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Tax deductions work by lowering your amount of taxable income, in turn reducing your tax liability (the amount you owe the IRS). Though most people use the standard deduction, the itemized deduction yields higher savings for certain taxpayers. In either scenario, the bottom line is the same: tax deductions can help you save money. That’s good news for anyone, but for Chapter 13 debtors, there’s an additional bonus: some of the payments in your Chapter 13 reorganization plan may be tax deductible. Philadelphia bankruptcy attorneys explain Chapter 13 tax deduction eligibility for Pennsylvania filers.

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Are Chapter 13 Payments Tax Deductible?

One of the most important parts of filing Chapter 13 bankruptcy is proposing a reorganization plan to the bankruptcy court. The reorganization plan creates terms by which you, the debtor, make monthly payments to the bankruptcy trustee, who then disburses the funds to your creditors based on how claims are prioritized (secured claims, priority claims, and unsecured nonpriority claims).

All of your disposable income must be channeled into the Chapter 13 plan. Your creditors must receive at least the amount that they would have received from a sale of your assets in Chapter 7 (liquidation).

If you stick with your plan and make all of your payments as directed, you can avoid foreclosure and repossession. You may also be able to significantly reduce the amount of debt that you owe.

These are the benefits of reorganization bankruptcy that most debtors are familiar with. What fewer debtors realize is that Chapter 13 can also have advantages when tax season rolls around. Be sure to review your reorganization plan carefully with a Pennsylvania Chapter 13 attorney to ensure you are getting the greatest financial benefit. Examples of deductible Chapter 13 payments may include:

  • Business Expenses – Business entities like corporations and LLCs are prohibited from using Chapter 13, and are instead required to file under other chapters of bankruptcy, such as Chapter 7 (which generally results in closure of the business) or Chapter 11 (which permits the business to continue operating while the bankruptcy is pending). However, Chapter 13 may be a filing option for those who are self-employed. If you are or were a business owner who ran a sole proprietorship before filing Chapter 13 in Pennsylvania, it may be possible for you to deduct from your taxable income certain business expenses, such as commercial leases or sales taxes.
  • Mortgage Arrearages (Late Payments) – Chapter 13 plans let debtors stop foreclosure by catching up on missed mortgage payments, or arrearages, including interest. Mortgage interest is normally tax deductible, and the same applies for taxpayers in Chapter 13 bankruptcy. In the event you do not receive Form 1098 (Mortgage Interest Statement) from your mortgage servicer, your Montgomery County Chapter 13 attorney can help you obtain a report on the reorganization plan payments you made that year, which will show the exact amount that was disbursed to the mortgagee, and coordinate with the IRS as necessary.
  • Back Taxes – Are you in the process of paying back property taxes, or back state income taxes, as part of your bankruptcy reorganization plan? If so, you may be able to deduct the payments. This concept should not be confused with the discharging (wiping out) back taxes, which may be possible if:
    1. The taxes are income taxes.
    2. The pertinent tax return was filed at least two years before the Chapter 13 filing date.
    3. The pertinent tax return was due at least three years before the Chapter 13 filing date.
    4. The tax was either (1) assessed at least 240 days before the Chapter 13 filing date, or (2) was not assessed at any point in time.
    5. You did not commit tax fraud, tax evasion, or other tax crimes or fraudulent acts.

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Contact Philadelphia Bankruptcy Attorneys About Filing Chapter 13

The Delaware County Chapter 13 bankruptcy lawyers of Sadek & Cooper Law Offices have helped thousands of taxpayers obtain relief from crushing debt through strategic personal bankruptcy. Whether you are a small business owner who operates a sole proprietorship, a debtor who plans to file individually, or a married individual who wishes to file a joint Chapter 13 bankruptcy with your wife or husband, our skilled legal team is ready to provide clear, personalized guidance at every step of the way. We can help prepare your bankruptcy documentation, represent you at bankruptcy hearings, protect you against creditor harassment, and draft a thoughtful reorganization plan designed to help you achieve your goals.

To learn more about the benefits of filing Chapter 13 bankruptcy in Pennsylvania, such as the automatic stay, foreclosure prevention, and debt relief, contact Sadek & Cooper Law Offices at (215) 995-2543 for a free consultation. Our attorneys proudly serve Philadelphia, Bucks, Delaware, and Montgomery Counties.