unsecured” debts. So that unsecured part of the tax is paid only to the extent that you have money left over after paying the secured part, and after paying all your other legally more important debts in full.

In practice you usually don’t increase the amount you pay into your 3-to-5-year Chapter 13 payment plan payments when you add the unsecured part of your income tax. There can be two reasons for this.

First, sometimes you can only afford to pay the secured part of the tax and other legally more important debts—like catching up on your home mortgage, paying off your vehicle loan, and paying more recent income taxes that can’t be discharged—leaving nothing for ANY of the “general unsecured” debts. Paying nothing on your “general unsecured” debts means paying nothing on the unsecured part of the income tax with the tax lien.

Second, in most Chapter 13 cases, after paying the secured part of the tax with the tax lien and the other legally more important debts you have only a certain amount of money available during the life of your payment plan to pay to all of your “general unsecured” debts. So adding the unsecured part of the lien tax debt to that pool of “general unsecured” debts does not increase the amount of money you have to pay of the debts in that pool of debts, You pay the same amount and that amount is just spread out among more debts. Having the unsecured part of the tax with the tax lien just results in the other “general unsecured” debts getting less of that fixed amount that you pay.

Chapter 13 Example

This makes more sense with an example. Assume that a home is worth $225,000 with a first mortgage of $190,000 and second mortgage of $30,000, leaving equity of $5,000. The equity is increasing as property values increase and the mortgages are paid down. The IRS is owed $20,000 for the 2010 and 2011 tax years. That $20,000 could have been discharged without paying anything because the tax returns for those two years of taxes were due more than 3 years ago and were indeed filed more than 2 year ago. But then the IRS recorded a tax lien on the home for that $20,000.

That tax lien covers the $5,000 in present equity. But after a Chapter 7 was filed the IRS would not likely release its tax lien for $5,000 because it could just wait for the property values to increase and the mortgages to be paid down for the equity covered by its lien to increase.

However under Chapter 13 the bankruptcy court could order the $20,000 tax debt to be divided into a $5,000 secured part and a $15,000 unsecured part. The $5,000 would then be paid over the 3-to-5-year court-approved payment plan, throughout which time the IRS would be prevented from taking any collection action. The remaining $15,000 unsecured part would be lumped in with the other “general unsecured” debts, usually not increasing the amount paid into the plan.

 

Understanding Wage Garnishment Laws in Texas

January 28th, 2015 at 5:43 pm

wage garnishment in San Antonio, Texas bankruptcy lawyerMost Americans have some form of debt, and many struggle to make payments. Some are fortunate enough to get by with responsible budgeting, consolidation, and other financial strategies. However, unexpected circumstances, such as a suffering an injury or losing a job, can cause a debtor to fall behind. In some cases, creditors will garnish a debtor’s income to pay debt.

Although wage garnishment can severely limit a person’s financial freedoms, certain requirements must be met in order for wage garnishments to be legal. This article will briefly discuss how wage garnishment laws work in Texas.

Texas Laws Regarding Garnished Wages

For citizens of Texas, creditors cannot garnish wages to pay consumer debt, according to NPR. However, debts involving taxes, student loans, alimony, and child support may lead to wage garnishment.

Also, whether or not the debtor was born in Texas may affect the creditor’s ability to garnish wages. There are other complexities to these laws, which is why the guidance of a bankruptcy lawyer may prove invaluable.

What to Do When Wage Garnishment Begins

When wage garnishment begins, it is important that the debtor remains in contact with all relevant parties. These include the creditor, collections agency, and any attorneys involved. Do not avoid phone calls from these parties.

Although it may seem embarrassing or uncomfortable for an employer to learn about your debt, employees cannot lose their jobs due to wage garnishment—provided this is the first time it has happened.

Filing for bankruptcy may be a smart option if you face wage garnishment. A bankruptcy attorney can assess the facts of your case to determine if this is the right decision.

If you wish to learn how bankruptcy might help you financial situation, contact an experienced San Antonio bankruptcy lawyer. The Law Offices of Chance M. McGhee may be able to help. For more than 20 years, Mr. McGhee has helped clients return to financial stability, and he may be able to do the same for you. To schedule a free consultation, call us at 210-342-3400.

 

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