State tax debts can sometimes be cleared, or discharged, by filing a bankruptcy. It depends on the type of tax debt that is owed. Many of the rules are the same for state tax debt as for tax debts owed to the IRS. However, many state tax debts stem from having owned a business, like sales taxes, withholding taxes and franchise taxes, which have specific rules about whether you can discharge them or not. Different states have different rules about different state taxes as well. Just like any tax debt issue, state taxes are complicated and you should talk to an experienced attorney.

State Taxes That Can Be Discharged In Bankruptcy

The state taxes that can be discharged most often are old state income taxes. They follow the same rules for dischargeability as federal income taxes, and it depends on when the return was due, when it was filed and when the tax was assessed. The rules for federal income tax discharge can be found in “Does Bankruptcy Wipe Out Tax Debt?” If the state income tax that you owe meets the rules for federal income tax discharge, then the state income tax can be discharged too.

State Taxes That Can’t Be Discharged

Some kinds of state taxes are never dischargeable. These include income taxes that are less than 3 years old. Most of the non-dischargeable state taxes come from owning a business. These are taxes such as sales tax and payroll taxes. If your business is a sole proprietorship, then you are automatically personally liable for sales and payroll taxes. If your business is a corporation, partnership or limited liability company, then you are only personally liable if the business does not pay, and the taxing authority has said that you, personally, owe the tax, known as a personal assessment.

Sales and payroll taxes are called “trust fund” taxes. It means that the business was supposed to collect those taxes and hold them in trust for the taxing authority until they are periodically paid over to the taxing authority. Taxing authorities tend to be very aggressive in trying to collect trust fund taxes. There is also usually a very long period of time, often 10 years or more, for the taxing authority to collect those taxes. The time period will depend on the state you live in. If you owe trust fund taxes, you should seek advice from an experienced attorney on how best to proceed.

Chapter 13 Can Help Pay State Taxes That Can’t Be Discharged

If your state tax obligation can’t be discharged, a Chapter 13 bankruptcy can help you pay the tax. Chapter 13 is a repayment plan that lasts 3 to 5 years. It will let you spread out the payments on the non-dischargeable tax over that time period. Often the payments are much more affordable since the payment is based on what you can actually afford to pay.
State taxes that can’t be discharged are usually priority debts which get paid in full through a chapter 13. This can be a good option, especially for trust fund taxes, to give you time to pay taxes that you can’t otherwise get rid of in a bankruptcy. You will need to make sure that there has been a personal assessment for business taxes before trying to pay them through a chapter 13. It is very important to consult an attorney regarding these matters. The rules are complicated and you will need good counsel to make sure you a bankruptcy is the best option.

Questions for Your Attorney
• Can the state taxes I owe be discharged?
• What specific rules in my state affect whether my state taxes can be discharged?
• Would a Chapter 13 bankruptcy be feasible to pay my state tax debt?