Employment Withholding Taxes

Employment withholding taxes withheld from an employee’s gross wages are akin to trust funds, as opposed to being a debt owed to a government entity.  This affects the treatment of employer liability for such withholding taxes. Whether an employer can eliminate an obligation to pay employment withholding taxes in bankruptcy in San Diego, depends on the nature of the taxes at issue and whether the obligation sought to be eliminated is the employer or employee’s share of withholding taxes.  To explain in more detail:


Employers are required to pay both an employer’s share of withholding taxes and they are required to withhold the employee’s share from the employee’s gross wages at the time of each pay date, resulting in the employee being paid a net pay or net wage.  The employer’s share of withholding tax can be discharged in bankruptcy, but the employer’s responsibility to collect or pay employee withholding taxes is a type of debt obligation that cannot be eliminated in a San Diego bankruptcy filing.


The law imposes upon the employer an obligation to withhold taxes from employee wages and to match certain taxes such as social security and medicare.  (Each worker must pay the requisite social security and medicare tax, however if they are employed, as opposed to self-employed, the employer must pay one-half of these taxes).  In addition, an employer must withhold the appropriate amount of California state and local taxes from an employee’s wages.


When employment taxes are withheld from an employee’s gross wages, the amounts must be paid to the appropriate government entities.  Federal income tax must be paid to the Internal Revenue Service (IRS) and California income tax must be paid to the Franchise Tax Board. At the end of the year, the employee will file returns, noting the amounts paid to the IRS and FTB and will either owe more taxes, or receive a refund, depending upon whether sufficient taxes were deducted from the employees wages.  In addition, in California an employer must deduct unemployment taxes, which are to be paid to the Employment Development Department (EDD).


Because the amounts deducted from the employee’s wages (by paying an employee net wages) are supposed to be deposited with the appropriate government entities, these amounts are essentially treated as trust funds.  Thus, if an employer deducts employment taxes from an employee’s gross wages (by paying an employee net wages) and fails to deposit with the appropriate government entities the amounts deducted from the employee’s gross wages, it is akin to illegal diverting of trust fund money to the employer’s own use.


When an employer fails to abide by the employer withholding tax requirements and fails to pay employee withholding taxes to the appropriate government agencies, the employer becomes liable for the funds wrongfully taken or misappropriated.  The employer is responsible for payment of these sums and the liability cannot be eliminated by a bankruptcy filing.  It is the trust fund nature of employee withholding taxes that justifies making you repay them notwithstanding a bankruptcy filing.


The employer’s share of withholding taxes, in contrast, can be discharged after waiting a requisite statutory waiting period similar to the 3-year waiting period for discharging income taxes in bankruptcy.  The rule for discharge of an employer’s share of withholding taxes is actually a little more simple.  The employer must simply wait 3 years from the date the tax return was last due under applicable law or any extension.  Once the 3 year period passes, you can file bankruptcy on the employer’s share of employment taxes.