February 26, 2020

Unfiled Tax Returns and Chapter 13

unknown tax liability and chapter 13 bankruptcyChapter 13 bankruptcy cases filed in the Northern District of Georgia cannot be confirmed by the bankruptcy court judge if the IRS or State of Georgia files documentation reporting unfiled tax returns.  The reason?  If you have unfiled tax returns, your potential tax liability is unknown.  Since Chapter 13 consists of a payment plan that must fit within five years, an unknown liability means that there is no way to calculate whether your proposed plan payment will work.

Further, prior to your Section341 hearing your Chapter 13 trustee will want to see a copy of last year’s tax return to (a) confirm that you have filed it, and (b) to cross check the annual income figure reported on Schedule B of your petition with the income figures shown on your tax return.

As you can see, therefore, your Chapter 13 cannot get past the trustee or the judge if you have unfiled returns.  Currently the IRS reports unfiled tax returns over the past 10+ years, so you should not assume that if your unfiled returns date back many years, you are in the clear.  In fact, the statute of limitations to determine when tax debt may be discharged in bankruptcy as stale does not begin to run until your returns have been filed.

What can you do, however, if you need to file Chapter 13 to stop a foreclosure, repossession or other emergency, and you have unfiled tax returns? [Read more…]

Can I Pay my Taxes with a Credit Card, then File Bankruptcy to Discharge the Debt?

no discharge of tax debt paid with credit cardWith April 15 just around the corner, many of us will be scrambling to come up with money to pay Uncle Sam.  For those who are self employed, estimated tax liability payments are due every quarter.  The IRS does allow you to pay your tax debt with a credit card, but you can expect to pay a “convenience fee” of around 2% of the amount charged. for this option.

Further, if you do use your credit cards to pay your tax debt, the Bankruptcy Code specifically disallows that part of your credit card debt to be discharged in a bankruptcy case, unless the tax you are paying is dischargeable as well.

The Bankruptcy Code is silent as to how long the non-dischargeability status remains associated with credit card debt when you continue to use and make payments on that credit card for several months prior to filing for bankruptcy, and that makes for some interesting conjecture. [Read more…]

IRS May Soon be Out of the Business of Seizing Income Tax Refunds for Benefit of Chapter 13 Trustee

As you probably know, there are two types of consumer bankruptcy cases available to you – a Chapter 7 which wipes out debt, and a Chapter 13 which creates a five year payment plan in which you pay back some or all of your debt with your “disposable income.”  When I prepare a Chapter 13 case, we work with you to create a liveable budget.  The money “left over” after you pay for housing, food, transportation, insurance, utilities and other necessities must be sent to the Chapter 13 trustee, who then disburses these funds to your creditors based on a plan of reorganization that we submit to the court.

What happens if you need to file a Chapter 13, you have not yet filed your tax return for last year, but you know that a refund will be coming your way.  The simple answer is that unless you are paying back your creditors at 100%, your Chapter 13 will demand that you turn over your tax refund check, and will use that money to pay your creditors.  If you know that a refund is headed your way, make sure to tell your lawyer before you file – there are some steps you can take to preserve some or all of your tax refund money.

Your Chapter 13 trustee will also want future refunds paid to the trustee.  This situation is easier to handle – you will want to adjust your payroll withholdings so that you do not have any refund coming.  As far as the Chapter 13 trustee is concerned, your tax refund is kind of like a savings account that artificially reduces your net pay amount.

All of the Chapter 13 trustees in the Northern District of Georgia require debtors who are paying less than 100% to creditors to include in their Chapter 13 plans a provision that authorizes the IRS to intercept any refund payable during the years that your plan is in effect and send this money to the Chapter 13 trustee.  And until now, the IRS has cooperated with the Chapter 13 trustees in redirecting refund money. [Read more…]

Will a Personal Bankruptcy Affect my Small Business if I am Self Employed?

Bankruptcy businessmanWith a sluggish economy, I have met with an increasing number of small business owners who are considering personal bankruptcy to deal with credit card debt and personal loans, but who want to keep their business assets and credits separate.  Is this possible.

First, it does make a difference whether the small business is incorporated.  If your small business is a proprietorship (i.e. “Tom Smith d/b/a Tom’s Lawncare”) then there is no way to separate personal assets and debts from business assets and debts.  In this situation, all debts are “personal” because the proprietorship does not have a separate identity from the individual.  All debts would have to be listed – for bankruptcy purposes in this situation, there is no difference between your personal credit card debt that arises from gasoline and grocery purchases and a credit card that you use for business purchases.

Assets of the proprietorship would be considered personal assets – assets that do not fit within the Georgia exemption statute would be at risk.

In a Chapter 7, if you have non-exempt assets you would have to surrender those assets to the trustee or offer to buy the “estate’s interest” from the trustee (usually at a discount from fair market value).

Note that any receivables of the business or any other property with potential resale value (i.e. customer lists, pending contracts) could be claimed as estate assets.

In rare instances a Chapter 7 trustee could object to your small business bankruptcy using an “income suppression” argument.  This argument asserts that you should not be eligible for bankruptcy relief because you have intentionally suppressed your income by leaving a highly paid job or intentionally refused to maximize income opportunities.

If you are incorporated, the shares of your business are assets and you may very well be asked to justify a de minimus (i.e. $500) valuation that you put on those shares.   I see this issue frequently when clients own service businesses.  [Read more…]

Using Bankruptcy to Discharge Tax Debts

The video below was recorded by my friend and colleague Darrin Mish of Tampa, Florida as part of the video section of his Get IRS Help web site. I met Darrin several years ago at a tax problem resolution seminar and I regularly refer tax problem clients to him. Unlike most areas of the law, tax problem lawyers can represent taxpayers all over the country – Darrin’s office happens to be in Tampa, Florida, but he assists clients all over the country.  Darrin also publishes a helpful blog about solving IRS problems.

In this video, Darrin discusses how bankruptcy can be used to discharge tax debts. He was nice enough to mention this blog in his video and I am reproducing it below:

Unfiled Tax Returns – No Matter What the Reason – Create Havoc in Chapter 13 Cases

In Chapter 13 cases filed in the Northern District of Georgia, both the IRS and the Georgia Department of Revenue receive notice of your filing.  In my office, I include both the IRS and Georgia as "notice creditors" in every case filed.

Recently, I have had to deal with problems arising from "estimated liability claims" filed by either the IRS or Georgia in Chapter 13 cases.

The problem arises in the case of a debtor who did not file a tax return in a prior year because of very low or non-existent income.  I have had a number of clients tell me that their accountants or tax preparers advise them that the debtor did not need to file a tax return for years in which the debtor earned little or no income.

I do not know if this advice about not filing returns is correct or not as I am not a CPA or a tax preparer.  What I do know, however, is that if you did not file a return in a prior year, there is a good chance that the IRS or Georgia will file an estimated liability claim for those tax years in your Chapter 13 case.

This estimated liability claim will often be calculated based on your earnings for recent years.  In other words if you earned zero in 2003, but earned $50,000 in 2004, 2005 and 2006, then the IRS will assume that you earned around $50,000 in 2003 and they will estimate your liability for that period as well.  Their estimated liability claim will include tax liability, interest and penalties.

If the IRS files an estimated liabilty claim based on unfiled returns, your Chapter 13 case will include unanticipated priority tax debt and there is a good chance that the Chapter 13 trustee will not agree to recommend confirmation of your case because your tax debt is actually unknown.

I am currently working on several cases where we have had to ask for reset after reset to give the debtor time to file a return showing zero earnings and for the IRS to amend its claim.

If there are any years in which you did not file tax returns, I think it would be wise for you to consult with your tax preparer prior to filing Chapter 13.  I am now recommending to my clients that they advise their tax preparers about this estimated liability problem and file a return showing zero income so that their Chapter 13 plans will not be in jeopardy.

[tags] chapter 13 and taxes, estimated tax liability claims in bankruptcy, proof of claim, Georgia Department of Revenue, IRS claims [/tags]

Discharging Taxes in Bankrutpcy – Recommended Resource

Several years ago, I attended a tax problem resolution seminar in Denver with the intention of expanding my practice to include tax issues.   One of my classmates at the seminar was a lawyer from Tampa named Darrin Mish.  Over the past few years, Darrin has built a growing tax problem resolution practice with clients in Florida as well as nationally (since IRS problems are federal, your search for a tax problem lawyer need not be limited to your local area).

Darrin has an informative and easy to follow blog/podcast called the IRS Problem Solver blog.  His blog posts include text and video, which I suppose technically makes his blog a "vodcast."  In any event, his June 12, 2007 post deals with the discharge of taxes in bankruptcy, and I recommend it to you.  In this short video blog post, Darrin sets out the basic rules of discharging taxes in bankruptcy. 

In the post, Darrin notes that one of the services he offers is to analyze your tax situation to determine whether your taxes are discharged in bankruptcy.  If you have any significant amount of tax debt and are considering bankruptcy, you should strongly consider retaining a knowledgeable tax lawyer like Darrin to do this analysis.   If you want to speak with Darrin, you can reach him toll free at (888) 438-6474. 

I have done this type of analysis but I spend my time representing bankruptcy and Social Security disability clients.  Most bankruptcy lawyers – myself included – do not have the time to keep up with changes in the rules relating to the discharge of tax debts and I am far more confortable filing a "tax bankrutpcy" with the analysis and input of a tax problem consultant.

Are There Tax Consequences if You Surrender Your Home in Bankruptcy?

I recently received an email from a very concerned Chapter 7 client who I represented in 2006.  My client had suffered a fairly drastic reduction in his income and as part of his Chapter 7, he surrendered his home, which has a fair market value of approximately $650,000.  There were no objections in this case, and my client received his discharge as a matter of course.

Around the first of February, 2007, my client received a 1099 from the mortgage company showing that $599,000 of debt was forgiven.  I checked with my colleague, CPA Scott Rittenberg, who advised me that in a non-bankruptcy context, a homeowner who sells or loses a home to foreclosure could be liable for taxes on the difference between his basis in the home (in this case around $500,000) and the forgiveness ($599,000).  Would my client be looking at an income event in the amount of $99,000?

Scott did note that if my client had been in his home for two years or longer there was a $250,000 exclusion that applied, but absent a two year stay, there could be a tax problem.  Scott advised me to look further to research the rules about how a bankruptcy might change things.

I did a quick search on the BankruptcyLawNetwork blog and I found this post that answered by question about the tax treatment of a forgiveness of debt in bankruptcy by my colleague, attorney Cathy Moran of Mt. View, California.  Cathy publishes a very comprehensive and informative California bankruptcy law web site that speaks to many consumer bankruptcy issues.

Cathy advises that if you get a 1099, you should file a Form 982 to advise the IRS that the debt forgiveness occurred in bankruptcy and has no tax consequences.

2008 Update: you can read another informative post about the tax treatment of debt forgiveness in a bankruptcy on Taxgirl’s blog in a post entitled “Foreclosures, Debt Forgiveness and Mortgage Losses Explained.”  Click on the link to read this post.

Needless to say, my client is much relieved by the answer to his question.  Tax consequences arising from a deed in lieu of foreclosure in a non-bankruptcy setting could have significant and unintended consequences.  If you have option of executing a deed in lieu vs. a bankruptcy, keep the tax issues in mind.

Chapter 13 Plan Strategies for Self Employed Debtors

With an increased emphasis in the new Bankruptcy Code upon a debtor’s income history, self-employed or commissioned sales debtors will find a hostile reception in Chapter 13.  A recent case on which I have been working illustrates the problem.

My clients are self employed real estate agents, both in their 60’s.  Residential real estate sales can be a good business, but it can also be cyclical – with some months yielding a nice income and other months completely dry.   In this case my clients had close to $100,000 in credit card debt and close to $200,000 in income tax debt.

As an aside, real estate agents often have income tax problems because of the nature of their income.  Funds are not always there when it comes time to pay quarterly estimates – the estimated payments are based on the previous  year’s income.  In addition, the sales cycle of listing to closing may be four to six months, which means that cash flow can be a problem.

In this particular case, we had to file earlier than I would have preferred because we were trying to beat the filing of a tax lien.  Most of the tax debt in this case was "stale" for bankruptcy purposes, meaning that we could treat it as unsecured debt.  Once a lien was filed, we would be stuck paying the entire amount as secured debt.

The problem we faced arose from my clients’ income in the six months prior to filing.  The spring and summer months were realtively good for income purposes, resulting in an average monthly income that had no basis in current reality.  This fall and winter had been very poor months for home sales, perhaps because of the rise in interest rates and tightening of mortgage underwriting standards.

When we ran a "means test," the calculations showed that my clients had close to $2,000 per month in disposable income.   The problem – in November, my clients’ gross income was just short of $2,000.

I suggested that we consider a "step" plan that provided for a lower payment during "lean" months and a higher payment during spring and summer, which are traditionally better for real estate agents.  At this point, my clients were wary about agreeing to this because of their concern that they could be digging a deeper hole for themselves.

We also discussed taking the case to the judge, but I really have no basis to argue that my clients’ income will not match that of 2005.  I suspect that in this case, my clients are spending money for products and services that they are not completely documenting.  I do not suspect any wrongdoing, but I do think that $20 here and $25 there are adding up, leaving them with no money at the end of the month.

We decided to leave the plan at the $2,000 per month figure for now.  In six months, if the income situation has not improved, we will amend the plan and go for a reduction based on real life numbers.  I have no doubt that this strategy will result in a great deal of hardship for my clients, but I don’t have any other ideas.

My conclusion – Chapter 13 has become even more unfriendly to self-employed and commision sales debtors.

[tags] Chapter 13, bankruptcy and commissioned sales debtor, real estate agents and bankruptcy, discharge tax in Chapter 13 bankruptcy, means test  [/tags]

Debtor Uses Threat of Bankruptcy to Negotiate an 83% Reduction in Tax Debt

Tax problem attorney Darrin Mish of Tampa has recently begun publication of his "IRS Problem Solver blog."   As you might imagine bankruptcy filings are often driven by tax problems.  If you have tax problems in the form of unpaid taxes, huge penalties and imminent collection, it might make sense to speak to both a bankruptcy lawyer and a tax problem lawyer like Darren to review all of your options.

Darrin recently wrote about a case where he used the "bankruptcy card" in his negotiations with the IRS to negotiate favorable terms in an Offer in Compromise.  The case involved a debtor who had not filed tax returns for ten years and owed an estimated $145,000.  Darrin was able to negotiate a Offer in Compromise in the amount of $24,000 with the IRS Appeals Division by pointing out that the Internal Revenue Manual says that if a taxpayer threatens bankruptcy, then the IRS must calculate what the IRS would likely receive after the bankruptcy was over.

Obviously, not every $145,000 tax liability will settle for 17 cents on the dollar, but this is an example of how even the threat of bankruptcy can make a difference.

[tags] tax issues in bankruptcy, offer in compromise, darren t. mish, discharge of tax liability in bankruptcy [/tags] 

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