Can Back Taxes be Included in Business Bankruptcy?

The short answer is, yes, back taxes can be included in a business bankruptcy. The long answer is that while they can be included, they aren’t always dischargeable.

Business owners are responsible for the taxes owed by their business. However, under certain circumstances, back taxes may be negotiated or even discharged in a business bankruptcy. The most common situation is through a Chapter 11 Subchapter V business bankruptcy case.

What is Chapter 11 Subchapter V?

A Subchapter V Bankruptcy is a type of business bankruptcy that falls under Chapter 11 of the U.S. Bankruptcy code. A Chapter 11 bankruptcy is also known as a “reorganization” bankruptcy. Subchapter V was added to the code to make reorganization bankruptcy more accessible to small businesses. This type of bankruptcy is new and was added in 2020. It is a valuable resource that gives small business owners a more streamlined, faster, and far less expensive choice than a typical Chapter 11 bankruptcy.

Under Subchapter V bankruptcy, small business owners can reorganize and develop a plan to pay off the remaining debt without shutting down business operations. This is done with a reorganization plan that allows the business to spread debt repayment over 3-5 years. This allows for more manageable payments over a longer timeline. One of the other most referred to features of a Chapter 11 Subchapter V Business Bankruptcy is the ability of the business owner to use the plan to eliminate certain unsecured debts.

Are Back Taxes Secured or Unsecured Debt?

Generally, property taxes are among the only ones on the list below that are considered “secured,” but there can often be exceptions.

Typical back taxes often include:

• State Sales and Use Taxes: Businesses that sell goods and/or services are required to collect and remit sales tax to the Texas Comptroller.
• Franchise Tax: Businesses are required to pay a franchise tax (also known as the margin tax), which is a tax on gross receipts.
• Payroll Taxes: Employers must withhold federal income tax, Social Security, and Medicare taxes from their employees' wages and pay these taxes.
• Federal Taxes: Businesses must pay federal taxes, including income, payroll, and self-employment taxes.
• Property Taxes: If a business owns real or personal property, it is subject to local property taxes.
• Penalties and Interest: If taxes are not paid on time, businesses can incur penalties and interest. These penalties can compound, increasing the total debt owed.

Regardless of type, all back taxes are considered priority debts. This means they take the top slot on a business’ list of creditors in a bankruptcy. As priority debts, they must be paid in full during the 3–5-year reorganization plan. This often includes the principal of the back taxes, but the penalties and interest associated may be able to be negotiated or reduced, especially under Chapter 11 Subchapter V which offers more flexibility than a traditional Chapter 11.

When Can Back Taxes Be Discharged?

Back taxes may be discharged if they meet all the following conditions:

• The taxes are at least three years old
• The tax returns for the debt were filed at least two years before the bankruptcy filing
• The taxes were assessed at least 240 days (about 8 months) before the bankruptcy petition is filed
• The tax debt is not the result of fraud or intentional tax evasion

Note: Federal payroll taxes (like Social Security and Medicare) cannot be discharged in bankruptcy, even if all other conditions are met.

If the business’s back taxes can’t be discharged or do not meet the conditions, then they are put into the reorganization plan. That plan allows for a long-term payment structure for all business debt, not just back taxes. You can read more about reorganization plans and Chapter 11 Subchapter V here.

If your business is overwhelmed by back taxes or other business debt, and you think Chapter 11 Subchapter V Business Bankruptcy might be right for you, our attorneys can help. For more information or guidance from experienced business bankruptcy attorneys, talk to The Lane Law Firm today.