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Does Bankruptcy Clear Tax Debt in Canada? Unraveling the Complexities

The short answer is: Yes, bankruptcy can clear certain types of tax debt in Canada, but it’s not a blanket solution and several conditions and exceptions apply. Navigating the intricate world of bankruptcy and tax law requires careful consideration and professional advice. Let’s delve into the details.

Understanding Tax Debt and Bankruptcy in Canada

Tax debt can be a significant burden, and for some, bankruptcy seems like the only viable option. However, understanding the nuances of how bankruptcy interacts with tax obligations is crucial. Not all tax debts are treated equally under the Bankruptcy and Insolvency Act (BIA).

What Types of Tax Debt Are Dischargeable?

Generally, unsecured tax debt is dischargeable through bankruptcy. This includes:

Income tax: Unpaid federal and provincial income taxes.
HST/GST: Unpaid Harmonized Sales Tax (HST) or Goods and Services Tax (GST) for individuals.
Payroll deductions (under certain conditions): While normally preferred debts, under certain circumstances, these can be discharged.

What Tax Debts Are NOT Dischargeable?

Certain tax debts are considered non-dischargeable in bankruptcy. This means you will still be legally obligated to pay them even after your bankruptcy is discharged. These typically include:

Debt arising from fraud or misrepresentation: If your tax debt is a result of fraudulent activity or misrepresentation, such as deliberately underreporting income, it will not be discharged.
Fines and penalties: Penalties imposed by the Canada Revenue Agency (CRA) or provincial tax authorities are generally not dischargeable.
GST/HST collected as a business owner: As a business owner, you have a fiduciary responsibility to remit the GST/HST you collect on behalf of the government. This is held in trust and cannot be discharged through bankruptcy.
Director’s liability: As a director of a corporation, you can be held personally liable for unremitted source deductions (e.g., income tax, CPP, EI) and GST/HST. This liability is generally not discharged in bankruptcy.
Support payments: While not technically tax debt, any family support payments are not dischargeable.

The Importance of Timing

The timing of when the tax debt was incurred is also critical. To be dischargeable, the income tax debt must relate to tax returns that were due at least one year before the date of your bankruptcy filing. Returns due within the past year will likely not be dischargeable. This “lookback” period is a key consideration when deciding when to file.

The Bankruptcy Process and Tax Debt

Filing for bankruptcy involves several steps, and understanding how tax debt is handled within this process is essential.

Filing a Statement of Affairs

As part of the bankruptcy process, you must file a Statement of Affairs with the Office of the Superintendent of Bankruptcy (OSB). This document lists all your assets, liabilities, and creditors, including the CRA. Accurately disclosing your tax debt is crucial.

Proof of Claim

The CRA will typically file a Proof of Claim with the Licensed Insolvency Trustee (LIT) assigned to your case. This claim outlines the amount of tax debt you owe.

Creditors’ Meeting

A creditors’ meeting may be held where creditors, including the CRA, can question you about your financial affairs.

Discharge

If your bankruptcy is discharged, you are released from your dischargeable debts, including eligible tax debt. However, it’s crucial to remember the exceptions mentioned earlier.

Seeking Professional Advice

Dealing with tax debt and bankruptcy is complex. Consulting with a Licensed Insolvency Trustee (LIT) and a tax professional is highly recommended. An LIT can assess your financial situation, explain your options, and guide you through the bankruptcy process. A tax professional can analyze your tax debt and advise on strategies to minimize your tax obligations.

Frequently Asked Questions (FAQs)

Here are some frequently asked questions related to bankruptcy and tax debt in Canada.

1. Will Filing Bankruptcy Stop the CRA from Garnishing My Wages?

Yes, once you file for bankruptcy, an automatic stay of proceedings takes effect. This prevents creditors, including the CRA, from taking further collection action against you, such as wage garnishment.

2. Can the CRA Still Audit Me After I File for Bankruptcy?

Yes, the CRA retains the right to audit you, even after you file for bankruptcy. An audit may uncover additional tax liabilities that could affect your bankruptcy.

3. What Happens if the CRA Disagrees with My Claimed Tax Debt in Bankruptcy?

The CRA can dispute your claimed tax debt by filing an objection with the LIT. The LIT will then review the objection and make a determination. If you disagree with the LIT’s decision, you can appeal to the court.

4. Does Bankruptcy Affect My Credit Score?

Yes, bankruptcy has a significant negative impact on your credit score. It will remain on your credit report for several years. However, rebuilding your credit is possible after your discharge.

5. Can I File a Consumer Proposal Instead of Bankruptcy for Tax Debt?

Yes, a consumer proposal is an alternative to bankruptcy. It involves making an offer to your creditors to pay a portion of your debts over a period of time. A consumer proposal can be a good option if you have assets you want to protect or if you can afford to make regular payments.

6. How Long Does Bankruptcy Last in Canada?

For a first-time bankrupt, the standard period is nine months. However, if you have surplus income or have been bankrupt before, the period may be extended to 21-36 months.

7. What is Surplus Income and How Does it Affect My Bankruptcy?

Surplus income is the amount of income you earn above a threshold set by the OSB. If you have surplus income, you will be required to make additional payments to your LIT, which will be distributed to your creditors.

8. Can I Choose Which Debts to Include in My Bankruptcy?

No, bankruptcy is an all-or-nothing process. You must include all your debts, both secured and unsecured, in your bankruptcy filing.

9. What Happens to Joint Debts When One Person Files Bankruptcy?

If you have joint debts with another person, such as a mortgage or a credit card, the creditor can still pursue the other person for the full amount of the debt, even if you file for bankruptcy.

10. Can I Get a Secured Credit Card After Bankruptcy?

Yes, obtaining a secured credit card after bankruptcy can be a good way to start rebuilding your credit. A secured credit card requires you to deposit funds as collateral.

11. Is There a Limit to How Many Times I Can File for Bankruptcy in Canada?

While there’s no strict legal limit, filing for bankruptcy multiple times will raise concerns with the court and the LIT. Subsequent bankruptcies may also result in longer discharge periods.

12. Where Can I Find a Licensed Insolvency Trustee in My Area?

You can find a list of Licensed Insolvency Trustees on the website of the Office of the Superintendent of Bankruptcy (OSB).

In conclusion, while bankruptcy can offer relief from certain types of tax debt in Canada, it’s essential to understand the limitations and seek professional guidance. Carefully consider your options and consult with an LIT and a tax professional to determine the best course of action for your specific circumstances.