Probably no area of bankruptcy law is more vexing than determining how and which taxes are discharged in a bankruptcy case. Legal scholars and practicing lawyers write books on the subject. I will attempt to boil the variables down here to give you a little guidance. As always, however, you should discuss your particular circumstances with a qualified bankruptcy attorney who
- can analyze your returns
- help you determine how much you owe
- sort out secured, priority and unsecured taxes, trust fund taxes, interest and penalties
- judge whether a bankruptcy filing is your best course of action
- advocate on your behalf with the IRS or other taxing authority
- litigate the dischargeability of the tax, if necessary
Keep in mind also that that for the most part, if a debt cannot be discharged in a Chapter 7 case, it might be dischargeable in a Chapter 13 case if the debt must also be paid in full through the Chapter 13 plan.
Chapter 7: Certain types of business taxes or taxes associated with commerce are not dischargeable usually in a Chapter 7 bankruptcy case. These include excise taxes and other sales taxes on products and services. Excise and sales taxes are collected by a business on behalf of state or local taxing authorities. The business or responsible individual is charged with holding those funds until they they are turned over to the taxing authority. If a business or an individual fails to turn over the taxes to the government, the debt that results usually cannot be discharged in a bankruptcy case.
Chapter 13: Sales and excise taxes can be discharged in a Chapter 13 case filed by the responsible individual (incorporated businesses cannot file Chapter 13 cases), but only because the Chapter 13 plan must provide for full payment of the taxes over the course of plan payments.
Corporate Income Taxes
Taxes owed by corporations are not dischargeable. This is so because the debt of a corporation will not be dischargeable in any bankruptcy proceeding. When a corporation files a Chapter 7, its assets are liquidated and used to pay debts. Outstanding income taxes have a high priority in the hierarchy of payment. In a Chapter 11 case, the debtor has to propose a plan to reorganize its debts, including its outstanding tax obligations. Finally, Chapter 13 repayment plans are not available to corporations.
Payroll Taxes
Chapter 7: Also known as “trust fund” taxes, these are withheld from an employee's pay for federal or state income taxes, FICA or OASDI. When a business or responsible individual fails to turn over the payroll withholding, the resulting debt will not be dischargeable in a Chapter 7 case.
Chapter 13: Federal and state income taxes and FICA and OASDI withholdings can be discharged in a Chapter 13 case filed by the responsible individual, but only because the Chapter 13 plan must provide for full payment of the taxes over the course of plan payments.
Property taxes
Chapter 7: Property taxes are usually owed to county or municipal taxing authorities and can be assessed against personal property or real property. Almost always, the government will hold a lien on the property that secures payment of the tax, and the government will be able to obtain satisfaction by selling the property.
To the extent that the property does not cover the extent of the taxes, the owner may be held liable for the shortfall if that tax was incurred before the bankruptcy case started and was last payable without penalty “after one year before the date of the filing of the petition.” Bankruptcy Code Section 507(a)(8). In essence, if the tax is for the year before your bankruptcy filing, it is not dischargeable in a Chapter 7 case.
Business personal property taxes may cause headaches for owners or officers who are designated as responsible parties under state law. When those individuals file a bankruptcy case, recent (within the previous year) business personal property taxes will not be dischargeable in a Chapter 7 case.
Chapter 13: If the property tax is not dischargeable in a Chapter 7 case, it may be dischargeable in a Chapter 13 case, but only because it must be paid off over the course of the Chapter 13 plan.
To learn how state and federal income taxes are treated in bankruptcy cases, see Discharging Debts: Federal and State Income Taxes
For more information:
To learn more about the debts that can and cannot be discharged in a bankruptcy case, be sure to visit these pages:
Discharge Overview
Discharge vs dischargeability
Challenging the general discharge and discharge of particular debts
Dischargeability of particular debts
- Income taxes
- Business, sales and property taxes
- Child support and alimony, including attorney’s fees
- Fines, penalties, restitution, court ordered payments
- Student loans (with certain exceptions)
- Injuries to persons and property
- Debts from DUI/DWI related accidents
- Fraud
- Recent credit card charges and cash advances
Discharging car loans, home loans and other secured debt
Reaffirmations and other exceptions to discharge
Litigating discharge challenges