How to Discharge Income Taxes in Bankruptcy

Before we get started, Disclaimer: Nothing in this article may be mistaken as legal advice. Attorney David Nelson, is licensed only in California, and this article is intended only for readers in California. This article is for entertainment, educational, extra-curricular, and medical purposes only.  If you decide to rely on this, heaven help you.

Chapter 7

Yes, you can discharge taxes in bankruptcy.  No, not all of them but some of them.  I hate to mention this part, when it comes to credit cards, medical bills and collection agencies, I only want one statement so that I have the addresses, account numbers and balances.  But with the IRS, Franchise Tax Board and Board of Equalization, I want you to bring every letter with you that they ever sent you.  In those letters are the answers to many of the questions and rules we will go over below.  California sales taxes are calculated against gross receipts and therefore discharge in bankruptcy under the same rules.

To discharge income taxes, whether Federal, State, or California Sales Taxes, many rules have to be followed.  Because this article only discusses income taxes, then it is important to remember that these are taxes that are assessed against gross income or gross receipts. See 11 USC 507 a 8 and 11 USC 523 a 1

There are several rules involved.  What’s worse is that the rules all involve the timing of the bankruptcy.  Often you’re in my office because of a lawsuit or a wage garnishment, or your bank account has recently been levied and you want to file immediately in order to stop the bank or your employer from sending your money to the Sheriff’s Office.

Problem is this, if you owe a bunch of money to the IRS and have to wait to file your bankruptcy in order to get rid of the tax, you’re going to have to decide whether the amount of tax to be discharged is more or less important than the amount of money the Sheriff is about to take away from you.  Notice that I said more important not bigger.

The Rules

  1. The tax year must be over.  Kind of a “No Duh” moment.
  2. The tax return (if required) must have been filed.  This is also a “No Duh” moment.  Prior to 2005 you used to be able to discharge the tax even you hadn’t filed if you chose to file a chapter 13 bankruptcy instead of a 7.  Many great things about the bankruptcy code were eviscerated in 2005 when republicans and democrats who had taken hundreds of millions of dollars in lobby money over the course a decade finally gave us bankruptcy reform.  Conveniently this happened right at the start of the economic downturn. Literally, the housing market went flat one month before the bankruptcy reforms went into effect. Hmm, I wonder how the banks knew it was finally time to get the bankruptcy reforms passed? Bottom line is, if you owe federal or state income taxes in California and you haven’t filed your returns, your bankruptcy is not going to help you get out of paying your taxes.  So file your tax returns, make sure you get proof that they received them, and call back in two years.  DISCLAIMER: Make sure that you speak with an attorney now and get this advice from an attorney as bona fide legal advice before you make your decision.  This article is not your legal advice.
  3. The tax return’s due date must have been more than 3 years prior to the filing date of your bankruptcy petition.  Notice it says “Return’s Due Date”. Commonly called the 3 year rule, this is where most people stumble and file their bankruptcy petition too early.  Tax Returns are due in April!  On top of that, if you got an extension to August, then they were due to be filed in August.  What if you extended to October?  If you cannot remember if you extended, contact the IRS and get an IRS Transcript for the tax year or years in question.  You can download the Transcript request from the IRS website. Alternatively if there is nothing else pressuring you to file you could just wait until October 20th to file.  I assume you can get a tax transcript from the Franchise Tax Board or Board of Equalization if you need one.
  4. If you filed your tax returns late, your returns had to have been filed with the IRS or other taxing agency at least 2 years prior to filing your case.  This is true whether you owe income taxes to the IRS or the State of California or whatever state you owe taxes too.
  5. Assuming you have beaten the 3 year rule, and the late filing rule, you still have to have beat this one.  The tax must be assessed at least 240 days prior to filing your bankruptcy petition. That’s about 9 months. Assessed means that they have decided you owe, how much and told you so.  In California, you get a letter that says: Notice of tax due.  It won’t say “assessment” and probably won’t say “assessed” either.  California’s notice of tax due is a weird animal, it does not become effective until 60 days after they send it.  So, in California, it’s a 300 day rule from the first letter.  Our Franchise Tax Board will send a 2nd letter stating that the notice is “final” and from there your 240 days starts. At this point people often ask the IRS, Franchise Tax Board or Board of Equalization if they will take less, give them a break.  Called an offer to compromise, if you’re going to file a bankruptcy, DON’T DO IT.  An offer to compromise delays the 240 day rule.  Sort of like the extensions on filing your tax returns under the 3 year rule.  You have to add 60 days to the time that your offer is pending plus the time that your offer is pending to the 240 days.  That can extend your 240 days automatically by 60 days even if you withdraw the offer to compromise the tax debt on the same day as you make the offer.  If you filed a bankruptcy previously during the 240 day period and it was dismissed and now you have to refile, you must add the amount of time your bankruptcy was pending to the 240 days plus another 90 days.  So, even if your previous bankruptcy was dismissed after a month you must add 4 months to the 9 months.  That’s an overdue baby.

A client, and no kidding his real name was Groucho Marx, (the names were changed to protect the innocent) owed $50,000 to the Board of Equalization, and $250,000 to the IRS. And no kidding, his rich uncle, (it wasn’t his uncle) died and left him some money, 15% of the total taxes owing.  After calling the IRS and talking them into taking a 15% pay off, the IRS put a condition on the deal, he had to get the State of California’s Board of Equalization to take the same deal.  Stupid condition but that’s what they told him.  So, he calls the BOE and says hey they’ll take 15% if you do, what do you say?  Unfortunately, they said, “we’ll get back to you.”  A week later they answered by taking all of his money out of his bank account.

The Board of Equalization and Franchise Tax Board in California are a bunch of rats clamoring over a cadaver with very little meat left on it’s bones.  If you ever make an offer to compromise a debt, never have the money in an account with your name on it.  Never have it in your wife’s account.  Never have it in your S Corp’s or your LLC’s name.  In fact, you might want to have it in a hole in your back yard before you make the call.

Chapter 13

The rules are nearly the same but you get to put the taxes you owe into a payment plan.  Plan details can be tricky but you no longer get the good benefits such as discharging taxes without filing the returns and so on.  Good luck to you.

Disclaimer: Nothing in this article may be mistaken as legal advice. Attorney David Nelson, is licensed only in California, and this article is intended only for readers in California. This article is for entertainment, educational, extra-curricular, and medical purposes only. If you decide to rely on this, heaven help you.

Cash for Keys

If you lose your home to Foreclosure . . .

If you cannot afford to pay for your home, if you cannot eventually get a loan modification, if a Chapter 13 just won’t work for you, then you will lose your home.  Even if you do a chapter 7 and avoid a foreclosure for a little while, if none of those other options will eventually work for you, then you will lose your home.

Keep in mind that a fantastic option is available but only if you start early enough.  Short Sale can help you immensely by avoiding a foreclosure which means a much smaller hit on your credit than a foreclosure.  Your realtor who is probably a relative or close friend will get a commission, the bank will get paid better than it would have if you’d gotten foreclosed and it’s a win win win situation.  If your Realtor is a close relative or family friend, then think of what it means to keep the business in the family.  Because if you’re going to lose the property anyway, why wouldn’t you help your siblings and friends pay their bills too.

At that point, once the home has foreclosed and/or been repossessed by the bank, within a few days, usually only 2 or 3, a Realtor working for the bank will show up and ask you to move.  When they do, they’ll often offer you some moving money.  Usually it’s about $3000.  I believe there’s an Obama stimulus plan which reimburses the bank up to $3000.  A client of mine told me that his offer went like this: $3000 if they were out in 2 weeks, $2000 if out in 3 weeks and No thousand dollars if longer than 3 weeks. Behind the money is the hope on the part of the bank that if you expect to get paid, you’ll have to leave the property in a livable condition, not scrubbed but clean, carpets not shampooed but the house broomed out.  Above all, they want the sinks, faucets, toilets and carpets to still be in the place once you’re gone.

Most of you in this situation have probably already started looking and maybe even found a place to go.  I recommend you keep enough furniture in the house to make it look like you still live there, if you have moved, they won’t offer you anything.

Broom cleaning is usually all that’s required and sometimes they’ll ask you to leave the major appliances behind.  If they are yours and you cannot afford to replace them, let the realtor know that you have take them with you.  Usually you can work something out and these are much less critical than are the sinks, faucets, doors, door knobs, carpets and toilets.

The agreement between you and the real estate agent for the bank will state that you must have the place empty on the last day, and that the real estate agent will inspect the property before turning over the check.  If you haven’t cleaned all the trash out of the garage, you’re not getting the check.  If you have packed up the sinks, faucets, carpet and toilets, you might as well not both showing up to ask for the check.  Besides you don’t want to walk out with fixtures because there’s a good chance the bank will sue you.

Your Landlord has a Foreclosure

If your landlord has a foreclosure on the property that you’re living in, you have a unique situation.  Now the bank must be really nice to you.  The law requires that they give you the cash for keys and that they give you more time to move.

My personal favorite part is this: the landlord can no longer do an inspection and determine how much of your deposit he has to pay you back.  If you are paid current on the rents, he still must send you a settlement letter within 3 weeks and pay back your deposit.  However, you and I both know he doesn’t have it.  If he doesn’t send the settlement letter and payment on time, you can sue him for 3 times the balance due to you.  If your deposit with $1500 you sue him for $4500 in small claims.

If he files a bankruptcy on it, and tries to say that the deposit is discharged in bankruptcy, you tell him that it was money held in trust and therefore not dischargeable.  You will want a bankruptcy attorney who does creditor’s work to help you and you will have to do it during the bankruptcy or you may lose your rights.

Rebuilding Credit After Bankruptcy


If you or anyone you know has ever file bankruptcy than for them to get back on their feet [fast] they MUST know…

How to Rebuild Credit After Bankruptcy Copyright 2011 / All Rights Reserved

See the video article here:

In this article we’re going to cover what I believe to be the best strategy for rebuilding credit after bankruptcy.

If you stick to some basic rules and follow some very basic steps you may be surprised to find that you can have a very healthy credit score within a relatively short amount of time after your bankruptcy. Before we get into the method itself, let’s talk a little about why it works. This “credit after bankruptcy” strategy works because of a special aspect of the credit scoring system known as “scorecards”.

In credit scoring, a “score card” categorizes and scores consumers based on their credit performance compared to others in their same category. It’s kind of like the credit world’s equivalent of “grading on a curve”, but this “grading curve” can hurt you just as much as it can help you.

Both FICO and the newer Vantage score use scorecards, so the general discussion here should apply to both. A scorecard might, for example, look at patterns for consumers who have filed bankruptcy. Statistics might show that if a consumer has late payments within a few months of bankruptcy, hey are highly likely to have even worse credit problems in the future. Statistics might also show that consumers who keep their credit clean after bankruptcy for at least a year or two are much less likely to default on loans.

This means that consumers on the bankruptcy scorecard who have late payments popping up within a year or two of their bankruptcy will likely see their score drop even more and will have an extremely difficult time bringing it up from there. Why? Because it looks like they haven’t learned their lesson, and they’re continuing with their old ways.

On the other hand, a consumer who takes good care of their credit and starts building a positive payment history after their BK could see a seemingly disproportionate jump in their credit score.

What does this mean for your efforts to rebuild credit after bankruptcy?

We’ll cover that now.

The #1 most important rule that you absolutely must follow after your bankruptcy is to keep your credit SQUEEKY CLEAN.

Seriously, you cannot allow yourself a single slip up. If you do, the scorecard effect is going to work against you and your score will suffer more and for a longer period of time than it would otherwise. The next thing that you have to do is to make sure any negative items on your credit report that were included in the bankruptcy are being reported as such. As included in the bankruptcy. Again, because of the scorecard effect, these incorrectly reported negative items can wreak havoc on your credit score. The third and final thing to do is to start the process of rebuilding credit after bankruptcy by opening up NEW positive primary credit accounts (NOTICE IT DOES NOT SAY REAFFIRM A DEBT DURING YOUR BANKRUPTCY! ~David L Nelson, Bankruptcy Attorney) and building a positive payment history. The best place to start is probably with secured credit cards, sub-prime credit cards or merchandise cards (or all three), and then slowly build your credit score by building up balances and paying them off over time. This will build new payment history which is very important after a bankruptcy. Again, the scorecard effect will come into play here and as long as you’ve kept your credit clean, it’s highly possible you’ll see a good jump in your credit score in a relatively short amount of time. Also remember that while these credit building tools might not seem too great in and of themselves, they are a stepping stone to better forms of credit that you will soon get offers for and qualify for if you stick to this plan. It might sound like it would take a lot of time but if you are proactive and start immediately after discharge, you can actually see your credit score reach the “good” range in as little as a year or two after your bankruptcy.

Sincerely,Jessica Ryan
Zodiac Publishing

Recent Client Testimonial

David and Anna,

My husband and I wanted to express our sincerest ‘thank you’ for your depth of preparation, and guidance prior to our hearing date.

While awaiting our turn with the trustee it was unsettling to witness not only individuals  whom paid outside parties for assistance assuming they’d save money yet receive the same level of service which was definitely not the case. It was far more disappointing observing the trustee extend many hearing dates to petitioners whom already had attorney representation. We both realized after observing, and listening to others prior to our hearing that we made the absolute best choice in representation.

We will highly recommend your services not because of your preparedness, and knowledge, but more importantly we will recommend your services because you’ve afforded us peace of mind in a dignified manner to move forward…


Mr. & Mrs. Ochoa

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