• Not all tax debts can be eliminated in a bankruptcy.gavel image by Cora Reed from Fotolia.com
  
  Even the most responsible people can find themselves in a serious financial predicament. While debt counseling and careful budgeting can help individuals and families recover their financial health, sometimes bankruptcy is the only realistic option. While bankruptcy can help debtors by canceling their debts and giving them a fresh start, many tax debts and tax liens are difficult or impossible to discharge without a bankruptcy filing.
  
  

Tax Debts

• Most tax debts cannot be discharged in a bankruptcy, though federal income tax debt can be discharged in a Chapter 7 bankruptcy under certain circumstances. The individual seeking bankruptcy protection against income taxes must not be guilty of tax fraud and must have actually filed her taxes for the years in which she is seeking bankruptcy relief. In addition, the tax debt must be at least three years old and either not yet assessed by the IRS or assessed at least 240 days prior to filing for bankruptcy.
  
  

Canceled Debts

• The IRS regards the cancellation or forgiveness of a debt, outside of bankruptcy, as income for a debtor: Creditors who forgive a debt can write it off as a loss with the IRS but must also send the debtor a 1099-C form stating the forgiven debt amount. The debtor is obligated to pay income taxes on the forgiven debt.
  
  On the other hand, debts that are canceled in bankruptcy are not subject to this rule and cannot be taxed as income. The debt canceled in bankruptcy must be offset against other tax credits and deductions, which reduces the tax benefits one would normally receive from such provisions.
  
  

Tax Liens

• While bankruptcy can provide for the cancellation of a tax debt, it cannot eliminate a federal tax lien. If the IRS has already placed a lien on an individual's property, it will remain in place after the bankruptcy is granted.