When you owe the IRS, you may incur heavy penalties and interest, which can add up to more than the tax you owe. Interest is treated differently than penalties when filing bankruptcy, and different rules exist for interest and penalties that accrued before and after you file bankruptcy. If you are dealing with tax debt and bankruptcy, there are a few things you need to know.
1: Pre-petition Interests Are Equal To Taxes
In both Chapter 7 and Chapter 13 bankruptcy, interest charged on unpaid taxes is treated the same as taxes. Since taxes are non-dischargeable, so is the interest. You will continue to accrue interest after a Chapter 7 case, but in a Chapter 13 case, the interest stops accruing once the petition is filed. However, if a Chapter 13 case is dismissed, or you convert it to a Chapter 7 case, the interest is added as if no Chapter 13 had been filed.
2: Penalties Are Usually Dischargeable
Unlike interest, prepetition penalties are discharged in a Chapter 7 case if the penalties are more than three years old. In Chapter 13, pre-petition penalties are discharged regardless of when they occurred.
Penalties on non-dischargeable taxes aren't assessed while Chapter 7 and 13 cases are open. So, keep in mind that Chapter 7 cases aren't open for very long--usually just a few months, unlike Chapter 13, which is open for about 3 years.
3: Get The Trustee To Pay Your Taxes
If you think you'll owe federal income taxes for the current year, and you also have assets that will be liquidated during your bankruptcy, you may be able to get the trustee to pay your taxes.
The Tax Code allows Chapter 7 debtors to divide the year in which they file for bankruptcy into 2 short years. For example, if you filed bankruptcy in August 4th of the year and elect to divide that tax year into two parts, you can. The first year would run from January through August 4th, and the second year from August 5th through December 31st of that year. This means all liabilities accrued up to August 4th would be considered prepetition priority claims, which the trustee must pay ahead of all other creditors.
Taxes, penalties, interest can all get confusing, even when filing bankruptcy isn't included. For this reason, make sure to discuss all your tax issues with a bankruptcy attorney like Wagner Law Office PC. He or she can help you sort out tax issues and make sure you correctly file your bankruptcy petition.
