However, even after considering bankruptcy, many taxpayers realize they must work to regain their economic status. Before they file, they should consider the consequences of the various proceedings. The proper type of filing can minimize liabilities and hasten economic recovery.
Normally, the bankruptcy process begins when a debtor files a bankruptcy petition. However, creditors also can initiate bankruptcy proceedings. Bankruptcy petitions are based on different chapters of the bankruptcy law. (A taxpayer's situation may fall in more than one area of the bankruptcy law.) The consequences vary depending on the provisions under which a petition is filed. Taxpayers must consider these possibilities carefully before they decide on a course of action.
CONSEQUENCES OF A
Some filing consequences are common to all bankruptcy proceedings.
Automatic stay. Once a petition has been filed, the debtor's creditors (anyone with a security or adverse interest in property) may not take any actions to collect, assess or recover claims against the debtor or his or her property.
Priorities. Filing a petition automatically establishes the sequence in which administrative expenses and other unsecured claims must be paid.
Debt discharge. On filing a petition, an individual may have some of his or her debts discharged. The nature and scope of debt discharge depends, however, on the type of bankruptcy petition filed.
Preferences. Under the bankruptcy law, certain recent transfers may be avoided; however, which transfers are affected (and which are not) must be examined.
CHAPTER 7 VS. CHAPTER 13
Two of the alternatives available to many individual taxpayers are chapter 7 proceedings (liquidations) and those under chapter 13 (debt adjustments for individuals with regular incomes). Which of these proceedings is used determines the consequences regarding priorities, debt discharges and preferences and exemptions.
Tax-related government claims. Frequently, debtors owe individual taxes, penalties and interest, which may be discharged depending on the bankruptcy petition's timing and type. These tax claims survive both chapter 7 and chapter 13 filings:
* Taxes due within three years of a bankruptcy filing.
* Any taxes assessed within 240 days before the petition filing date.
* Employment and FICA taxes collected for employees.
* The employer's share of employment taxes.
* Penalties compensating for actual monetary losses (such as prebankruptcy petition interest on taxes).
* Taxes not previously assessed that are legally assessable.
Chapter 13 considerations. All unsecured taxes, penalties and interest that are not priority claims (as previously discussed) are dischargeable in chapter 13 bankruptcy proceedings. For example, taxes due more than three years before a bankruptcy filing are discharged even if they involve fraud or a failure to file; postpetition interest on unsecured claims also may be discharged.
Chapter 7 considerations. If a bankruptcy petition was filed under chapter 7, there are additional exceptions to the discharge of tax-related matters. These amounts are not discharged by the bankruptcy:
* Taxes on a return that was not filed within two years of the bankruptcy petition filing date.
* Taxes on fraudulent returns.
* Penalties incurred within three years of a bankruptcy petition.
* Interest accrued after the bankruptcy petition filing date.
Tax liens. Liens placed by the Internal Revenue Service on a taxpayer's property before a bankruptcy filing are not necessarily discharged. In chapter 7 bankruptcies, liens survive intact and are not affected by the bankruptcy process. However, in chapter 13 proceedings debtors may request that a lien be divided into its secured and unsecured portions. Depending on the circumstances, the IRS's claim may fall in the unsecured category and may then be treated as an unsecured claim and be discharged.
For a detailed discussion of this topic, see "Individual Taxes, Penalties and Interest Forgiven in a Chapter 7 Versus a Chapter 13 Bankruptcy," by Kenneth Hansen, in the August 1993 issue of The Tax Adviser.
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|Title Annotation:||from The Tax Adviser|
|Author:||Fiore, Nicholas J.|
|Publication:||Journal of Accountancy|
|Date:||Aug 1, 1993|
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