When you are filing for bankruptcy, it’s natural to be worried about all of the potential financial consequences that will follow. Even though bankruptcy is often a way to be freed from overwhelming debts, it also makes many people nervous. Many times people worry that such an easy break will come with serious repercussions—especially come tax season. Luckily, this particular fear is mostly unfounded.
In reality, the tax implications of filing for bankruptcy as an individual are negligible. Debt discharged during bankruptcy does not count as taxable income, which means that the amount forgiven will not impact your tax burden.
However, that doesn’t mean that filing bankruptcy is entirely without tax consequences. In some cases, you may not be able to take advantage of certain tax credits and deductions you might otherwise be able to claim if you didn’t file for bankruptcy. Whether your tax credits and deductions are affected will depend on your personal circumstances. Generally, this will only apply if you already have a complicated tax return.
In order to get a better idea of whether or not your deductions may be affected by bankruptcy, it’s a good idea to consult an experienced tax professional and to talk to a team of experienced Cleveland bankruptcy lawyers. In addition, if you are planning on filing for bankruptcy before your refund is processed – but after filing the previous year’s taxes – your refund money will be considered an asset in the bankruptcy and can be liquidated or managed by the trustee like any other.
Tax Implications of Bankruptcy Versus Debt Settlement
Of course, you still have to pay taxes on your regular income generated over the year when bankruptcy was filed, but it will simply be equal to the taxes you’d pay on income without having filed bankruptcy. In fact, in this sense bankruptcy can be a smarter option than debt forgiveness by creditors. When you settle a debt with a creditor, this direct debt forgiveness or settlement counts as income and you may face an unexpected tax burden.
If your debt is cancelled or settled outside of formal bankruptcy procedures for less than you owe, the IRS considers it taxable income. You will be issued a Form 1099-C, Cancellation of Debt, and the amount forgiven will be taxed as a form of income. For people already struggling to pay bills, this often only worsens your financial situation and increases the potential for default rather than actually helping you regain financial control.
As you can see, tax implications are usually not the largest consideration that makes people hesitate to file for bankruptcy. In fact, it can actually be a tax-beneficial option. Other considerations usually have more of an impact on the decision whether to file.
How a Team of Skilled Cleveland Bankruptcy Lawyers Can Help
If you are drowning in debt and weighing your options, it can help to talk to knowledgeable bankruptcy lawyers and discover the potential benefits and consequences of each option available to you. Call the dedicated Cleveland bankruptcy lawyers at Luftman, Heck, and Associates at (216) 586-6600 today for a free preliminary consultation. Find out which options may be best for you and your individual financial circumstances.