No one wants to experience bankruptcy, but it is something that thousands of taxpayers face each year. During bankruptcy, the person or couple in question is attempting to remove and reduce the amount of debt that they have accumulated. By utilizing the bankruptcy service, they are able to have the court’s protection with debt repayment. When someone files for bankruptcy, they need to know the difference in the options available to them and how that will impact their income taxes moving forward.
Chapter 7 vs. Chapter 13
Any time an individual files for bankruptcy, they have two filing options to choose from – Chapter 7 and Chapter 13. These two options vary based upon how they would like to move forward with their debt and what their goals are moving forward following the bankruptcy filing.
During a Chapter 7 filing, you will be assigned a bankruptcy trustee. Once assigned, they will liquidate all assets in order to cover the cost of the debt owed by the individual. There are some parts of your property that you can keep under this filing of Chapter 7. This would include a vehicle valued at or below a specific amount, reasonably valued clothing, and other personal property that is essential for daily life.
During a Chapter 13 filing, your property remains in your possession no matter what the value may be. However, monthly payments are required at a fixed rate for you to pay back your outstanding debt. When you make these payments, you are avoiding going into foreclosure or repossessions of your property. The timeline on that repayment is determined in your filing.
Filing Taxes After a Bankruptcy Filing
When your income taxes are due the following year, you are required to file. Refusing to file could throw out your bankruptcy case and overturn the ownership of your property. Filing taxes may look a little different when filing, especially the first year following the bankruptcy.
You Are Responsible for Your Taxes
Although you have been granted bankruptcy, you will still be required to pay your income taxes owed to the state and federal governments. In most cases, income taxes are required to be paid back and not forgiven. If you do not pay your income taxes, your bankruptcy declaration can be rescinded and you will be responsible for all of your formerly forgiven debts.
Despite going through the bankruptcy process, you can expect tax auditors to request these owed taxes regularly. You will need to take advantage of every option available to you in order to maximize your repayment time to stay current and rebuild your financial stability.
Request an Extension
Having a short period of time to pay back taxes after bankruptcy can be financially straining. If you currently owe back taxes at the time of your filing, you should immediately request an extension so that you show you are working towards your obligation and maximize the time frame to pay these taxes. An extension is a great option to take advantage of during your tax filing because it gives you that extra time to make your payments and give you some form of financial stability following the bankruptcy.
In some special cases, the IRS may grant a compromise based upon your personal situation. In these cases, a compromise payment is established, where the IRS takes a reduced amount of what is owed to them and satisfies your debt. These cases are not common but are available for those significant amounts that are owed and show no foreseeable signs of being repaid.
Prepare for Tax Changes Once You File a Bankruptcy
Many things will change once you file for bankruptcy, including your taxes. How and when you pay these taxes in the near future could change significantly. Take advantage of options that are designed to benefit you as the taxpayer so that you can repay your debts in a way that benefits you and the IRS.
If you have further tax questions regarding your bankruptcy, please contact us today at Silver Tax Group. We are happy to assist you with all of your tax needs.
Receiving a 1099 Form
While some of your debt may be forgiven and not taxed, the creditor where your debt was forgiven may issue a 1099 form on your behalf. To keep it from being counted as taxable income, you will need to provide it to your tax preparer so that they can file it properly on your taxes. Attempting to file this form as income will force you to owe taxes on this forgiven debt. Your tax specialist will be able to adjust your taxes by identifying this form at forgiven credit in your bankruptcy case.
Adjust Tax Withholdings for Your Income
Once you know that bankruptcy is the option you need and you start that process, it is a good practice to update your tax withholdings from your employer. You want to make sure that enough money is coming out to cover your taxes so that you will owe less at tax season. A tax specialist will guide you on the right exemptions you may need so that the right amount is coming out of each taxable income you may have.
If your income is earned off of contracted labor through 1099 forms, you will need to send in quarterly payments to the IRS to cover these taxes. You do not want to have a large tax bill due following the bankruptcy. If you do not file quarterly, you could also be penalized with a fine.
Refund as an Asset
If you generally do not owe income taxes but instead receive a refund, these monies are now considered assets. If you receive this fund right after filing your bankruptcy, this amount will be applied to paying back your creditors or the estate.
Should you receive a refund at the next tax season after your bankruptcy filing, you are eligible to keep the entire refund. That refund is based on income earned after the bankruptcy was approved and is not a part of the assets in the original bankruptcy case.
Taking on Tax Season
No matter which type of bankruptcy you file for, it is critical to know what does and does not change when filing your taxes. Since your income and assets that you file with your bankruptcy case is attached to income taxes, you must understand what you can expect and what your options are for filing so that you are not in violation. If you have further questions or would like to speak to a tax attorney, contact the Silver Tax Group today for more information.