Bankruptcy law is a funny thing. Most cases I see as a bankruptcy attorney are fairly routine in that I have seen similar scenarios and can accurately predict how they will play out. However, the 2005 BAPCPA changes to the bankruptcy code are still in their infancy. When a unique situation arises, bankruptcy lawyers don’t have years of resolved case law to turn to. It is our job to interpret the bankruptcy code and apply it as seen fit. In occasional circumstances, we are pioneers of our field.
I was recently asked about the ability to discharge a 2008 Home Buyer Credit in bankruptcy. For those of you that don’t remember, this credit preceeded the more popular $8,000 credit. The $7,500 first time home buyer tax credit is required to be paid back over 15 years at $500 per year. Therefore, it is more of a low interest loan than an actual credit. There are several scenarios to consider when trying to determine the outcome of this loan in bankruptcy.
You must first consider whether you are keeping your home. If the house ceases to be your primary residence or if you sell the property, the tax credit is repaid in full with proceeds from the sale. The loan balance may be reduced or eliminated in some circumstances. The IRS advises,
If you sell your home, all remaining annual installments become due on the return for the year of sale. The repayment is limited to the amount of gain on the sale, if the home is sold to an unrelated taxpayer. If there is no gain or if there is a loss on the sale, the remaining annual installments may be reduced or even eliminated. Taxpayers are urged to consult a professional to determine the tax consequences of a sale.
Therefore, if you are currently underwater on your home, the tax debt may be eliminated upon sale do to negative gains on the property. Foreclosures are treated similarly to gains and, according to the IRS, if you lose your home in foreclosure the tax credit is only repaid up to the amount of gain.
What if you are planning on keeping your home? If you consider this loan as your would a tax debt, there are several parameters that must be met to successfully eliminate it. From a previous blog post:
First off, tax debt must be at least three years old. This is determined by the date on which the tax return was due. To eliminate tax debt, it must pertain to a tax return originally due at least three years before filing for bankruptcy protection. This due date includes any extensions.
Second, you must have filed a tax return for this debt. This return must have been filed at least 2 years prior to the date of filing, in order for the debt to be discharged. This time frame is determine from the actual date your return was filed.
In addition, the tax debt must have been assessed by the IRS at least 240 days prior to filing in order for the debt to be discharged. This assessment may be initiated by an IRS final audit determination, an IRS proposed assessment, or a self-reported balance due.
A final question is whether this loan attaches a lien to the property in question. Remember that bankruptcy can eliminate personal liability from the debt; however, if a lien is present the property in question would be at risk. In simple terms, the loan would then be similar to a second or third mortgage.
From what I have read, the statute does not grant the IRS the authority to attach liens to the property in question. The rules for tax liens are quite specific when the IRS can put a lien on property. It is not yet known how the IRS will identify and stake its claim to the repayment. Again, this is something that will play out with time.