Sales Tax Debt: A Permanent Responsibility
Filing Bankruptcy on Sales Tax,This is like a girl that you got pregnant when you were bored or on vacation. You will be connected to them forever. You can’t discharge the debt, but you can file a Chapter 13 or 11 reorganization to pay it back over time, like your child support from my example.
Classifying Debt in Bankruptcy
When you are thinking about filing for bankruptcy, you have to put your debt into 1 of 2 categories:
- Dischargeable, or
- Non-dischargeable
Bankruptcy Code §523 declares certain tax claims to be non-dischargeable.
“Non-dischargeability” is a big deal.
Non-dischargeable claims do not get erased by bankruptcy. No subsequent bankruptcy can ever erase them.
What Sales Taxes Fall Under Non-Dischargeability
The tax claims covered by Code §523 include:
- Any tax, incurred at any time, if “required to be collected or withheld”, and
- Excise taxes accruing within the three years before bankruptcy
Case Example: In re Michael Calabrese
The recent case of State of N.J. Div. of Taxation v. Michael Calabrese (In re Michael Calabrese), ___ B.R. ___ (D.N.J. 2011), makes clear that state sales taxes – accruing at any time before bankruptcy — fall into the category of loathsome disease.
Business owners are therefore well-advised to ensure that they promptly and fully pay their sales taxes to the state. The consequences of failing to do so are permanent.
Facts of the Case
- Michael Calabrese ran a bagel business, which failed
- He filed for personal bankruptcy
- New Jersey filed a claim for sales taxes collected from customers but never paid to the state
- These taxes had accrued more than three years before Calabrese’s bankruptcy
- Calabrese argued they were excise taxes and thus dischargeable under the three-year window
- The State argued the taxes were “required to be collected or withheld” and not subject to the three-year limitation
Court’s Ruling
The court ruled in favor of the State
As there was no precedent in New Jersey, it relied on:
- In re DeChiaro, 760 F.2d 432 (2nd Cir. 1985)
- In re Shank, 792 F.2d 829, 832 (9th Cir. 1986)
The court found:
The purpose of collecting sales tax from customers at the time of sale is to ensure payment of such taxes to the State
Therefore:
Sales tax collected by a third party and owed to the State “is a tax clearly held in trust” and is non-dischargeable
Conclusion: Sales Tax Debt is for Life
Let’s go back to the opening sentence
A mistake is a mistake no matter how you look at it
Unlike DUI or even manslaughter, you will never get a mistrial or a motion to dismiss
This one is for life, unless you pay it back
Frequently Asked Questions
Can sales tax debt be discharged in bankruptcy?
No, sales tax debt cannot be discharged in bankruptcy. It is considered a non-dischargeable debt under Bankruptcy Code §523, meaning it remains your responsibility even after bankruptcy is filed.
What does “non-dischargeable” mean in bankruptcy?
A non-dischargeable debt is one that cannot be erased through bankruptcy proceedings. Even if you file for Chapter 7, 11, or 13, this type of debt remains and must eventually be paid.
Why are sales taxes treated differently from other types of tax debt?
Sales taxes are classified as “trust fund taxes” because they are collected from customers and held in trust for the state. As such, the law treats failing to remit them as a serious breach, making the debt non-dischargeable.
Can I use Chapter 13 or Chapter 11 to manage sales tax debt?
Yes, while you cannot erase sales tax debt, you can file for Chapter 13 or Chapter 11 bankruptcy to reorganize your debts and pay the sales tax over time through a court-approved plan.
What was the key takeaway from the Michael Calabrese case?
The court ruled that sales taxes collected but not paid to the state, even if accrued more than three years before bankruptcy, remain non-dischargeable. This affirmed that such taxes are held in trust and must be repaid regardless of the timeline.