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03/20/2013 |

By Henry E. Geberth, Jr., Esq., Hendel & Collins, P.C.

While the most common reason an individual might seek relief under Chapter 13 is to save their home from foreclosure, there are other circumstances where filing Chapter 13 makes sense.

Clients facing aggressive collection activities by tax entities can use Chapter 13 to restrain collection efforts, including liens and levies, or in Massachusetts, the loss of a driving privilege or professional license.  Through a Chapter 13, payment of priority tax claims can be extended up to five years, making repayment of tax claims that would not be discharged in a Chapter 7 case less burdensome.  Outside of the protections afforded by Title 11, Installment Payment Plans are often based on a much shorter repayment period.  In addition, because the Automatic Stay remains in force until all payments due under the plan have been made, the debtor enjoys protection for the duration of the plan.

Chapter 13 may also be used in conjunction with a Chapter 7 case by filing the Chapter 13 case after the discharge of unsecured claims has been entered.  Timed in this fashion, the Chapter 13 payments can be directed solely toward payment of taxes that were not discharged in the Chapter 7.  Because the debtors other obligations were discharged in the Chapter 7 case, the fact that a discharge is not available in the subsequent Chapter 13 case is not a concern.

A variation of this strategy has worked successfully to complete the client’s fresh start under the following circumstances:  Carol had the good fortune of winning big at the Casino late in the tax year.  For the next twelve months, Carol spent all of her free time at the Casinos winning well over one million dollars.  The bad news was that her gambling losses exceeded her winnings by over two-hundred thousand dollars.  To fund the losses, Carol drained her retirement savings, and maxed out her credit cards.  By year end, her home was in foreclosure and her business was in shambles.  Chapter 7 served to discharge her unsecured creditors, but that was not the end of Carol’s problems. 

For Federal tax purposes, gambling losses can be used to offset winnings.  Unfortunately, Massachusetts does not allow such an offset, so Carol faced a five figure State tax liability.  Since Carol’s business was incorporated, and as Carols income from her business was marginal, Carol was placed in a “currently uncollectable” status by the Department of Revenue.  Section 1328 of the Bankruptcy Code provides that a discharge in Chapter 13 is available after four years following the filing of a Chapter 7. After waiting the required time period, Carol filed a Chapter 13 case. Carols State tax liability, which with interest and penalties had grown to over one-hundred thousand dollars, will be discharged upon the completion of payments due under her Chapter 13 plan.

In cases where returns have been filed late, the non-pecuniary loss penalties (failure to file, failure to pay) may become a general unsecured claim, thereby substantially reducing the priority portion of the tax that is due.  Often times, general unsecured claims are satisfied in a Chapter 13 case for a small fraction of their face amount.  Under these circumstances, the effect of the bankruptcy case is the same as compromising the tax liability, without the need to submit a formal offer in compromise or to gain the approval of the taxing entity.

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