The Common Tax Mistakes You Want to Avoid
Under the federal bankruptcy laws, most taxes are not dischargeable. That means that you cannot rid yourself of income taxes, sales taxes or payroll taxes that you owe by filing a Chapter 7 petition, with very limited exceptions. In a Chapter 13 bankruptcy case, most taxes will have to be paid in full over the course of three to five years. While the Chapter 13 is pending, however, and you will enjoy the benefits of the automatic stay, which prohibits the taxing authority from taking any other action to collect past-due taxes.
The best way, however, to deal with tax arrearages is to avoid incurring them in the first place. The most common sources of tax debt arise from:
- Failure to file a return and pay a tax — If you don’t file a tax return, the IRS or the state will do it for you, using past income records to “estimate” a tax for you that is usually more than you really owe. Don’t fail to file simply because you can’t afford to pay the tax. Always file and pay what you can afford to pay.
- Failure to set aside funds for taxes — too many people who are self-employed fail to set aside money to pay estimated taxes. For most small businesses, this money should be taken out of the main business operating account and put into as separate “tax account” that becomes a separate escrow fund. A benefit of this strategy is that tax escrow accounts cannot be attached by creditors. Another benefit is that this money cannot be depleted if for example, a customer’s check bounces.
- Failure to collect and pay sales tax — This is typically a state or municipal matter. These taxes are non-dischargable. In New Jersey, anyone who had decision making authority over whether or not to pay these taxes or other bills can be found personally liable.
- Failure to pay payroll taxes when due —when you deduct money from an employee’s paycheck, you are taking their money to pay their taxes for them. Government taxing authorities take a very hard line on the nonpayment of FICA and other payroll taxes. Again, any person with authority to pay the debts of a business may be liable for nonpayment, and the government can assess a 100-percent penalty for nonpayment.
- Not keeping good and accurate business records. Self explanatory.
- Trying to avoid paying employee taxes by calling workers “independent contractors” instead. The distinction between employees and independent contractors is complex. But if the worker has regular hours and is supervised on the job, they are probably employees. If a stated auditor investigates and determines that they are really employees, the business and business owners can become liable for all the money that they failed to collect from the workers as employees. Bad news!
Here again, prevention is the best cure. Get qualified tax and legal advice. If you are in trouble, seek qualified advice sooner rather than later.
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IRS CIRCULAR 230 DISCLOSURE: Pursuant to Treasury Regulations, any tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used or relied upon by you or any other person, for the purpose of (i) avoiding penalties under the Internal Revenue Code, or (ii) promoting, marketing or recommending to another party any tax advice addressed herein.