Payment of a Tax Claim in Bankruptcy & Related Legal Information

After the filing of a bankruptcy petition and during the period the debtor’s assets or those of the bankruptcy estate are under the jurisdiction of the bankruptcy court, these assets are not subject to levy. The Internal Revenue Service may file a proof of claim in the bankruptcy court the same way as other creditors. This claim may be presented to the bankruptcy court even though the taxes have not yet been assessed or are subject to a Tax Court proceeding.

Eighth priority taxes. In bankruptcy, the debtor’s debts are assigned priorities for payment. Most of the prepetition tax debts are classified as eighth priority claims. Generally, prepetition taxes are certain income and other taxes that the debtor is considered to owe before he or she files a bankruptcy petition.

The following federal taxes, if unsecured, are prepetition eighth priority taxes of the government:

1. Income taxes for tax years ending on or before the date of filing the bankruptcy petition, for which a return is due (including extensions) within 3 years of the filing of the bankruptcy petition.
2. Income taxes assessed within 240 days before the date of filing the petition. This 240–day period is increased by any time, plus 30 days, during which an offer in compromise with respect to these taxes was pending, that was made within 240 days after the assessment.
3. Income taxes that were not assessed before the petition date, but were assessable as of the petition date, unless these taxes were still assessable solely because no return, a late return (within 2 years of the filing of the bankruptcy petition), or a fraudulent return was filed.
4. Withholding taxes for which you are liable in any capacity.
5. Employer’s share of employment taxes on wages, salaries, or commissions (including vacation, severance, and sick leave pay) paid as priority claims under 11 USC 507(a)(3) or for which a return is due within 3 years of the filing of the bankruptcy petition, including a return for which an extension of the filing date was obtained.
6. Excise taxes on transactions occurring before the date of filing the bankruptcy petition, for which a return, if required, is due (including extensions) within 3 years of the filing of the bankruptcy petition. If a return is not required, these excise taxes include only those on transactions occurring during the 3 years immediately before the date of filing the petition.

Priority of payment. For a chapter 7 case, the preceding eighth priority prepetition taxes may be paid out of the assets of the bankruptcy estate to the extent there are assets remaining after paying the claims of secured creditors and other creditors having higher priority claims.

Different rules apply to payment of eighth priority prepetition taxes under chapters 11, 12, and 13:

1. In chapter 11, the debtor can pay these taxes over a period of 6 years from the date of assessment, including interest,
2. In chapter 12, the debtor can pay such tax claims in deferred cash payments over time, and
3. In chapter 13, the debtor can pay such taxes over 3 years (or over 5 years with court approval).

Certain taxes are assigned a higher priority for payment. Taxes incurred during administration by the bankruptcy estate are paid first, as administrative expenses. Taxes arising in the ordinary course of your business or financial affairs in an involuntary bankruptcy case, after the filing of the bankruptcy petition but before the earlier of the appointment of a trustee or the order for relief are included in the second priority of payment. The employee’s portion of the employment taxes on the first $4,000 (to be adjusted 4/1/98) described in (5) above is included in the third priority.

Relief from penalties. A penalty for failure to pay tax, including failure to pay estimated tax, will not be imposed for any period during which a title 11 bankruptcy case is pending, under the following conditions. If the tax was incurred by the bankruptcy estate, the penalty will not be imposed if the failure to pay resulted from an order of the court finding probable insufficiency of funds of the estate to pay administrative expenses. If the tax was incurred by you as the debtor, the penalty will not be imposed if:

1. The tax was incurred before the earlier of the order for relief or (in an involuntary case) the appointment of a trustee, and
2. The bankruptcy petition was filed before the due date for the tax return (including extensions) or the date for imposing the penalty occurs on or after the day the bankruptcy petition was filed.

This relief from the failure-to-pay penalty does not apply to any penalty for failure to pay or deposit tax withheld or collected from others and required to be paid over to the U.S. government. Nor does it apply to any penalty for failure to timely file a return.

FUTA credit. An employer is generally allowed a credit against the federal unemployment tax (FUTA) for contributions made to a state unemployment fund, if the contributions are paid by the last day for filing an unemployment tax return for the tax year. If the contributions to the state fund are paid after that date, generally only 90% of the otherwise allowable credit may be taken against the federal unemployment tax.

However, for any unemployment tax on wages paid by the trustee of a title 11 bankruptcy estate, if the failure to pay the state unemployment contributions on time was without fault by the trustee, the full amount of the credit is allowed.

Statute of limitations for collection. In a title 11 bankruptcy case, the period of limitations for collection of tax (generally, 10 years after assessment) is suspended for the period during which the Internal Revenue Service is prohibited from collecting, plus 6 months thereafter.

Debts are divided into two categories; dischargeable and nondischargeable. Dischargeable debts are those that the debtor is no longer personally liable to pay after the bankruptcy proceedings are concluded. Nondis-chargeable debts are those that are not canceled because of the bankruptcy proceedings. The debtor remains personally liable for their payment.

As a general rule, there is no discharge for you as an individual debtor at the termination of a bankruptcy case for the second and eighth priority taxes described earlier, or for taxes for which no return, a late return (filed within 2 years of the filing of the bankruptcy petition), or a fraudulent return was filed. However, claims against you for other taxes predating the bankruptcy petition by more than 3 years may be discharged. However, if the IRS has a lien on the debtor’s property, this property may be seized to collect discharged tax debts.

Exception for individuals with regular income. If you complete all payments under a chapter 13 debt adjustment plan for an individual with regular income, the court may grant you a discharge of debts, including a discharge of the second and eighth priority prepetition taxes described earlier. However, if you fail to complete all payments under the plan, these taxes are not discharged although the court may grant a discharge of other debts in limited circumstances.

Last reviewed October 2023