The idea that taxes cannot be discharged in bankruptcy is a persistent myth. While it’s true that some tax debts survive bankruptcy, many income tax obligations can be eliminated under specific conditions. This post explains the rules for discharging taxes in bankruptcy, with a focus on how Georgia law intersects with federal bankruptcy procedures.
Understanding Bankruptcy and Tax Debt
Bankruptcy provides a legal pathway to eliminate or repay debts, offering relief to individuals and businesses overwhelmed by financial obligations. Two common types of bankruptcy for individuals are:
- Chapter 7: Liquidates non-exempt assets to pay creditors and discharges qualifying debts.
- Chapter 13: Restructures debts into a 3–5 year repayment plan, with remaining eligible debts discharged after completion.
Tax debts fall into a unique category, as their dischargeability depends on strict criteria under the U.S. Bankruptcy Code. Georgia follows these federal rules but adds state-specific considerations.
The 3-2-240 Rule: Key to Discharging Federal & State Taxes
To discharge income taxes in bankruptcy, your debt must meet the 3-2-240 rule:
- 3-Year Rule: The tax return was due at least 3 years before filing bankruptcy (including extensions).
- Example: A 2020 tax return due April 15, 2021, becomes dischargeable on April 16, 2024.
- 2-Year Rule: The tax return was filed at least 2 years before the bankruptcy filing.
- Late-filed or substitute returns (e.g., IRS-prepared returns) often fail this test.
- 240-Day Rule: The tax was assessed by the IRS or state agency (e.g., Georgia Department of Revenue) at least 240 days before filing.
- This period extends if the IRS paused collections (e.g., during an Offer in Compromise).
Penalties and interest tied to dischargeable taxes are also eliminated. However, these rules apply only to income taxes—other taxes, like payroll or property taxes, are rarely dischargeable.
Georgia-Specific Considerations
Georgia adheres to federal discharge rules but has unique procedures for state tax obligations:
- State Income Taxes: Georgia income taxes follow the same 3-2-240 criteria as federal taxes. If your debt meets the rules, both federal and Georgia income taxes can be discharged.
- Tax Liens: If the Georgia Department of Revenue (GDOR) filed a tax lien before your bankruptcy, the lien survives bankruptcy. While your personal liability for the debt is erased, the lien remains on property (e.g., your home) until paid.
- Non-Dischargeable Georgia Taxes:
- Sales tax (trust fund taxes) owed by businesses.
- Fraudulent returns or willful tax evasion.
- Recent taxes (e.g., current-year filings not meeting the 3-2-240 timeline).
- Bankruptcy Notifications: You must notify the GDOR of your bankruptcy filing. The department may file a Proof of Claim to seek repayment for non-dischargeable taxes. Post-bankruptcy, GDOR can resume collection efforts for non-dischargeable debts (e.g., unfiled returns, fraud penalties).
- Joint Filings: If married, only the spouse filing bankruptcy receives a discharge. Joint tax liabilities remain enforceable against the non-filing spouse.
Taxes That Survive Bankruptcy
Certain tax debts cannot be discharged, including:
- Trust Fund Penalties: Taxes withheld from employee wages (e.g., payroll taxes).
- Fraud or Evasion: Debts linked to fraudulent returns or willful tax avoidance.
- Recent Assessments: Taxes assessed within 240 days before filing.
- Unfiled Returns: Taxes for years where no return was filed.
The Process of Discharging Taxes in Georgia
- Consult Professionals: Work with a bankruptcy attorney and tax professional to analyze your debts.
- File Bankruptcy Petition: Submit all required tax returns and documents to the court.
- Automatic Stay: Halts collections, but GDOR can still audit or assess taxes.
- Dispute Resolution: Creditors (including GDOR) may challenge dischargeability.
- Discharge Order: Eliminates qualifying debts, but liens on property persist.
Note: You must file all required returns and pay taxes that come due during bankruptcy. Failure to do so risks dismissal of your case.
Case Study: Discharging Tax Debt in Georgia
Maria, an Atlanta resident, owed $25,000 in federal and Georgia income taxes from 2019. She filed her 2019 return on time in 2020 but couldn’t pay. In 2024, she filed Chapter 7 bankruptcy.
- 3-Year Rule: Met (2021 due date + 3 years = 2024).
- 2-Year Rule: Met (filed in 2020).
- 240-Day Rule: Met (taxes assessed in 2020).
Maria’s taxes were discharged, but a GDOR lien filed in 2022 remained on her home. Her personal liability was erased, but she must address the lien if she sells the property.
Additional Considerations for Georgia Residents
- Georgia Tax Audits: Even after bankruptcy, GDOR can conduct audits for non-dischargeable taxes.
- State Tax Liens: These can significantly impact property sales or refinancing. It’s crucial to resolve them as part of your bankruptcy strategy.
- Bankruptcy Court Jurisdiction: The bankruptcy court has jurisdiction over tax disputes, allowing for a more streamlined resolution process.
Conclusion
Bankruptcy can offer a lifeline for overwhelming tax debt, but success hinges on meticulous timing and adherence to federal and state laws. By understanding these rules, Georgians can strategically address tax obligations and move toward financial recovery.
Key takeaways include:
- Income taxes meeting the 3-2-240 rule can be discharged in Chapter 7 or 13 bankruptcy.
- Georgia state taxes follow federal discharge criteria but require compliance with GDOR procedures.
- Tax liens survive bankruptcy, affecting property sales.
- Consult a Georgia bankruptcy attorney to navigate complex rules and protect your assets.
Ultimately, while bankruptcy can provide relief from certain tax debts, it should be approached with caution and thorough planning. By working closely with legal and tax professionals, you can ensure the best possible outcome for your financial future.
Disclaimer
The information provided on this blog is for general informational purposes only and is not intended to serve as legal advice. While I am a paralegal, I am not a licensed attorney, and the content shared here should not be construed as such.
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