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Debt Relief Options for Tax Debts


Is Bankruptcy or A Consumer Proposal the Better Option for Tax Debts? It’s a common misconception that bankruptcy and consumer proposals exclude tax debt. So when facing a large amount of tax debt that you are unable to pay, it can be incredibly stressful and overwhelming if you aren’t aware that you actually have debt […]

Phone on top of tax forms

Is Bankruptcy or A Consumer Proposal the Better Option for Tax Debts?

It’s a common misconception that bankruptcy and consumer proposals exclude tax debt. So when facing a large amount of tax debt that you are unable to pay, it can be incredibly stressful and overwhelming if you aren’t aware that you actually have debt relief options available to you.

Especially considering the fact that the CRA has stronger powers than your typical debt collector, and has the ability to:

  • Impose significant penalties and interest
  • Easily freeze your bank account or garnishee your wages
  • Direct customers/clients of your business to pay the CRA instead of you
  • Register a lien against your home without obtaining your consent or a court order

Therefore, if you find yourself in a situation where you have more tax debt than you can afford to pay, it’s crucial that you consider your debt relief options right away.

What Debt Relief Solutions Are Available for Tax Debts?

While the CRA does not forgive debt, you are able to seek relief through a consumer proposal or personal bankruptcy.

Just like other forms of unsecured debt such as credit cards, both bankruptcy and consumer proposals include tax debts. This means that either option will help you to either eliminate or greatly reduce the tax debts that you owe.

What Kind of Tax Debts Do Debt Relief Solutions Include?

All tax debts, whether its income tax, GST, HST, or QST are included in bankruptcy or a consumer proposal.

Bankruptcy for Tax Debts

If you file for bankruptcy, your tax debts will be discharged, meaning they will go away once the bankruptcy is over, as long as CRA has not secured the tax debt through a lien before you file.

In fact, in bankruptcy cases, the CRA is treated the same as any other creditor, which means that upon completing your bankruptcy duties and obtaining a discharge, your tax debts will be eliminated.

However, it’s important to note that back taxes, penalties, and interest can only be eliminated by filing insolvency through a Licensed Insolvency Trustee (LIT) who will act as your bankruptcy trustee.

While this may sound like a perfect solution, it’s not as simple as you may think.

Bankruptcy is a complex legal process that requires you to surrender assets to your LIT – with some exceptions – which will be sold to help repay your creditors.

Bankruptcy also has a significant impact on your credit rating and remains on your credit report for six years after the date of the discharge from bankruptcy. A second bankruptcy will remain on your report for 14 years.

CRA Bankruptcy Considerations

There are certain conditions set out by Canada Revenue Agency that you must meet in order to have your tax debts discharged.

You Must Be Insolvent

In order to qualify for bankruptcy – particularly with a large amount of tax debt – you must be able to prove that there is no reasonable way you can repay the total amount of debt that you owe. In other words, you must be insolvent.

All Outstanding Tax Returns Must Be Filed

In order to proceed with personal bankruptcy, the CRA has to be able to confirm exactly how much tax debt you owe.

So, if you have any outstanding tax returns, the bankruptcy process will only become much more difficult.

If Self-Employed, All HST Returns Must Be Filed

Again, the CRA needs to establish the total amount owing, so if you are self-employed, you must comply with all HST filing requirements.

You Must Complete Your Bankruptcy Duties

As with any bankruptcy, discharge is always the end goal, as that is what relinquishes you from your responsibility to repay your debts. The same principle applies to tax debts.

In order to have your bankruptcy discharged, you must perform all financial and non-financial duties, such as:

  • Disclose all property you own and surrender all non-exempt assets to the trustee
  • Surrender all credit cards to your trustee for cancellation
  • Provide any documents requested by the bankruptcy trustee, including forms, tax returns, insurance policies, etc.
  • Disclose your household income and expenses to your trustee every month
  • Make all required payments, including surplus income
  • Attend two mandatory credit counselling sessions
  • Attend any required meeting of creditors or examinations by the Official Receiver

You Must Keep All Taxes Current

To avoid slipping back into bad habits, you must start (or continue) filing your tax returns on time and making the necessary installment payments.

Complications of Filing for Bankruptcy with Tax Debts

As previously mentioned, there are definite complications that come with filing for bankruptcy, particularly when you have tax debt.

For instance, if your personal tax debts total more than $200,000 and represent more than 75% of your overall unsecured debts, you will not be eligible for an automatic discharge.

Instead, you will have to go to court where a judge will decide on the conditions that you must meet in order to be discharged. This could mean that you will end up having to pay a larger portion of the debt, and/or your discharge becomes delayed. The judge can even refuse to grant you a discharge in some cases.

Filing for personal bankruptcy will also not remove a CRA lien on a house. The CRA may, however, remove the lien in a consumer proposal if they accept the terms of the proposal.

Another downside to bankruptcy is that any tax refunds you are owed up to the year you file will be kept by the CRA or forwarded to the trustee as an asset of your bankruptcy.

For these reasons, filing a consumer proposal is often more desirable and produces a better outcome than bankruptcy.

Consumer Proposal for Tax Debts

Just like any other creditor, the CRA has collectors you can negotiate a settlement with, making a consumer proposal an option to help relieve you from some of your tax debts.

Unlike bankruptcy, which eliminates debts altogether, a consumer proposal is a government-regulated legal process for settling unsecured debts.

With a consumer proposal, you must also work a LIT who will act as your consumer proposal administrator.

Your LIT will negotiate an agreement with the CRA and your other creditors on your behalf, allowing you to pay back a reduced amount of what you owe, interest-free, based on a payment plan that you can afford.

A consumer proposal also comes with the same creditor protection from CRA collectors as a bankruptcy.

The only complication with a consumer proposal for tax debts is your repayment plan.

Unlike other creditors that will often collectively accept a settlement that allows you to pay back a flat amount of what you owe, such as 25% or 30%, with the CRA, settlement payments can be unpredictable.

When trying to estimate a settlement percentage for taxes debts, the CRA looks at each consumer proposal on a case by case basis, and will often consider factors like:

  • Your budget
  • Whether you made every effort at payment
  • If your tax returns were filed on time
  • The risk of you incurring tax debts again in the future
  • Whether there has been a prior consumer proposal or bankruptcy

H3: Bankruptcy vs Consumer Proposal – Which is Better?

While bankruptcy does have its benefits (mainly the elimination of debts), there are also a lot of negative aspects that are important to consider, such as:

  • Loss of assets
  • Negative impact on your credit score for 6 years
  • The impact it could have on your employment
  • Not all debt will be discharged

In comparison, a consumer proposal has significantly less of an impact on your credit rating, and only stays on your credit report for 3 years after the proposal is completed.

Plus, a consumer proposal does not require you to surrender your assets.

So, which option should you choose? At the end of the day, the decision is up to you. However, it’s important to weigh the pros and cons of each and discuss both options with your LIT before you file.

A Licenced Insolvency Trustee will walk you through the process for each option and help you come to an informed decision that is best for you and your situation.

Baker Tilly Ottawa Ltd. is a Licensed Insolvency Trustee. Its professionals have assisted thousands of individuals successfully resolve their debt crises and overcome financial turmoil since 2002. Its passion – its mission – is your health and well-being!

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