Good advice : what you need to know about the Bankruptcy Act of 2005

California CPA, June, 2005 by Jay Crom

If the election is not made, and the bankruptcy estate has assets to administer, causing it to remain open through 2006, the debtor will not be able to use the capital loss carryover on the 2005 full-year return and a greater capital loss would be available to the bankruptcy estate.

An election must be filed with the IRS by the fifteenth day of the fourth month following the petition date. Thus, it is critical for tax advisers to provide timely assessment of the election's impact. The debtor and not the tax preparer must sign the election. An extension form filing by a tax adviser containing the election will fail if not signed by the debtor.

STATE INCOME TAX PROVISIONS

The act eliminates many federal and state income tax reporting differences that can arise upon the filing of Chapter 7 or Chapter 11 cases. Under the old law, the debtor's tax year automatically terminated on the petition date for state income tax purposes whereas the debtor had to file an election to terminate the year for federal purposes.

Under the new act, most of the special tax provisions that relate to state income taxes have been replaced with provisions that cause the state tax reporting to follow federal provisions, including most of the IRC Sec. 1398 provisions. However, the state law provisions still apply if not over-ridden by the federal bankruptcy provisions.

For instance, in California, the net operating loss carryover limitations still apply and are not expanded by the IRC provisions. Thus, the two-year federal NOL carryback provision does not become available to the bankruptcy estate for California tax filing purposes.

CONCLUSION

The new act will make it more difficult for debtors to qualify for bankruptcy relief. Any relief obtained may be reduced as a result of the new limitations on the automatic stay and failure to maintain financial reporting compliance by debtors will lead to dismissal of their case, a loss of debt relief and termination of the automatic stay.

The key for CPAs is timely preparation of tax returns and financial reports for self-employed individuals that will be necessary to obtain and maintain the benefits of bankruptcy.

RELATED ARTICLE: What the Act Says

AMONG OTHER FEATURES, THE ACT:

* Increases the focus of "needs-based bankruptcy," directing the court to assume abuse of the Chapter 7 liquidation process if the debtor's monthly income--after reduction for certain living costs based upon IRS tables and required payment on priority debt, multiplied by 60--exceeds 25 percent of non-priority unsecured debt;

* Imposes a duty on creditors that hold consumer debt to engage in repayment plan negotiations or face up to a 20 percent claim reduction;

* Designates U.S. attorney and FBI agents to implement enforcement on fraud and abuse;

* Provides priority treatment for domestic support and exception to the automatic stay for domestic support obligations;

* Expands exemption (i.e. retention) of certain retirement plan funds;

* Restricts public access to information to reduce risk of identity theft;