Discharging IRS Tax Debt in Bankruptcy in California
If you’re struggling with IRS tax debt, you may be wondering whether filing for bankruptcy can provide relief. The good news is that, in some cases, IRS tax debt can be discharged—but only if you pass a 3-pronged test that bankruptcy and tax practitioners sometimes refer to as the “3-2-240 rule.” There is a lot of misinformation out there when it comes to income taxes and bankruptcy. I am here to tell you that, if you can pass this 3-part test, your IRS income tax debt can be discharged in your Chapter 7 bankruptcy (or spread out in a Chapter 13).
One of the most important factors in determining whether tax debt is dischargeable in bankruptcy is the “3-2-240 rule.”
Understanding the Tax Debt Dischargeability Rule
To qualify for discharge in bankruptcy, IRS income tax debt must meet all three key timing requirements:
3-Year Rule: The tax return for the tax debt in question must have been due (including extensions) at least three years before the bankruptcy filing.
2-Year Rule: The tax return must have been filed at least two years before filing for bankruptcy. Note that, if you never filed a return, or if the IRS filed a substitute for return (SFR) on your behalf, the tax debt is generally not dischargeable.
240-Day Rule: The IRS must have assessed the tax debt at least 240 days before the bankruptcy filing. If the IRS reassessed your tax liability due to an audit or other reason, the 240-day clock may restart.
If your tax debt meets all three of these requirements, it may be eligible for discharge under Chapter 7 or Chapter 13 bankruptcy. However, certain exceptions apply, such as tax fraud or willful tax evasion, which would make the debt non-dischargeable. In addition, certain events (such as an offer in compromise) may have tolled one or more of these critical prongs, meaning that you may need to consider delaying the filing of the bankruptcy petition.
Bankruptcy Options for Tax Debt
Chapter 7 Bankruptcy: If your tax debt qualifies for discharge, Chapter 7 may eliminate it completely. However, you must meet income requirements (the “means test”) to qualify.
Chapter 13 Bankruptcy: If your tax debt is not dischargeable, Chapter 13 allows you to create a manageable repayment plan over 3 to 5 years.
Non-Bankruptcy Alternatives: Offer in compromise, lapse of statute of limitations, currently not collectible status, etc.
Get Legal Guidance on Tax Debt and Bankruptcy
Determining whether IRS tax debt can be discharged is complex, and filing too soon can be costly (in general, once you file a Chapter 7 bankruptcy, there is an eight-year waiting period before you file another Chapter 7 bankruptcy petition). If you are considering bankruptcy to eliminate or manage tax debt, which may also include tax liabilities with California’s Franchise Tax Board, consulting an experienced attorney can help you navigate the process and maximize your relief.
If you need guidance on resolving tax debt through bankruptcy, contact bankruptcy and tax attorney Ryan J. Casson today for a free 15-minute consultation.
