Income Taxation of Your Bankruptcy Estate Text Size:

When you file for bankruptcy, your property and rights, for example the right to file a lawsuit or claims against others that could have value, will form your bankruptcy estate. The bankruptcy trustee then administers your bankruptcy estate as your case works through the bankruptcy process.

The bankruptcy estate is separate from you and is considered a separate taxpayer. You should be familiar with the income tax responsibilities of your bankruptcy estate. Your individual tax situation, for the periods before and after your bankruptcy case, can be impacted by issues that affect the bankruptcy estate.

The Filing Date of Your Bankruptcy Case and Taxes

Your bankruptcy case begins or commences when you file a bankruptcy petition. This date is important because it marks the division between your tax picture as an individual and that of your bankruptcy estate. The starting point for figuring out income tax is the taxpayer's gross income. The gross income of the bankruptcy estate is all of your gross income, which the estate is entitled to receive according to the federal Bankruptcy Code, and all income received by estate after the case begins. For example, wages you earned, but are paid after you file for bankruptcy, would be gross income of the bankruptcy estate.

Calculating Taxes

Generally, taxable income of the bankruptcy estate is computed in the same way as for an individual. Gross income is reduced by deductible expenses paid or accrued by the bankruptcy estate. Such expenses are deductible to the same extent as they would have been to you in carrying on the same trade, business or other income-generating activity before filing for bankruptcy. Further, the taxable income may be reduced by certain tax attributes that the bankruptcy estate inherits from you as an individual. In contrast, you can't claim deductions for things paid by the bankruptcy estate.

Income or Losses from Partnerships or S-corporations

If you have an ownership interest in a partnership or a S-corporation, there must be a determination as to who pays the tax for distributions or income from these business entities. Your interest in these businesses becomes a part of bankruptcy estate. The answer might not be clear as to whether you or your bankruptcy estate are to be taxed on income for the time from the beginning of the business's tax year to the time you filed for bankruptcy. Generally, the income or losses are attributed to whomever holds the partnership interest or stock at the end of the business's tax year, most likely the bankruptcy estate.

Deductions for Administrative Expenses

Federal tax laws are liberal in allowing deductions for administrative expenses of the bankruptcy estate. Administrative expenses include attorney and other professional fees, even if the particular expense couldn¿t have been claimed as a deduction as a business or trade expense. Administrative expenses can be carried back or carried forward, meaning these deductions can be applied to other tax years. However, when the bankruptcy estate ends, you're not allowed to carryover unused administrative expense deductions to your individual tax return.

Carrybacks

If the bankruptcy estate incurs a net operating loss, compared to a loss you incurred, and that was transferred to the bankruptcy estate, the estate can carry back such net operating loss. Similarly, the bankruptcy estate may carry back excess credits, such as investment tax credits or foreign tax credits. These carrybacks can be applied to prebankruptcy years.

Federal tax laws allow carrybacks to the bankruptcy estate that aren't allowed to you as an individual. The policy reason for this difference is that any tax benefit from a carryback should belong to the bankruptcy estate for the benefit of creditors.

Tax Issues When Bankruptcy Is Complete

When the bankruptcy process is complete, the bankruptcy estate ends, and the tax attributes that transferred to your bankruptcy estate at the start of your case go back to you. These tax attributes or factors, such as a net operating loss carryover, likely won't have much value because they were probably consumed or used in the bankruptcy estate's activities. Note that if an individual debtor dies before the bankruptcy estate ends, a surviving spouse can't take advantage of unused net operating loss carryovers.

Questions for Your Attorney

• I think I might have to file for bankruptcy. Is there any income tax planning I should think about this year? Does it matter when I file a bankruptcy petition?
• I'm going to file for bankruptcy and my business is a partnership. Can I and should I try to structure when I receive partnership income or losses during the year?
• Does my bankruptcy have any effect on amending my individual tax returns for pre-bankruptcy years?

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