Tax debt can feel like a weight you can’t shake. The IRS collected $77.6 billion in unpaid taxes during fiscal year 2024, showing just how aggressively the government pursues what it’s owed. At the same time, bankruptcy filings rose to 517,308 cases in 2024, many from people drowning in tax obligations.
If you’re facing overwhelming tax debt in New York, you might wonder: Can bankruptcy actually wipe out what you owe? The short answer is yes, but only if your tax debt meets specific requirements. Understanding these rules could be the difference between freedom from tax debt and years of IRS collection actions.
Understanding Tax Debt Discharge: The 3-2-240 Rule
Not all tax debt can be discharged in bankruptcy. Federal law uses what bankruptcy attorneys call the “3-2-240 rule” to determine which tax debts are eligible for discharge. This rule comes directly from the IRS Bankruptcy Tax Guide (Publication 908).
Here’s what your tax debt must meet:
The Three-Year Rule
Your tax debt must relate to a tax return that was due at least three years before filing bankruptcy. If you filed for an extension, the clock starts from the extended due date, not the original one.
For example, if your 2021 tax return was due on April 15, 2022 (without extensions), you couldn’t discharge that debt until after April 15, 2025. Tax Day isn’t always April 15. Some years it falls on April 16, 17, or even 18 due to weekends and holidays. Getting the date wrong by even one day can derail your entire discharge.
The Two-Year Rule
You must have filed the tax return at least two years before filing bankruptcy. This rule rewards people who filed their returns, even if they couldn’t pay. Late-filed returns count, but only if they were filed at least two years before bankruptcy.
Here’s the catch: if the IRS filed a substitute return for you because you never filed, that doesn’t count. The return must be one you actually filed yourself.
The 240-Day Rule
The IRS must have assessed the tax at least 240 days before your bankruptcy filing. Assessment happens when the IRS formally records what you owe. This typically occurs after an audit or when you file your return.
The 240-day period gets extended in certain situations. If you previously submitted an offer in compromise to the IRS, add 30 days to the 240-day period. If you filed a previous bankruptcy, add 90 days.
What Tax Debts Can Never Be Discharged?
Even if you meet the 3-2-240 rule, certain tax debts are permanently non-dischargeable in bankruptcy:
- Payroll taxes: If you withheld taxes from employees but didn’t send them to the IRS, those are considered trust fund taxes and can never be discharged.
- Sales taxes: State and local sales taxes collected but not remitted are non-dischargeable.
- Fraudulent returns: If you filed a fraudulent return or willfully tried to evade taxes, that debt follows you forever.
- Unfiled returns: Tax debts from years when you never filed a return cannot be discharged.
New York State Tax Debt in Bankruptcy
New York state income taxes follow the same basic rules as federal taxes for discharge purposes. If your state tax debt meets the 3-2-240 requirements, it can be discharged just like federal tax debt.
However, there’s an important difference in how New York and the IRS collect. The IRS has 10 years to collect tax debt. New York State has 20 years. This longer collection period means that even if you discharge the personal obligation to pay, any tax liens filed before bankruptcy can remain attached to your property.
Tax Liens: The Hidden Problem
Here’s where many people get tripped up: discharging tax debt doesn’t automatically eliminate tax liens.
If the IRS or New York State filed a Notice of Tax Lien before you filed bankruptcy, that lien survives your discharge. The lien gives the government a secured interest in your property. While you won’t personally owe the debt anymore, the government can still collect from property you owned when you filed bankruptcy.
Think of it this way: bankruptcy can eliminate your obligation to pay, but it can’t erase a lien already recorded against your house or other property. If you sell that property later, the government gets paid from the proceeds before you see a dime.
Chapter 7 Versus Chapter 13 for Tax Debt
The type of bankruptcy you file makes a significant difference in handling tax debt.
Chapter 7 Bankruptcy
This is the faster option. If your tax debt meets the 3-2-240 requirements, Chapter 7 can discharge it completely. Most Chapter 7 cases finish in three to four months. You get a fresh start quickly.
The downside? Chapter 7 doesn’t help with tax liens, and you can’t discharge priority tax debts (debts that don’t meet the 3-2-240 rules).
Chapter 13 Bankruptcy
This option creates a three- to five-year repayment plan. Even tax debts that don’t meet the 3-2-240 requirements can be handled through the plan. You pay what you can afford over time, and the automatic stay stops IRS collection actions while you’re in bankruptcy.
Chapter 13 can also strip off tax liens in certain situations, particularly when there’s no equity in the property to secure the lien.
According to data from the US Bankruptcy Courts, nonbusiness Chapter 7 filings increased 18.7% in 2024, while Chapter 13 filings rose 7.2%. Both chapters saw increased use as people struggled with mounting debts.
The “Chapter 20” Strategy
Some New York bankruptcy attorneys use what’s called a “Chapter 20” strategy. You file Chapter 7 first to discharge all eligible tax debts, then immediately file Chapter 13 to create a payment plan for non-dischargeable taxes. It’s informally called Chapter 20 because 7 + 13 = 20.
This approach stops interest and penalties from accruing when you file the Chapter 7. Then the Chapter 13 plan lets you pay off the remaining non-dischargeable taxes over time without additional penalties piling up.
What Happens to Tax Debt That Can’t Be Discharged?
If your tax debt doesn’t qualify for discharge, bankruptcy still provides valuable benefits:
- The automatic stay: When you file bankruptcy, the automatic stay immediately stops all collection actions. The IRS can’t garnish your wages, levy your bank account, or seize your property while the stay is in effect.
- Structured repayment: Chapter 13 lets you spread tax payments over three to five years with no additional penalties or interest in many cases.
- Time to get current: Bankruptcy gives you breathing room to file unfiled returns and get compliant with current tax obligations.
Common Mistakes That Ruin Tax Debt Discharge
After working with hundreds of New Yorkers facing tax problems, we’ve seen these mistakes repeatedly:
- Filing too early: People rush to file bankruptcy before the 3-2-240 requirements are met. Fulfill the required waiting period to avoid derailing your tax debt discharge plan.
- Not filing returns: You must have filed your return at least two years before bankruptcy. Not filing returns before bankruptcy is one of the biggest mistakes.
- Ignoring tax liens: Many people assume bankruptcy wipes out everything. Tax liens are different and require separate attention.
- Mixing tax years: Just because one tax year qualifies for discharge doesn’t mean they all do. Each year must be analyzed separately.
How John D’Amato Can Help Discharge Your Tax Debts Through New York Bankruptcy
At the law office of John D’Amato, we’ve helped New Yorkers eliminate tax debt through bankruptcy. Our deep understanding of both IRS procedures and New York bankruptcy law means we spot opportunities other attorneys miss.
Attorney John D’Amato combines extensive bankruptcy experience with specialized knowledge of tax debt discharge. He knows exactly when your tax debt qualifies for discharge and which bankruptcy chapter serves you best.
Our clients consistently report relief from crushing tax obligations. One client from Lockport, NY, shared, “John’s ability to go through all the law and the paperwork without a hitch was a great relief to us. Your service relieved our stress. We were going to try to go through all of this by ourselves, figuring out who to pay to ease the calls from the collectors.”
Another client from Hamburg, NY, wrote, “Mr. John D’Amato saved my life and gave me a new life to start fresh. Extremely happy with Mr. John D’Amato and Miss Margaret.”
What to Expect When You Work With Us
Here’s how we approach tax debt bankruptcy cases:
- Tax transcript analysis: We obtain and review your tax transcripts to determine exact due dates, filing dates, and assessment dates for each tax year.
- Strategic timing: We calculate the precise date you become eligible to discharge each tax debt and time your bankruptcy filing accordingly.
- Lien investigation: We research whether any tax liens have been filed and develop strategies to deal with them.
- Chapter selection: We analyze whether Chapter 7 or Chapter 13 (or both in a Chapter 20 strategy) best serves your situation.
- Complete debt relief strategy: We look at all your debts, not just taxes, to create a comprehensive solution.
Take a Step Toward Tax Debt Freedom. Call John D’Amato.
Tax debt doesn’t have to control your life. With the right strategy and experienced legal guidance, you can eliminate or restructure tax obligations that feel impossible to handle.
If you’re facing IRS or New York State tax debt, the time to act is now. Every day you wait, interest and penalties pile up. The IRS collected over $16 billion through installment agreements in 2024 alone, according to the IRS Data Book. We help keep your hard-earned money from getting siphoned off by utilizing bankruptcy as the better solution.
John D’Amato, PLLC, is one of New York’s top-rated bankruptcy firms specializing in tax debt discharge. Our track record speaks for itself, with clients consistently praising our thorough approach and successful outcomes.Ready to explore your options? Contact John D’Amato today at (716) 703-9099 for a free consultation. We’ll review your specific tax situation, calculate when your debts qualify for discharge, and create a customized plan to help you achieve financial freedom.