Can You Still Discharge Tax Debt In Bankruptcy If You File Late?

Tax debt that's over three years old can be eliminated in a chapter 7 bankruptcy. However, among other requirements, the debt is only eligible for discharge if you filed the tax returns on time. There's still value in filing old tax returns, though, and here are two reasons why you should.

You'll Reduce the Amount You Owe

When you fail to file your taxes, the IRS may do it for you. The agency uses information culled from a variety of sources—such as your employer and bank—to calculate how much you owe and then file what's called a Substitute for Return. If your tax liability exceeds the amount paid to the agency that year, the IRS will send you a bill.

The problem with having a Substitute for Return filed on your behalf is the IRS does the bare minimum when calculating your taxes. It doesn't account for any exemptions, credits, or other deductions you're entitled to receive. For instance, it won't factor in the mortgage interest credit for your home. The result is you end up with a tax bill that's larger than what you really owe.

Thus, it's worth the effort to file old returns, especially if you want to use bankruptcy to deal with your tax debt. Although you can't discharge the debt in a chapter 7 bankruptcy, you can pay it off in a chapter 13 bankruptcy. Filing official tax returns will likely reduce the amount you owe, which will help you pay it off faster, so talk to a bankruptcy attorney about how to get this process started.

You May Have Refunds Waiting for You

Another reason you should file your returns, even if they're years late, is the IRS may actually owe you money. As noted previously, the agency doesn't include your eligible deductions when calculating a Substitute for Return, so your tax bill may turn into a tax refund once you incorporate them.

It's also possible you naturally paid more taxes than required for the year through payroll or other sources, and that excess money has been sitting in the IRS account waiting for you to claim it. Your old returns, then, could be a gold mine waiting to be discovered, but you must be quick about filing them. You only have three years to claim the money before it's lost to the tax gods forever.

Your bankruptcy attorney can make sure any money you're owed from the IRS gets applied to your bill to reduce your liability, so make sure they have all the paperwork they need to properly handle your case.

For more information about using bankruptcy to manage back taxes, contact a local lawyer.