How bankruptcy can — and cannot — relieve tax debt

Bankruptcy is a legal tool that can remove personal liability for some income tax debts, stop most IRS collection actions temporarily, and give you breathing room to reorganize. But tax debts are treated differently from ordinary unsecured debts: there are clear timing tests, special non-dischargeable categories, and separate rules about tax liens and refunds.

Below I explain the practical rules, walk through Chapter 7 vs Chapter 13 differences, list what typically survives bankruptcy, and offer a short checklist and proven strategies to evaluate whether bankruptcy is the right move for your tax problem. (This is educational information only; consult a qualified bankruptcy or tax attorney for personalized advice.)

Sources: IRS — Bankruptcy Overview and Topic No. 653 (see https://www.irs.gov/businesses/small-businesses-self-employed/bankruptcy-overview and https://www.irs.gov/taxtopics/tc653).

The three timing tests for discharge of income tax debt

To discharge an income tax debt in Chapter 7 (and in many respects for discharge treatment in Chapter 13), the tax usually must meet all these tests:

Return due date (including extensions): The return was due at least three years before the bankruptcy filing date.
Return filing: The tax return was actually filed at least two years before the bankruptcy filing date.
Assessment: The tax was assessed by the IRS at least 240 days before the bankruptcy filing (this period can be tolled by, for example, an offer-in-compromise, a collection due process hearing, or if a prior bankruptcy was filed).

If any of these tests fail, the tax is generally non-dischargeable. The IRS and bankruptcy courts apply these criteria strictly — missing one element is often dispositive. See the IRS’s bankruptcy guidance for details (IRS, Bankruptcy Overview).

Note: These timing tests apply to most federal income taxes. They do not apply the same way to payroll withholding taxes, trust fund taxes, or to situations involving fraud or willful evasion.

Taxes that are almost never dischargeable

Certain categories of tax debt survive bankruptcy in virtually every case:

Trust-fund or withheld taxes. These are taxes the business withheld from employees (employee income tax withholding, certain payroll taxes/FICA) and which were not timely paid to the government. The trustee treats these as trust-fund taxes and they are generally non-dischargeable.
Recent income taxes that fail the timing tests described above.
Taxes assessed through fraud or where the taxpayer willfully evaded tax (e.g., fraudulent returns, tax evasion). Courts will not discharge taxes where fraud is proven.
Certain penalties and criminal tax liabilities.

If your unpaid tax is from payroll withholding or arises from fraud, bankruptcy will not eliminate the liability.

Chapter 7 vs Chapter 13 — practical differences for tax debt

Chapter 7 (liquidation):

Purpose: Discharges qualifying unsecured debts after a trustee sells nonexempt assets to pay creditors.
For tax debts: If the income taxes meet the timing and non-fraud conditions above, Chapter 7 can eliminate the taxpayer’s personal liability for those taxes.
Downside: Tax liens remain attached to property the lien covers even if the underlying tax liability is discharged, unless the lien is otherwise avoided. Also, if you have nonexempt assets, the trustee can sell them to pay any creditors, including taxes the estate is responsible for.

Chapter 13 (reorganization):

Purpose: Enables individuals with regular income to repay debts through a 3–5 year plan while keeping property.
For tax debts: Chapter 13 can place tax claims into a repayment plan; certain tax liabilities may be partially discharged at the end of the plan if they meet criteria. Chapter 13 also allows taxpayers to cure nondischargeable priority tax debts over time in some cases.
Benefit: Because Chapter 13 leaves you in control of assets (so long as you keep plan payments current), it’s often used when the taxpayer has assets they’d otherwise lose in Chapter 7 or when many of the timing tests are close but can be managed within a plan.

For deeper comparisons and chapter-specific strategies, see our guide: When to Consider Bankruptcy for Tax Debt: Chapter 7 vs Chapter 13 Effects (internal link).

(Internal reading: When Bankruptcy Might Reduce Your Tax Burden: Key Rules and When Bankruptcy Can Stop IRS Collection Actions.)

Tax liens, refunds, and bankruptcy — what to expect

Tax liens: A federal tax lien is a claim on real and personal property to secure payment of a tax debt. A discharge in bankruptcy removes personal liability for the debt but does not automatically remove the lien. The IRS may need to release the lien after the debt is paid or the lien may remain in place until it lapses. In practice, liens complicate any sale or refinancing of property.
Refunds: Refunds owed for tax years that ended before you filed bankruptcy typically become property of the bankruptcy estate (Chapter 7 trustee or Chapter 13 plan). Post-petition refunds (tax years that end after you file) may be handled differently. Expect trustees to review and, in many cases, intercept pre-petition refunds to pay creditors.
Collections and the automatic stay: Filing bankruptcy triggers an automatic stay that stops most collection actions, including wage garnishments and levies. The IRS may seek relief from the stay for collection of certain post-petition taxes or in limited circumstances. See IRS guidance on bankruptcy and collection actions for specifics.

Common real-world scenarios

Scenario A — Old income taxes: You owe income taxes for a return due five years ago and you filed the return. The assessment date is more than 240 days in the past. These taxes are likely dischargeable in Chapter 7 if there’s no fraud.
Scenario B — Recently assessed taxes: You owe taxes from a return filed last year; the assessment was 90 days ago. The timing tests fail; bankruptcy will not discharge these taxes now, though Chapter 13 might provide a repayment path.
Scenario C — Payroll withholding taxes: Your business withheld employee income taxes but did not remit them. Those trust-fund taxes are not dischargeable in bankruptcy — the responsible parties remain personally liable.

In my practice I’ve seen taxpayers eliminate older federal income tax liabilities through Chapter 7 while still having liens attach to property; in one case the client cleared $25,000 of qualifying tax debt but later had to negotiate lien release or pay the lien to sell a home. That outcome is typical: discharge removes liability but not always the government’s secured interest.

Practical checklist before you file

Gather the following documents before meeting a bankruptcy attorney:

Federal and state tax returns for the last 3–6 years and proof of filing and dates.
IRS and state notices showing dates of assessment and any collection activity (levies, liens).
Wage, bank, and business records for the past 2 years.
Any Offer in Compromise, installment agreement, or audit correspondence.
A list of assets, property values, and exemptions you may claim in bankruptcy.

Bring these to your initial consultation so an attorney can quickly evaluate dischargeability under the timing tests and whether a Chapter 7 or Chapter 13 filing better protects assets and yields the most tax relief.

Alternatives and coordination with the IRS

Bankruptcy is not the only path and sometimes not the best first step. Alternatives include:

Installment agreements with the IRS (short-term and long-term plans).
Offer in Compromise (settling tax debt for less than owed) — strict eligibility rules apply.
Penalty abatement requests where reasonable cause exists.
Currently Not Collectible status if you have no ability to pay.

Coordinate with a tax professional before filing: an Offer in Compromise or an installment agreement may solve the problem without the cost and credit impact of bankruptcy.

Professional tips

Time your filings: If you’re close to meeting the timing tests, the difference of a few months can determine whether taxes are dischargeable. A lawyer can help you plan the filing date strategically.
Don’t ignore payroll withholding obligations: Trust-fund taxes attract criminal and civil penalties, and bankruptcy won’t erase the liability.
Expect liens to remain: Plan for lien resolution if you have property the lien secures.

Bottom line

Bankruptcy can help with some income tax debt if strict timing tests are met, there’s no fraud or trust-fund tax issue, and you choose the chapter that fits your goals. It also gives an automatic stay to halt most IRS collection actions and can provide a path to reorganize tax obligations.

If you’re unsure whether your tax debts qualify for discharge, consult a bankruptcy attorney or a tax attorney who can analyze filing dates, assessment dates, and any liens or trust-fund issues. For authoritative government guidance, start with the IRS’s Bankruptcy Overview and Topic No. 653 (https://www.irs.gov/). This article is educational and not legal advice.

Can Bankruptcy Help With Tax Debt? What You Need to Know