When a bankruptcy is filed on the IRS, Section 362 of the Bankruptcy Code imposes what is called an “automatic stay” on collection activity by creditors, including the IRS. The automatic stay requires the IRS to release any levys and to cease any further collection action.
But what if a husband and wife owe back taxes on joint returns, and only the husband files bankruptcy? Will the bankruptcy cause the IRS to stop collecting on the whole amount or just the husband’s portion?
The bankruptcy will stop the IRS from collecting against the spouse who filed the bankruptcy (husband in this case), but it will not stop the government from collecting against the non-filing spouse (here, the wife) on a joint liability.
This question refers to what is known as a “co-debtor stay.” In most Chapter 13 bankruptcy cases, a co-debtor stay protects both the filing and non-filing spouse against all collections on joint debts during the bankruptcy. The catch is that co-debtor stays apply only to consumer debt. Most courts define consumer debt to mean extenstions of credit, like loans and credit cards, not taxes. So, taxes are not consumer debt, and are not subject to the co-debtor stay in Chapter 13 cases. As to Chapter 7 cases, there are no co-debtor stays regardless of the type of debt involved.
That being said, bankruptcy can be a very effective way to eliminate taxes. Learn a little more in this post, or read an article I recently wrote on the topic for the Journal of the National Association of Enrolled Agents (NAEA).