Can Bankruptcy Erase Your Tax Debt? Rules and Strategies for 2025

The IRS sent you a Notice of Intent to Levy. Your wages are already being garnished for back taxes. You're wondering if bankruptcy can make this nightmare stop.

Sometimes yes. Sometimes no. The answer depends on what kind of tax debt you owe and how old it is.

Bankruptcy can discharge certain income tax debts if they meet strict age and filing requirements. Other taxes—like payroll taxes, recent income taxes, and fraud penalties,survive bankruptcy completely. But even when bankruptcy can't erase your tax debt, it can halt IRS collection actions and give you a structured way to pay what you owe.

Here's what you need to know about using bankruptcy to deal with tax debt in 2025.

When Bankruptcy Can Discharge Federal Income Tax Debt

Chapter 7 bankruptcy can eliminate old income tax debt if it passes the IRS discharge test. This test has five requirements, and your debt must satisfy all five.

The Five Requirements for Discharging Tax Debt

1. The tax debt must be at least three years old. The tax return's due date must have been at least three years before you file bankruptcy. For 2021 tax debt, the due date was April 15, 2022. That means you can discharge 2021 taxes if you file bankruptcy after April 15, 2025.

2. You must have filed a tax return at least two years ago. The IRS only discharges taxes where you filed an actual return. If the IRS filed a substitute return for you, that doesn't count. You must have filed your own return at least two years before your bankruptcy filing date.

3. The IRS must have assessed the tax at least 240 days ago. Assessment happens when the IRS officially records the amount you owe. This usually occurs a few weeks after you file your return. If you amended your return or the IRS audited you, the 240-day clock restarts from the new assessment date.

4. You cannot have committed tax fraud or willful evasion. If you filed a fraudulent return or deliberately tried to evade paying taxes, that debt is never dischargeable. Filing late doesn't count as fraud, but using fake Social Security numbers or hiding income does.

5. The tax debt must be for income taxes. Only federal and state income taxes qualify for discharge. Payroll taxes, trust fund taxes, and excise taxes cannot be wiped out in bankruptcy.

Miss one requirement and the entire debt survives bankruptcy.

Tolling Events That Extend the Waiting Periods

Certain events pause the three-year and 240-day clocks. These are called tolling events.

• Previous bankruptcy filings: If you filed bankruptcy before, the time your case was open gets added to the waiting periods. File Chapter 7 in 2023, and that case stays open for four months. Those four months don't count toward the three-year rule.
• Offers in compromise: Requesting an offer in compromise pauses the 240-day clock for the time the IRS considers your offer, plus 30 days.
• Collection due process hearings: Requesting a CDP hearing stops the 240-day clock during the hearing process and appeal period.

Tolling can push discharge eligibility back months or even years. Calculate carefully before filing.

What Tax Debts Cannot Be Discharged in Bankruptcy

Not all tax debt qualifies for discharge. These types survive bankruptcy no matter what:

• Payroll taxes: If you own a business and withheld payroll taxes from employees but didn't send the money to the IRS, you're personally liable. Bankruptcy never discharges these trust fund taxes.
• Recent income taxes: Any tax debt that fails the three-year, two-year, or 240-day rules stays with you after bankruptcy.
• Tax penalties on non-dischargeable taxes: If the underlying tax isn't dischargeable, neither are the penalties and interest.
• Fraudulent tax debt: Fraud-related tax debts are permanent.

If your debt doesn't qualify for discharge, Chapter 13 bankruptcy may still give you a better path forward than dealing with the IRS directly.

How Chapter 7 Bankruptcy Handles Tax Debt

Chapter 7 bankruptcy works fast. You file, the trustee liquidates non-exempt assets, and you receive a discharge in about 90 days.

If your tax debt meets all five discharge requirements, Chapter 7 wipes it out along with your credit cards and medical bills. The IRS cannot garnish your wages, levy your bank account, or file new tax liens after discharge.

But there's a catch. If the IRS already filed a tax lien before you filed bankruptcy, that lien survives. The lien attaches to your property, and the IRS can enforce it even after your personal liability is discharged. You can negotiate a lien release, but the IRS isn't required to agree.

When Chapter 7 Makes Sense for Tax Debt

Chapter 7 works best when:

• Your tax debt is old enough to qualify for discharge
• You have little equity in your home or car (so the IRS lien doesn't matter much)
• You also have significant credit card or medical debt that bankruptcy can eliminate
• You can't afford monthly payments on a Chapter 13 plan

Chapter 7 costs around $350 in filing fees, plus attorney fees that typically range from $1,000 to $2,000.

How Chapter 13 Bankruptcy Handles Tax Debt

Chapter 13 bankruptcy is a three-to-five-year repayment plan. You make monthly payments to a trustee, who distributes the money to your creditors according to a court-approved plan.

Chapter 13 treats tax debt as a priority debt. Priority debts must be paid in full during your plan, but you get the entire plan period to do it. No interest accrues during your Chapter 13 case, and the IRS cannot garnish your wages or levy your accounts while you're in an active plan.

How Chapter 13 Stops IRS Collection Actions

Filing Chapter 13 triggers an automatic stay. The stay immediately stops:

• Wage garnishments
• Bank levies
• IRS collection letters and phone calls
• Tax lien foreclosures

The stay remains in effect for the entire length of your Chapter 13 plan, usually three to five years. During that time, you make your plan payments, and the IRS gets nothing except what the trustee sends them.

When Chapter 13 Makes Sense for Tax Debt

Chapter 13 works best when:

• Your tax debt is too recent to discharge in Chapter 7
• The IRS is actively garnishing your wages or threatening to seize assets
• You have other debts (like a mortgage arrearage or car loan) that Chapter 13 can help you restructure
• You earn regular income and can afford monthly plan payments

Chapter 13 costs $313 in filing fees, plus attorney fees that typically range from $3,000 to $5,000. Many attorneys let you pay a portion upfront and include the rest in your plan payments.

State Tax Debt and Bankruptcy

The same discharge rules apply to state income taxes. If your state tax debt meets the three-year, two-year, and 240-day requirements, Chapter 7 bankruptcy can eliminate it.

State tax liens work the same way as federal liens. If the state recorded a lien before you filed bankruptcy, the lien survives even if the debt is discharged.

One difference: some states are more aggressive than the IRS about seizing assets and filing liens. California, New York, and Illinois tax agencies move fast. If you owe state taxes, check whether a lien has already been filed before deciding between Chapter 7 and Chapter 13.

How Tax Liens Complicate Bankruptcy

A tax lien is the IRS's claim against your property. Once filed, the lien attaches to everything you own: your house, your car, your bank accounts, even assets you acquire after the lien is filed.

Bankruptcy discharges your personal obligation to pay the tax debt, but it doesn't remove the lien. That means:

• You no longer owe the money personally
• The IRS cannot garnish your wages or levy your accounts
• But the IRS can still enforce the lien against your property

If you sell your house, the IRS gets paid from the proceeds before you see a dime. If you have equity in a car, the IRS can seize it to satisfy the lien.

Removing a Tax Lien After Bankruptcy

You can ask the IRS to release a lien after bankruptcy if:

• The lien amount is less than the value of your assets, and releasing the lien would help you pay other creditors
• You qualify for lien subordination, which lets other creditors (like a mortgage lender) take priority
• You negotiate a payment plan with the IRS and request lien withdrawal once the debt is paid

Lien removal isn't automatic. You'll need to submit IRS Form 12277 (Application for Withdrawal of Filed Form 668) and show that releasing the lien is in the IRS's best interest.

Protecting Your Tax Refund in Bankruptcy

Tax refunds are tricky in bankruptcy. Whether the trustee can take your refund depends on when you file and what exemptions you claim.

Tax Refunds in Chapter 7 Bankruptcy

In Chapter 7, any tax refund you're entitled to as of your filing date becomes part of your bankruptcy estate. That includes:

• Refunds you've already received but not spent
• Refunds you've filed for but haven't received yet
• Refunds you haven't filed for but are entitled to based on income earned before filing

Most states allow you to exempt a portion of your tax refund using a wildcard exemption. The federal wildcard exemption is $1,475 per person (plus an additional $13,950 of unused homestead exemption). State exemptions vary.

If your refund exceeds your available exemptions, the trustee can take the excess and distribute it to creditors.

Tax Refunds in Chapter 13 Bankruptcy

In Chapter 13, any tax refund you receive during your plan period usually must be turned over to the trustee. The trustee adds it to your plan payments and distributes it to creditors.

Some districts let you keep small refunds (under $2,000), but most require you to hand over anything above a few hundred dollars. Check your local rules.

Timing Your Bankruptcy Filing to Protect Your Refund

If you're expecting a large refund, spend it on necessary expenses before filing bankruptcy. Necessary expenses include:

• Rent or mortgage payments
• Car repairs
• Medical bills
• Attorney fees for bankruptcy

Once the money is spent on necessities, it's no longer part of your bankruptcy estate. Do not spend your refund on luxuries, pay back family members, or move it into someone else's account. Those are fraudulent transfers, and the trustee can reverse them.

Another option: adjust your withholding so you get smaller refunds throughout the year instead of one lump sum. You'll have more money in each paycheck and less risk of losing a refund to the trustee.

Alternatives to Bankruptcy for Tax Debt

Bankruptcy isn't the only way to deal with IRS debt. These alternatives may work better depending on your situation.

Installment Agreements

The IRS offers payment plans that let you pay your tax debt over time. If you owe less than $50,000, you can set up a plan online in about 15 minutes. Plans up to 72 months are available.

Monthly payments are based on your ability to pay, but the IRS charges interest and penalties until the debt is paid in full. Interest accrues at the federal short-term rate plus 3% (currently around 8% annually).

Offer in Compromise

An offer in compromise lets you settle your tax debt for less than you owe. The IRS accepts offers when they believe they'll never collect the full amount.

Qualifying is tough. You'll need to prove you can't pay the full debt even if the IRS gave you the maximum time to pay. The IRS accepts about 40% of offers submitted. The application fee is $205, and you must include a 20% down payment with your offer.

Currently Not Collectible Status

If you have no income and no assets, the IRS may place your account in currently not collectible (CNC) status. Collection activity stops, but interest and penalties keep accruing.

CNC status doesn't erase your debt. It just delays collection until your financial situation improves. The IRS reviews CNC accounts annually.

When Bankruptcy Beats IRS Payment Plans

Bankruptcy makes more sense than an IRS payment plan when:

• Your tax debt qualifies for discharge
• You have other debts (credit cards, medical bills) that bankruptcy can eliminate
• The IRS rejected your offer in compromise or installment agreement request
• You need immediate relief from wage garnishment

Common Mistakes When Filing Bankruptcy on Tax Debt

1. Filing too early. If your tax debt is two years and 11 months old, wait one more month. Filing early means the debt survives bankruptcy.

2. Not filing old tax returns. The IRS won't discharge debt unless you filed your own return. If you owe taxes for 2019 but never filed a 2019 return, file it now. Wait two years after filing, then file bankruptcy.

3. Ignoring tolling events. Previous bankruptcy filings and IRS negotiations extend the waiting periods. Calculate your eligibility carefully.

4. Assuming all tax debt is dischargeable. Payroll taxes and recent income taxes are not. Chapter 7 won't help if your debt doesn't meet the discharge test.

5. Spending your refund on luxuries. If you receive a $5,000 refund and buy a boat, the trustee can reverse that transaction and take the boat. Spend refunds on rent, food, and necessities only.

Should You Hire a Bankruptcy Attorney for Tax Debt?

Tax debt cases are complicated. Calculating discharge eligibility requires understanding IRS rules, tolling events, and state-specific exemptions. Most people filing bankruptcy on tax debt hire an attorney.

Expect to pay $1,500 to $3,000 for a Chapter 7 case with significant tax debt. Chapter 13 cases cost $3,500 to $5,000, but you can often pay most of that through your plan.

An attorney will:

• Calculate whether your tax debt qualifies for discharge
• Check for tax liens and advise whether Chapter 7 or Chapter 13 is better
• Help you protect your tax refund using exemptions
• Negotiate with the IRS if liens need to be removed post-discharge

You can file bankruptcy without an attorney, but mistakes in tax debt cases are costly. Filing too early, miscalculating discharge dates, or failing to protect your refund can leave you worse off than before you filed.

If you're unsure whether bankruptcy is right for you, start by checking your eligibility. Our free bankruptcy screener takes two minutes and gives you personalized guidance based on your situation. No email required, no sales pitch.

Next Steps: What to Do Right Now

If you're dealing with tax debt and considering bankruptcy, take these steps today:

1. Pull your IRS account transcripts. Go to IRS.gov and request your account transcripts for the years you owe taxes. The transcripts show assessment dates, payment history, and lien filings. You need this information to calculate discharge eligibility.

2. File any missing tax returns. If you haven't filed returns for the years you owe taxes, file them now. The two-year clock doesn't start until you file.

3. Calculate your discharge eligibility. Use the five-part test above to determine whether your tax debt qualifies for Chapter 7 discharge. If you're close to meeting the requirements, wait until you do before filing.

4. Check for tax liens. Search your county recorder's office website to see if the IRS or state tax agency filed a lien against you. If a lien exists, Chapter 13 may be a better option than Chapter 7.

5. Consult a bankruptcy attorney. Tax debt cases require precision. A consultation costs $100 to $200 and can save you thousands by helping you file at the right time with the right strategy.

If you're ready to explore bankruptcy as an option, our bankruptcy filing guide walks you through the entire process step by step. You'll learn what to expect, what documents you need, and how to protect your assets during the case.