When you file for bankruptcy in South Dakota, a key question is whether it can help you eliminate “back taxes.” In this blog, we will explore what happens to back taxes when you file for bankruptcy and how our dedicated Rapid City bankruptcy lawyers can assist you in assessing whether bankruptcy is a viable solution for your specific tax situation. 

What Happens to Back Taxes if I File for Bankruptcy in SD?

First and foremost, it is essential to understand that “back taxes” refer to unpaid federal, state, or local taxes from prior years. Unfortunately, these obligations can accumulate over time, resulting in additional interest and penalties that can complicate the settlement process.

Bankruptcy may offer a viable option for addressing back taxes; however, its efficacy will depend on the specific type of bankruptcy filed and the age of the tax debt in question. While an automatic stay temporarily prevents the Internal Revenue Service (IRS) from pursuing collection activities during the bankruptcy proceedings, discharging back taxes is typically feasible only if stringent criteria are met. For example, older income taxes may sometimes be discharged entirely, whereas recent taxes, payroll taxes, or taxes incurred due to fraudulent activities generally cannot be eliminated. Engaging with a qualified attorney is crucial, as they can help determine whether bankruptcy will help your tax situation.

Can Chapter 7 Bankruptcy Wipe Out My Back Taxes?

Many individuals contemplating bankruptcy are often hopeful that a Chapter 7 filing will eliminate their outstanding tax debts. While this may be possible, it is contingent upon meeting a specific set of requirements. To discharge income taxes, you usually need to meet the “3-2-240 rules:”

  • The 3-Year Rule: The tax return for the debt must have been originally due at least three years prior to the date of the bankruptcy filing.
  • The 2-Year Rule: The tax return must have been filed at least two years prior to the date of the bankruptcy filing.
  • The 240-Day Rule: The IRS must have assessed the tax debt at least 240 days prior to the bankruptcy filing.

If this criterion is not met, the debt, along with the associated interest, will not be erased. It should be noted that certain debts, such as payroll taxes, penalties, and taxes related to fraud, are not eligible for discharge in bankruptcy.

How Does Chapter 13 Bankruptcy Handle Unpaid Taxes?

In the event that your tax debt is not dischargeable under Chapter 7, you may consider Chapter 13 for relief, as it offers a structured repayment plan. This is generally the best way to handle tax debt, as it can provide you with more flexibility, as most repayment plans span three to five years.

Under your repayment plan, you will make affordable monthly payments based on your income and assets. You may include non-dischargeable tax debt in your plan. During this period, new penalties and interest on the tax debt will be wiped out. However, you must continue to file and pay all current taxes, or you risk your case being dismissed. You should note that tax refunds are typically kept by the court-appointed trustee and used to repay creditors.

For more information, please don’t hesitate to contact an attorney at 605 Bankruptcy.