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How to Avoid Tax Problems During Chapter 13 Bankruptcy

Chapter 13 allows debtors to repay some or all of their debts in a three to five year period.  But in order for a debtor to qualify for Chapter 13 bankruptcy they must be able to make the bankruptcy plan payment and stay current on their present expenses.  Those expenses include tax debt due to the IRS.  If a debtor fails to pay their taxes or is late filing their taxes (and fail to request a extension), the bankruptcy code allows the IRS the right to move to dismiss the bankruptcy case.

Below are a few tips on how debtors can avoid tax problems in their Chapter 13 bankruptcy case:

  1. File all tax returns in a timely manner.  Once you file Chapter 13 bankruptcy, failure to file taxes during the case can result in a dismissal of the case. If you need more time to file your taxes, request an extension.
  2. Make sure that your tax withholdings are adequate to cover your yearly tax obligations. Many debtors make the mistake of decreasing their withholdings in order to cover their living expenses before filing bankruptcy.  Debtors should avoid doing this because it will leave them with a tax bill at the end of the year and could possibly lead to problems during their bankruptcy.
  3. Bankruptcy debtors should think about how their lifestyle changes will impact their tax obligations.  For example, if you are surrendering or selling a home during Chapter 13 bankruptcy, you will no longer be able to deduct the interest on the mortgage.  You may need to increase your tax withholdings on your paycheck to make up the difference.