The IRS and Plan-Busting Tax Claims

Unlike other creditors, taxing authorities like the IRS and the Massachusetts Department of Revenue can file proofs of claim in Chapter 13 bankruptcy cases for post-petition taxes. This right comes from Section 1305 of the Bankruptcy Code, and it usually happens when a bankruptcy debtor doesn’t stay up-to-date on taxes after the filing of a bankruptcy.

In Massachusetts, it is possible for a payment plan for taxes to be arranged outside the plan. Whether this makes sense or not depends on some specifics of the Chapter 13 plan in place. If the plan is paying out little to no money to unsecured creditors, a direct payment plan for the taxes often makes sense. This is because any Chapter 13 plan amendment to include the taxes in the court payment, will just make the monthly payment go up by the amount of the taxes plus the trustee’s (approximately) 10 percent commission. A payment plan directly with the taxing authority will save the commission amount and better allow the debtor to keep tabs on the accrual of post-petition interest (which will accrue no matter what route is taken).

However, often it is preferable to seek a bankruptcy plan amendment. There are two circumstances in which this will usually be so. First, when IRS or MDOR is requiring too large a payment, stretching payments for up to five years in the Chapter 13 plan can help. Second, and most importantly, when a sizable amount is being paid out to unsecured creditors in the Chapter 13 plan, an amendment can shift some or all of this money to the taxing authority and, in essence, will shift the tax burden to general unsecured creditors (like credit cards, etc.). This is done all the time, and creditors do not have a strong basis to object to this treatment because all Section 1325(b)(1)(B) requires is:

The plan provides that all of the debtor’s projected disposable income to be received in the applicable commitment period beginning on the date that the first payment is due under the plan will be applied to make payments to unsecured creditors under the plan.

The key is that a recent tax claim will be an unsecured debt just like a credit card (the fact that it will be a “priority” claim unlike the credit card is not relevant here). All the law requires is that the plan pay out all disposable income to the entire unsecured creditor body. Therefore, it is in a debtor’s interest to ensure that, to the extent that there is any money for unsecured creditors, it goes towards the nondischargeable tax claim.

Bottom line: If you can amend to redirect money towards the taxes, it’s usually best to do so. However, if there is no money to shift, a direct payment plan will usually be the preferred course.

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