Payroll Tax Obligations Following Bankruptcy

Declaring bankruptcy is of very limited help when it comes to dealing with unpaid payroll taxes. While it may buy you some time, it doesn't discharge the debt.

The IRS holds business owners and co-owners personally liable for payroll taxes. This means that unpaid payroll taxes, even when bankruptcy is declared, can result in the IRS taking personal assets such as private accounts, cars, or vacation homes valued up to the amount owed. For this reason, business owners should make it a priority to pay payroll taxes.

If you've filed for bankruptcy and have unpaid payroll taxes you don't have the money to pay, your best option is to negotiate a payment plan with the IRS, or make an "offer in compromise" for less than you owe.

If you owe less than $25,000, you should be able to get an installment plan fairly easily. The downside to a payment plan is that the interest can total up to 8 to 10 percent a year on the amount still owed. The other stipulation is that anyone asking for a payment plan on back taxes must be current on their own yearly taxes.

If, on the other hand, you make an "offer in compromise," you're asking the IRS to reduce the amount you owe. Doing so requires that you file IRS Form 656 (PDF) and pay a $150 application fee. The process is neither easy nor fast. Once you submit the forms, you'll be required to supply the IRS with massive amounts of information — from pay stubs to vehicle registrations. You must be able to show either that it is doubtful the IRS will be able to collect the full amount from you, or that doing so would create an unfair economic hardship.

There are two primary downsides to making an offer in compromise: First, if the IRS refuses the offer, you've already provided them with all the paperwork they need to quickly seize your assets. Additionally, during the lengthy application process, interest is accruing on the money owed. If the offer is ultimately granted, you'll be expected to pay the amount in full within two years, or have a Notice of Federal Tax Lien imposed.

IRS requirements are often both lengthy and complicated. If you find yourself owing the IRS a large debt in unpaid payroll taxes, you'd be wise to hire legal representation to aid you in your negotiation process.

Be sure to read Alternatives to Declaring Business Bankruptcy for help in avoiding bankruptcy altogether.