When overwhelmed by tax debt, filing for bankruptcy may provide relief by discharging certain qualifying tax liabilities. Understanding discharge of tax debt in bankruptcy requires knowing which tax debts qualify, the applicable timelines, and the legal requirements set by both the IRS and bankruptcy courts.
What Does It Mean to Discharge Tax Debt?
In bankruptcy terms, “discharge” means that the court legally relieves the debtor from the obligation to pay the debt. For tax debt, a discharge means you are no longer personally liable for certain eligible unpaid income taxes, freeing you from future collection efforts for those debts.
However, not all tax debts are dischargeable. The IRS and courts impose strict tests before allowing discharge, designed to prevent abuse and ensure only old, legitimate, and fully filed tax obligations are discharged. Non-dischargeable taxes include:
- Trust fund taxes: Payroll taxes (e.g., Social Security, Medicare) withheld from employees but not paid to the government.
- Fraudulent tax debts: Taxes resulting from fraudulent returns or intentional evasion.
- Unfiled returns: Taxes assessed on tax returns that were not filed.
- Recent tax debts: Typically, debts assessed within 3 years before the bankruptcy filing.
Additionally, tax liens — legal claims against property for tax debts — generally survive bankruptcy discharge, meaning the government may enforce the lien through property seizure despite discharge of the personal debt. For more on this, see Bankruptcy and Tax Liens.
IRS “Look-Back” Rules for Discharge Eligibility
To qualify for discharge, tax debt must meet several IRS “look-back” requirements:
| Rule Name | Explanation | Requirement |
|---|---|---|
| 3-Year Rule | Tax return due date (original or extended) must be 3+ years before filing bankruptcy. | Return due at least 3 years before bankruptcy filing. |
| 240-Day Rule | Tax assessment date must be 240+ days before filing bankruptcy. | Tax assessed 240+ days before filing. |
| 2-Year Rule | Tax return must have been filed at least 2 years before filing. | Tax return filed 2+ years before bankruptcy filing. |
| No Fraud/Evasion | No fraudulent returns or willful tax evasion. | No evidence of fraud or evasion. |
| All Returns Filed | All required tax returns, including years related to the debt, must be filed. | All returns filed. |
The 240-day rule can be paused during IRS collection actions such as an Offer in Compromise or a Collection Due Process hearing.
Bankruptcy Chapters and Tax Debt Treatment
Individuals usually file under Chapter 7 or Chapter 13 bankruptcy for tax debts:
- Chapter 7: Liquidates assets to pay creditors and can fully discharge qualifying tax debts.
- Chapter 13: Establishes a repayment plan over 3–5 years. Qualifying tax debts may be discharged at plan completion. Non-dischargeable taxes must be paid through the plan.
Chapter 13 may allow more flexibility with recent tax debts but requires strict adherence to payment plans.
Real-World Example
Sarah, who files Chapter 7 bankruptcy on November 1, 2024, has a 2020 tax debt:
- Return due: April 15, 2021
- Tax assessed: July 1, 2021
- Return filed: March 1, 2021
Sarah’s tax debt likely qualifies for discharge because it meets all look-back rules. This means she won’t owe that particular 2020 tax debt after bankruptcy discharge.
Important Considerations
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Tax Liens: Even if tax debt is discharged, liens secured on property are not removed automatically. For details about liens and their effects in bankruptcy, see our articles on Bankruptcy and Tax Liens and Bankruptcy Discharge of Liens.
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Filing Returns: Always file all tax returns, even if you can’t pay, as unfiled returns make taxes non-dischargeable.
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Timing Your Bankruptcy Filing: Delaying bankruptcy to satisfy look-back periods may be necessary.
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Professional Guidance: Consult a bankruptcy attorney experienced in tax issues and a tax professional to navigate the process properly.
Common Misconceptions
- Not all tax debt is dischargeable — only qualifying income taxes that meet IRS and bankruptcy rules.
- Bankruptcy doesn’t immediately erase liens on assets.
- Failing to file returns makes tax debt nondischargeable.
- Immediate bankruptcy following a tax bill often doesn’t allow discharge because look-back periods aren’t met.
Frequently Asked Questions
Q: Can state income taxes be discharged in bankruptcy?
Yes, typically state income taxes may be discharged if they meet the same look-back and filing rules as federal taxes. State-specific laws may vary, so consult a local expert.
Q: Does filing bankruptcy stop IRS collections instantly?
Filing triggers an automatic stay that generally halts most collection efforts, but the IRS may still issue notices and audits. Collections like levies or seizures often require court approval after filing.
Q: What if I have an Offer in Compromise during bankruptcy?
The 240-day assessment period is paused during pending Offers in Compromise and for 30 days afterward, affecting discharge timing.
Additional Resources
For comprehensive rules, consult IRS Publication 908, “Bankruptcy Tax Guide”:
https://www.irs.gov/publications/p908
For more details on related topics, visit FinHelp’s glossary pages on Bankruptcy, Bankruptcy and Tax Debt, and Tax Lien.