According to the Administrative Office of the U.S. Courts, over 380,000 Americans filed for bankruptcy in 2022, and over 18,000 of those were in Ohio. The decision to file for bankruptcy is a significant one, carrying both relief from crushing debt and serious financial consequences.
Among these consequences is the potential impact on your taxes. It is essential for you to understand how your tax situation might change after filing for bankruptcy to ensure you manage these changes effectively.
Tax debt
The bankruptcy courts may eliminate certain types of tax debt when you file for bankruptcy, depending on the specific type of bankruptcy you choose. In a Chapter 7 bankruptcy, you might have older income tax debt discharged if you meet specific conditions, like if the tax debt is at least three years old, and if you filed a tax return for the debt at least two years before filing for bankruptcy. If you opt for a Chapter 13 bankruptcy, it will not erase tax debt, but it provides a structure for you to repay the debt over time.
Tax returns
Once you have filed for bankruptcy, you might need to file different tax returns for the part of the year before you filed for bankruptcy and the part of the year after filing. This is particularly relevant if you filed for Chapter 7 bankruptcy. In this case, the bankruptcy estate, which forms when you file for bankruptcy, might need to file a tax return, known as a Form 1041.
Tax refunds
Bankruptcy can also influence your tax refunds. In Chapter 7 bankruptcy, your tax refund for the year you filed for bankruptcy becomes part of the bankruptcy estate, which means creditors could use it to offset your debts. In a Chapter 13 bankruptcy, your future tax refunds might also be part of the bankruptcy estate and used to pay your debt.
Tax liens
While bankruptcy can free you from the personal obligation of certain tax debts, it cannot eliminate tax liens. A tax lien is a claim that the government makes on your property due to unpaid taxes. If you have a tax lien on any of your property when you file for bankruptcy, the lien will likely stay in place even after the bankruptcy proceeding unless it is paid in a manner consistent with the Bankruptcy Code. Thus, what survives your bankruptcy will depend on the chapter you file and what the tax lien was or was not paid during the case.
By understanding how bankruptcy affects your taxes, you can better navigate the complexities of bankruptcy and mitigate any tax-related surprises.
