Filing for bankruptcy is a difficult decision, often made to get a financial “fresh start.” While it can relieve you from many debts, it also introduces a new set of rules, especially when it comes to your taxes. The IRS addresses these rules in Publication 908, which was recently updated for December 2025.

Whether you’re filing for bankruptcy or helping someone who is, understanding the tax implications is crucial. Here are the key takeaways from the latest guide.

A New Tax Entity is Created (For Chapter 7 & 11)

One of the most important concepts to grasp is that for individuals filing under Chapter 7 (liquidation) or Chapter 11 (reorganization), a separate taxable entity called the bankruptcy estate is created. This is not the case for Chapter 12 (family farmers/fishermen) or Chapter 13 (individuals with regular income).

• For Chapter 7 and 11: The bankruptcy trustee (or the “debtor-in-possession” in Chapter 11) must obtain a new Employer Identification Number (EIN) for the estate and file a separate tax return using Form 1041, the U.S. Income Tax Return for Estates and Trusts. The individual debtor continues to file their personal return on Form 1040 or 1040-SR.
• For Chapter 12 and 13: The bankruptcy estate is not a separate taxable entity. The individual simply continues to file their regular Form 1040 or 1040-SR.

The Crucial Filing Deadline

The Bankruptcy Code has strict rules about tax returns. Debtors in all chapters (7, 11, 12, and 13) must file all tax returns that become due after the bankruptcy case begins. Failure to do so can be grounds for the case to be dismissed or converted to another chapter.

For Chapter 13 filers, there’s an additional requirement: you must also file all required tax returns for tax periods ending within the 4 years before you filed your bankruptcy petition.

A Key Filing Threshold for 2025

For tax year 2025, the guide reminds us that a bankruptcy estate (in Chapter 7 or 11) must file a return (Form 1041) only if its gross income meets or exceeds $15,750. This amount is tied to the standard deduction for married individuals filing separately and is subject to annual adjustment.

The Good News: Canceled Debt is Not Taxable (Usually)

In a typical situation, if a creditor cancels a debt you owe, that amount is considered taxable income. However, one of the primary benefits of bankruptcy is that debt canceled in a bankruptcy case is excluded from gross income. This means you do not have to pay income tax on the forgiven debt.

A similar exclusion exists for insolvent individuals (those whose liabilities exceed their assets) outside of bankruptcy. However, in a Title 11 bankruptcy case, this exclusion takes precedence.

The Trade-Off: Reducing Your “Tax Attributes”

While you don’t pay tax on the canceled debt, the IRS doesn’t let you get a double benefit. You must use the amount of canceled debt to reduce certain “tax attributes.” This is a way of postponing the tax benefit rather than forgiving it entirely.

You must reduce things like:

• Net Operating Loss (NOL) carryovers
• General business credit carryovers
• Capital loss carryovers
• The basis of your property (which could lead to higher taxable gains when you sell the property later)

In some cases, you can elect to reduce the basis of depreciable property first, which might be a more beneficial strategy.

The Automatic Stay vs. IRS Actions

When you file for bankruptcy, an “automatic stay” goes into effect, which generally stops most collection actions. This means the IRS cannot levy your assets or continue collection activities for pre-bankruptcy debts.

However, the IRS can still:

• Determine the amount of tax you owe (audit you)
• Issue a Notice of Deficiency (the 90-day letter)
• Assess the tax and send a notice and demand for payment

The ability for the IRS to assess tax is a specific exception to the automatic stay rules.

What About the Tax Court?

Filing for bankruptcy also puts a hold on Tax Court proceedings. The 90-day period you have to file a petition with the Tax Court after receiving a Notice of Deficiency is suspended while the automatic stay is in effect and for an additional 60 days after the stay ends.

Keeping It All Straight: The Required Statement

For Chapter 11 cases, the debtor must attach a statement to their individual tax return (Form 1040) stating that the return is subject to a bankruptcy case. This statement must include:

• How income and tax withheld are allocated between the debtor and the estate
• The filing date of the bankruptcy case and the court case number
• The bankruptcy estate’s EIN

The trustee or debtor-in-possession must attach a similar statement to the estate’s tax return (Form 1041).

Final Thoughts

Navigating the intersection of bankruptcy and tax law is complex. This guide provides a high-level overview of the key points from the IRS’s 2025 Publication 908.

If you are considering bankruptcy or are currently in a bankruptcy proceeding, it is highly recommended to seek professional advice. A qualified tax professional or bankruptcy attorney can help you navigate these rules, ensure you meet all filing deadlines, and help you choose the best strategies for reducing your tax attributes. Getting it wrong can lead to case dismissal or unexpected tax bills down the road.