Posted by Kevin on July 22, 2020 under Bankruptcy Blog | 
Your Chapter 7 trustee may pay your priority debts—in full or in part—through the proceeds of the sale of your unprotected, non- exempt assets.
Our last blog post was about what happens to priority debts in a no-asset Chapter 7 case. Most consumer “straight bankruptcy” Chapter 7 cases are no-asset cases. This means that the bankruptcy trustee does not take anything from the debtor because everything is protected and “no assets” are distributed to creditors. Hence, the name.
No-Asset Case Even If Some Assets May Not Be Exempt
To understand how this actually works, sometimes from a practical point of view, a Chapter 7 case is a no-asset one even when not all assets are exempt. That’s because the bankruptcy trustee has some discretion about whether to collect and liquidate an otherwise unprotected asset. Here are three reasons why he or she may not pursue an asset:
- The value of the asset, or the amount beyond the exemption, is too small to justify the trustee’s collection efforts. Example: A vehicle worth only a couple hundred dollars more than the vehicle exemption.
- Finding and/or selling the asset may be too expensive compared to its anticipated value. Example: A debt owed to the debtor by somebody who can’t be located and likely has no reliable income.
- The asset could be more of a detriment than a benefit to the trustee. Example: real estate with hazardous waste contamination.
Usually your bankruptcy lawyer will be able to reliably predict whether your Chapter 7 case will be an asset or no-asset case. But not always. Trustees have wide discretion about this. Moreover, before filing, your lawyer doesn’t know which trustee will be assigned to your case. And some trustees are more aggressive than others.
Paying Priority Debt through a Chapter 7 Asset Case
If you know that you will have an asset case, you may be able to pay a priory debt through your case.
In our last blog post our main point was that in a no-asset Chapter 7 case you have to pay any priority debts yourself directly to your creditors after completing the case. But in an asset case, the trustee is required to pay any of your priority debts before any other debts. The trustee collects and liquidates your non-exempt assets (any not protected by exemptions). From the proceeds he or she then pays you your exempt amount, and then pays his or her fee, and then pays debts only to the extent there’s money available. Priority debts get paid before general unsecured debts.
For Example
Assume you owe $4,000 to the IRS for last year’s income tax. That tax is a priority debt. You also owe $75,000 in medical bills and unsecured credit cards. Those are general unsecured debts. If you filed a Chapter 7 case in which everything you owned was protected, that would be a no-asset case. The IRS debt can’t be discharged (legally write off). So you would have to make arrangements to pay it after your Chapter 7 case was over. Most likely the case would discharge the $75,000 in other debts.
But now assume that you have a boat that you no longer want because it costs too much to maintain. There’s usually no exemption for a boat. So the Chapter 7 trustee takes and sells your boat for $5,000. The proceeds of that sale go first to pay the administrative fee of the trustee (since there is no exemption for the boat, the debtor gets nothing). A trustee gets a fee of 25% on the first $5000 of assets that are distributed. So, the trustee gets $1250, the IRS gets $3750 and general, unsecured creditor get nothing. You would be required to pay the IRS $250.
Conclusion
In some circumstances paying a priority debt in a Chapter 7 case is not a bad deal. This is especially true if you have an asset not protected by an exemption that you don’t mind surrendering.
Posted by on July 14, 2019 under Bankruptcy Blog |
Besides wiping out (“discharge” is the legal term) your personal debts like credit cards and medical expenses, a Chapter 7 case can discharge all or most of your personal liability from a closed sole proprietorship, corporation, LLC, or partnership. You are liable for the debts of a sole proprietorship and a partnership. You can be liable for LLC or corporate debt to the extent that you signed a guarantee or in other circumstances.
“Asset” and “No Asset” Chapter 7
Chapter 7 is sometimes called the liquidation form of bankruptcy. That usually does NOT mean that if you file a Chapter 7 case, all of your assets will be liquidated or sold. One of the main purposes of the Bankruptcy Code is to give an honest debt a fresh start. You get a fresh start by the discharge of most of your debts and keeping property that is exempt.
As a debtor in New Jersey, you can choose the exemptions listed in the Bankruptcy Code (called the federal exemptions) or you can use the exemptions provided under New Jersey statutes. Since the federal exemptions are much more favorable to the debtor than the New Jersey exemptions, almost all NJ debtors utilize the federal exemptions. If everything you own is exempt, you would have a “no asset” case, so-called because the Chapter 7 trustee has no assets to collect or distribute to your creditors .
In contrast, if you own something that is not exempt, and the trustee decides that it is worth liquidating and using the proceeds to pay a portion of your debts, then your case is an “asset case.”
The Quick “No Asset” and the Drawn Out “Asset” Case
Generally, a “no asset case” is simpler and quicker than an “asset case” because it avoids the asset liquidation and distribution to creditors process.
A simple “no asset” case can be completed in about three to four months after it is filed (assuming no other complications arise). An asset case can take a year or more.
The Potential Benefits of an “Asset” Case
If you have an asset case, that can be turned to your advantages. Two situations come to mind.
First, you may decide to close down your business and file a bankruptcy immediately in order to hand over to the trustee the headaches of collecting and liquidating the assets and paying your business creditors . If you’ve been fighting for a long time to try to save your business, you avoid the added headache and expense of negotiating work-out terms with all the creditors.
Second, in the Chapter 7 process, certain debts, called priority debts, are paid first. General debts get paid afterwards to the extent there are available funds. More importantly, certain priority debts are not discharged by the bankruptcy. That means you still owe them after the bankruptcy is completed. Examples of priority debts that are not dischargeable include child and spousal support arrearages, and certain tax claims.
So, as a debtor, you want to pay off as much non-dischargeable debts as you can. To the extent you have non-exempt assets, the Trustee can use the proceeds of the sale of those assets to pay off some or all of your priority, non-dischargeable debts. Non priority debts (except for most student loans) are discharged regardless of whether they receive payment in the Chapter 7.
Posted by Kevin on March 28, 2018 under Bankruptcy Blog |
Whether to file under Chapter 7 or Chapter 13 depends largely on your business assets, taxes, and other nondischargeable debts.
You have closed down your business and are considering bankruptcy. What are your options?
If you operated as a sole proprietor (DBA), then all the debts of the business are your personal debts. If you operated as a corporation or LLC, then the business was a separate entity. So, the business entity is liable for its debts, then, absent fraud, you are liable only for those debts which you personally guaranteed. In addition, you personally may be liable to taxing authorities for certain taxes.
Then, you have to consider remaining assets of the business. If a DBA, then you own the assets which become part of your bankruptcy estate upon filing. If it a corporation or LLC, then the entity owns the assets. But if you are the 100% owner of the business, then the stock or other ownership interest is an asset of the bankruptcy estate. So, the trustee can get to the assets through your ownership interest.
Your options would be to file under Chapter 7 or Chapter 13. A Chapter 7 is generally over in 4-5 months and requires no payments. A Chapter 13 lasts from 36-60 months and requires payments each month. It would be understandable if you preferred to file under Chapter 7.
Likely Can File Under Chapter 7 Under the “Means Test”
The “means test” determines whether, with your income and expenses, you can file a Chapter 7 case. The “means test” will still not likely be a problem if you closed down your business recently. That’s because the period of income that counts for the “means test” is the six full calendar months before your bankruptcy case is filed. An about-to-fail business usually isn’t generating much income. So, there is a very good chance that your income for “means test” purposes is less than the published median income amount for your family size, in your state. If your prior 6-month income is less than the median amount, by that fact alone you’ve passed the means test and qualified for Chapter 7.
Three Factors about Filing Chapter 7 vs. 13—Business Assets, Taxes, and Other Non-Discharged Debt
The following three factors seem to come up all the time when deciding between filing Chapter 7 or 13:
1. Business assets: A Chapter 7 case is either “asset” or “no asset.” In a “no asset” case, the Chapter 7 trustee decides—usually quite quickly—that all of your assets are exempt (protected by exemptions) and so cannot be taken from you to pay creditors.
If you had a recently closed business, there more likely are assets that are not exempt and are worth the trustee’s effort to collect and liquidate. If you have such collectable business assets, discuss with your attorney where the money from the proceeds of the Chapter 7 trustee’s sale of those assets would likely go, and whether that result is in your best interest compared to what would happen to those assets in a Chapter 13 case.
2. Taxes: It seems like every person who has recently closed a business and is considering bankruptcy has tax debts. Although some taxes can be discharged in a Chapter 7 case, many cannot. Especially in situations in which a lot of taxes would not be discharged, Chapter 13 is often a better way to deal with them.
3. Other nondischargeable debts: Bankruptcies involving former businesses get more than the usual amount of challenges by creditors. These challenges are usually by creditors trying to avoid the discharge (legal write-off) of its debts based on allegations of fraud or misrepresentation. The business owner may be accused of acting in some fraudulent fashion against a former business partner, his or her business landlord, or some other major creditor. These kinds of disputes can greatly complicate a bankruptcy case, regardless whether occurring under Chapter 7 or 13. But in some situations Chapter 13 could give you certain legal and tactical advantages over Chapter 7.
Posted by Kevin on April 15, 2017 under Bankruptcy Blog |
Most small businesses do not have any reason to file bankruptcy after they fail. Instead it’s the individual owner or owners of the business who may well have to think about bankruptcy.
Business Corporation Is No Shield for Owners of Small Businesses
Why does a small business owner sets up his or her business as a corporation? One reason is a concept called limited liability. The corporation is legal entity that is separate from its owners. A corporate debt is just that- it is a debt of the entity and not its owners. In other words, the investor-owners of the business are not liable for those business debts. That’s the theory.
But in practice it doesn’t work that way, not with small businesses. Why? Because:
- Many new businesses cannot get any credit at all, and so have to be financed completely through the owner’s personal savings and credit. This credit tends to include credit cards, second mortgages on homes, vehicle loans, and personal loans from family members.
- For those businesses fortunate enough to receive financing in the name of the corporation, the creditors will very likely still require the major shareholder(s) to sign personal guarantees. This makes the shareholders personally obligated if the corporation fails to pay. Common examples of this are commercial leases of business premises, major equipment and vehicle leases or purchases, franchise agreements, and SBA loans.
As a result, when the business cannot pay its debts, the individual shareholder(s) are usually on the hook for all or most of the debts of the business. The business corporation’s limited liability is trumped by the shareholders’ contractual obligations on the debts.
Ever Worth Filing Bankruptcy for the Business Corporation?
By the time most small businesses close their doors, they have run themselves into the ground and do not have much remaining assets. And often, what little is left is mortgaged, with the assets tied up as collateral, leaving nothing for the corporation’s general creditors. This applies not just to purchases and leases of assets, but also to bank loans which require a blanket lien on all business assets, and commercial premises leases with broad landlord liens.
Without any assets with which to operate, the business dies. Without any assets for creditors to pursue in the business, the debts die with the business, except to the extent the shareholders are personally liable.
But sometimes the business does still have substantial assets when it closes its doors. Assuming the business is in the form of a corporation or partnership and so is eligible to file its own Chapter 7 bankruptcy, doing so may be worthwhile for three reasons:
- A bankruptcy would enable the owners to avoid the hassles of distributing the corporate assets by passing on that task to the bankruptcy trustee.
- There are risks for the owner of a failing business in distributing the final assets of the business, which can result in personal liability for the owner. Filing bankruptcy avoids that risk because the bankruptcy trustee takes care of that responsibility.
- In some situations, a debt owed by the business corporation is also owed by the business’ shareholder. So when that debt is paid through the trustee’s distribution of assets, that reduces or eliminates the shareholder’s obligation on it.
Most of the Time You’re Left Holding the Business’ Debts
Regardless whether your business can or can’t file bankruptcy, and whether or not it ends up doing so, you will likely have to bear the financial fallout personally. By their very nature bankruptcies arising out of closed businesses tend to be more complex than straight consumer bankruptcies. So be sure to find an attorney who is experienced in these kinds of cases.
Posted by Kevin on October 17, 2016 under Bankruptcy Blog |
Here’s an unusual way of paying your income tax debt. The circumstances don’t line up very often, but when they do this procedure can work very nicely.
Generally, when filing a Chapter 7 “straight bankruptcy” a key goal is to keep everything that you own. You don’t want to surrender anything to the Chapter 7 trustee.
But sometimes you own something or a number of things that aren’t exempt. If so, one of your options may be to file a Chapter 13 case to protect your non-exempt asset(s). Almost always that option requires 3-5 years of payments.
If you don’t mind letting go of the non-exempt asset(s), a much quicker option is an “asset Chapter 7 case.” The bankruptcy trustee sells the non-exempt assets and uses the sale proceeds to pay your creditors.
What are the type of non-exempt assets that would fit into this scenario? It’s not going to be your home. (That is why we have Chapter 13) But, say you recently closed down a business. You may still own some of the business assets, but you have no use for them. Or you may own a boat or an off-road vehicle that, for whatever reason, you no longer want to keep. And you owe taxes that are otherwise non-dischargeable. That means the taxing authority will wait until the bankruptcy case is closed, and then start harassing you again for payment.
Under the Bankruptcy Code, in a Chapter 7, debts are paid according to a specific priority schedule. Taxes have priority over credit card debt, medical debt, or the deficiency on a car loan after repossession.
But, what types of debts have priority over taxes? The most important are the trustee commission and his/her professional fees. This could amount to a few dollars. Other than that, the most typical debts that have priority over taxes are unpaid child and spousal support.
So if you do not owe back support, then the trustee will pay your taxes after paying the trustee’s commission and professional fees to the extent funds are available.
Again, it’s not common that the “stars will line up”. But when it does, it can be a big plus. Also, this is not basic stuff so you will need an experienced bankruptcy attorney to navigate you through.
Posted by on June 23, 2015 under Bankruptcy Blog |
If you’re filing a “straight bankruptcy” case, how do you keep your income tax refund?
Keeping tax refunds is all about timing. You can generally keep your refund but absolutely have to play it right, following rules that at first may not make sense. It is all too easy to mess this up, so you truly should have your attorney guide you through it, applying your unique circumstances to your local laws and practices. But here are the general principles at play.
Let’s start with some background to make sense of this:
- From the bankruptcy system’s perspective, a Chapter 7 case focuses on assets—determining whether you get to keep everything you own or not. That’s why it’s called the “liquidation” chapter. Most of the time you do get to keep everything, but sometimes some of it gets “liquated”—taken from you and turned by your bankruptcy trustee into cash, which then gets paid to your creditors.
- So where does your tax refund fit into this—is it is an asset that your trustee can take from you? That mostly depends on your timing.
- Everything you own or have a right to at the moment your Chapter 7 bankruptcy case is filed becomes your “bankruptcy estate.”
- That “estate” includes both your tangible assets and also intangible ones. One kind of intangible asset is a debt owed to you. A tax refund can be such an intangible asset of your “bankruptcy estate.”
The timing of the filing of your Chapter 7 case determines whether a tax refund is part of your “bankruptcy estate” and therefore could potentially be taken from you:
- An income tax refund is considered your asset as of the time of the last payroll withholding of the year being considered (so for this calendar (2015), the last withholding would be from your last paycheck in December and your employer would forward that money to the taxing authority in the beginning of January, 2016). That’s because as of that time, the full amount of that refund has accrued. Even though until you prepare your tax returns nobody knows the amount of your refund—or even whether you will be receiving one at all—for bankruptcy purposes, the anticipated tax refund is legally all yours as of the very beginning of the next year. And what’s yours is part of your “bankruptcy estate.”
- So IF you file after the beginning of the year but before receiving and appropriately spending the refund, that refund is part of your “bankruptcy estate” and is at least at risk of being taken from you. Again, this is true even if you have no idea how much that refund will be, or even whether you are entitled to one.
- BUT, if you DO receive and appropriately spend the refund before your Chapter 7 case is filed, then the refund is gone and is no longer your asset, and so is no longer part of your “bankruptcy estate.” Your trustee has no claim to it.
Even if your tax refund IS part of your “bankruptcy estate,” it will not be taken from you if it is exempt:
- Although theoretically it’s safest to file your Chapter 7 case when your tax refund is not part of your “estate”—such as after you receive and appropriately spend it beforehand, sometimes you don’t have that much flexibility about when you file your bankruptcy. Then especially it’s critical to get good legal advice about whether that refund will be exempt based on the local law applicable to the case.
- Usually, you get to keep most or all of your “estate” because it’s “exempt”—protected. In the same way, tax refunds are often exempt, depending on the amount of the refund and the exemption that’s applicable to it.
- Some states have specific exemptions applicable to certain parts of the tax refund, or laws that exclude them from the bankruptcy estate altogether, particularly for the Child Tax Credit or the Earned Income Tax Credit.
Even if a tax refund, or some portion of it, is not exempt, sometimes the Chapter 7 trustee may still NOT want it:
- The trustee may decide that the amount the “estate” would get—the refund by itself or in conjunction with any other non-exempt asset(s)—is not enough in value to justify creating an “asset case.” The amount of refund to be collected may be too small to justify the administrative cost involved to collect and distribute it. You might hear the trustee say that the amount of the refund is “insufficient for a meaningful distribution to the creditors.”
- What that “insufficient” amount is differs from one court to another, and often even from one trustee to another, so this is another specific area where you need the guidance of an experienced attorney.
- Caution: if the trustee is already collecting any other assets as part of the “estate,” then most likely he or she will want every dollar of your tax refunds that are not exempt.
Posted by on May 24, 2015 under Bankruptcy Blog |
Give gladly to your Chapter 7 trustee assets that you don’t need, if most of the proceeds from sale of those assets are going to pay your taxes.
We are in a midst of a series of blogs about bankruptcy and income taxes. Today we describe a procedure that doesn’t happen very often, but in the right circumstances can work very nicely.
Turning Two “Bad” Events into Your Favor
Most of the time when you file a Chapter 7 “straight bankruptcy,” one of your main goals is to keep everything that you own, and not surrender anything to the Chapter 7 trustee. To that end, your attorney will usually protect everything you own with appropriate property “exemptions.”
If instead something you own can’t be protected, and so must be surrendered to the Chapter 7 trustee, that’s often considered a “bad” thing because you’re losing something.
And that leads to a second “bad” thing—the trustee selling that “non-exempt” property and using the proceeds to pay your creditors. That usually does you no good because those creditors which receive payment from the trustee usually are ones that are being written off (“discharged”) in your Chapter 7 case, so you’d have no legal obligation to pay anyway.
But it may well be worth giving up something you own—particularly if it is something not valuable to you in your present circumstances—if doing so would have the consequence of paying some or all of your income tax debt that isn’t being written off in your Chapter 7 case.
Circumstances in which the Trustee would Pay Your Income Taxes
Consider the combination of the following two circumstances:
1) You own something not protected by the applicable property “exemptions,” which you either don’t need or is worth giving up considering the other alternatives.
2) The proceeds from the trustee’s sale of your “non-exempt” asset are mostly going to be paid towards taxes which otherwise you would have to pay out of your own pocket.
Let’s look at these two a little more closely.
“Non-Exempt” Assets You Don’t Need or Are Worth Giving Up
Although most people filing bankruptcy do NOT own any “non-exempt”—unprotected—assets, there are many scenarios in which they do. In some of those scenarios, those assets are genuinely not needed or wanted, so giving them to the trustee is easy. For example, a person who used to run a now-closed business, and still owns some of its assets, may have absolutely no use for those business assets. Or a person may own a boat, or an off-road vehicle, or some other recreational vehicle, but because of health reasons can no longer use them.
More commonly, a person may own a “non-exempt” asset which he or she would prefer to keep, but surrendering it to the trustee is much better than the alternative. That alternative is often filing Chapter 13—the three-to-five year payment plan. In the above example of a boat owned by somebody who can no longer use it, he or she may have a son-in-law who would love to use that boat. But that would probably not be worth the huge extra time and likely expense of going through a Chapter 13 case.
Allowing Your Trustee to Pay Your Non-Discharged Income Taxes
Letting go of your unnecessary or non-vital assets makes sense if most of the proceeds of the trustee’s sale of those assets would go to pay your non-dischargeable income taxes. Under what circumstances would that happen?
The Chapter 7 trustee is required by law to pay out the proceeds of sale of the “non-exempt” assets to the creditors in a very specific order. If you don’t owe any debts which have a higher “priority” than your income taxes, then the taxes will be paid in full, or as much money as is available, ahead of other creditors lower in order on the list.
The kinds of debts which are AHEAD of income taxes on this priority list include:
- Child and spousal support arrearage
- Wages, salaries, commissions, and employee benefits earned by your employees (if any) during the 180 days before filing or before the end of the business, up to $10,000
- Contributions to employee benefit plans, with certain limitations
If you know that you do not owe any of these higher “priority” debts, then the trustee will pay your taxes (after paying the trustee’s own fees), to the extent funds are available, assuming the tax creditor files a “proof of claim” on time specifying the tax debt.
As you can imagine, each step of this process must be carefully analyzed by your attorney to see if it is feasible, and if so then it must be planned and implemented by your attorney. Again, it will only work in very specific circumstances. But when the stars are aligned appropriately, this can be a great way to get your taxes paid.
Posted by Kevin on October 1, 2014 under Bankruptcy Blog |
There are pros and cons to the above statement. That is why we say “Can Help” as opposed to “Will Help”
What happens when a small business goes under. It usually means that not enough money is coming in to pay bills and employees (much less the owner). This can lead to collection efforts from vendors which go from holding back product to suing the business entity and perhaps even the owner for money. Multiple, disgruntled vendors lead to multiple, usually unwinnable lawsuits. Ultimately, you realize that you cannot stay open any longer.
Shutting down a business can be very time consuming and emotionally draining, especially when the vendors are suing the company and you. You have to deal with vendors and suppliers, advertisers, workers, customers, etc. You may have physical plant which will be subject to foreclosure or tenancy action. You may have product that needs to be liquidated. You may need to go after accounts receivable. That is a lot of work, and your inclination is to put everything behind you and move on.
If your business is incorporated or an LLC, it cannot receive a discharge under Chapter 7. For that reason, many of my colleagues at NACBA believe that you should not put a small corporation (sometimes called a close corporation) or an LLC in bankruptcy. However, if the corporation is being sued by multiple creditors and needs to be liquidated in an orderly fashion, a Chapter 7 may be helpful. The automatic stay will stop the lawsuits. The trustee will be responsible for the liquidation. This can free up the owner to move on to new pursuits. (In NJ, this process can be accomplished also but means of a State court Assignment for the Benefit of Creditors.)
On the other hand, if the corporation or LLC is service oriented as with few assets, bankruptcy may be an unnecessary expense.
Under either scenario, a possible issue can be what to do if the principal of the corporation or LLC finds himself as a defendant in multiple lawsuits. If the principal guaranteed the obligation, then he is SOL. Even if principal did not guarantee, a favorite tactic of NJ collection attorneys is to sue the entity and sue the principal under theory of piercing the corporate veil. This is usually a bogus lawsuit but requires that you interpose an answer and move for summary judgment. This can be a major expense especially if you get sued by 10-12 aggressive creditors and may lead to consideration of filing a individual 7. This decision, however, would have to be made on a case by case basis.
If the business entity is a sole proprietorship (d/b/a), then the debtor is really the owner. d/b/a’s can fail for the same reasons that close corporations or LLC’s fail. But, in this case, it is the owner of the business that is on the hook so the owner files the Chapter 7. Filing a Chapter 7 will stop most collection actions because of the automatic stay, and the owner/debtor can receive a discharge. Of course, the bankruptcy will include both the business assets and the personal assets. Most, if not all, of the business assets will probably be sold and the proceeds will be used to pay the trustee and the creditors. The debtor is able to utilize his or her exemptions to save many of his or her personal assets such as the house, car, household furniture and furnishings, clothing and other things.
If you are running a small business that is failing, you need to speak with your accountant first, and then an experienced bankruptcy attorney.
In the next few blogs we will discuss this issue: after closing down a business and filing bankruptcy, when would Chapter 7 be adequate vs. when the extra power of Chapter 13 would be needed, in dealing with particular debt and asset issues. We’ll start the next blog on dealing with taxes.
Posted by Kevin on April 16, 2014 under Bankruptcy Blog |
An income tax debt that you owe for the 2013 tax year presents both some challenges and opportunities if you file bankruptcy in early 2013. The challenges are practical ones. You have a debt that you wish you didn’t have, it can’t be written off (discharged) in bankruptcy, and you may well not know how much it is because you haven’t prepared the tax return yet. So it can be a frustrating and scary uncertainty.
The interplay between taxes and bankruptcy can be complicated, however, under the right circumstances your 2013 income tax debt can be—believe it or not–paid in full essentially without costing you anything. That’s because under bankruptcy law in many circumstances recent tax debts are paid in place of your other creditors, leaving less or nothing for those other creditors. This can happen in both Chapter 7 and Chapter 13, much more likely under that latter. This blog shows how your taxes can be paid in an “asset” Chapter 7 case, and the next blog shows the more common Chapter 13 situation.
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Payment of 2013 Income Taxes in an “Asset” Chapter 7 Case
Most Chapter 7 cases are “no asset” ones. This means that the bankruptcy trustee takes nothing from you because everything you have is exempt or else not worth the trustee’s effort to collect. So none of your creditors—including the IRS—are paid anything through your Chapter 7 case itself. In that situation, you would have to make arrangements to pay any 2013 income tax with the IRS (and/or any state tax agency, if applicable).
On the other hand, an “asset” Chapter 7 case is one in which you own something that is NOT exempt and IS worth for the trustee to collect, sell, and distribute its proceeds to the creditors.
The Example
Consider this. You own a boat that has become more expensive and more work to own than you’d expected. In a Chapter 7 case, if you do not claim an exemption on the boat and your bankruptcy trustee believes the boat is worth collecting from you and selling, then the 2013 taxes are among the first debts that the trustee will pay out of the proceeds. Why? Because the taxes are what is called “priority debts”. Although most of your creditors are paid pro rata—equally, based solely on the relative amount of their debts— “priority debts” are paid ahead of your other creditors. So, assuming you do not have any debts that are even higher on the priority list (see Section 507 of the Bankruptcy Code), your 2013 IRS/state income tax will be paid in full before the trustee pays anything to any of your other creditors. As a result you would no longer have this tax to pay after your Chapter 7 case is completed.
Caution
For this to work as described takes just the right conditions, with more twists and turns than can be fully explained here. So definitely discuss all this thoroughly with your bankruptcy attorney.
