Bankruptcy provides important tax relief. Filing a bankruptcy petition stops IRS collection activity and can also wipe out certain taxes.
Once a bankruptcy petition is file, an automatic stay takes effect. The stay is similar to an injunction in a civil case. The IRS is prohibited from pursuing any collection activity while the stay is in place. Once the stay is lifted the collection activity can recommence, unless the taxes were discharged in the bankruptcy proceeding. The stay is lifted when the debtor is “discharged.” This is generally 6 months for a Chapter 7 and can be up to 5 years in a Chapter 13.
During the time the automatic stay is in effect, the statute of limitations for collection of taxes is suspended. After the stay terminates an additional 60 days is added to the limitations period.
Taxes are a priority debt in bankruptcy and are paid, if at all, before general unsecured creditors such as credit card companies. If a tax liability meets certain criteria, the taxes are treated just like credit card debt and can be totally wiped out. To receive non-priority treatment, the taxes must have been due more than 3 years prior to filing bankruptcy, a return must have been filed more than 2 years prior, and the tax itself must have been assessed more than 240 days before the bankruptcy filing.
Bankruptcy and taxes is a complicated topic. Only a tax attorney who also works in bankruptcy can help you take advantage of the relief available through bankruptcy.
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