The money received in a tax refund is something many Americans look forward to. After all, it isn’t often that your government mails you a check just for doing what you’re supposed to do.
For those facing chapter 7 bankruptcy, though, keeping the money received from their tax refund is not always guaranteed. Typically, the determination on whether you keep your tax refund or not is made based on the timing of both your receipt of that refund and when you file for bankruptcy, but there are a few ways to help ensure that you get to keep your money.
The Inside Story on Chapter 7 Bankruptcy
In general, when you file for chapter 7 bankruptcy, all of your assets become part of what is called a bankruptcy estate. This is controlled by an administrative party known as the trustee. The job of this person is to gather information about your case, hold hearings regarding your case and debts, and help the creditors you are indebted to in collecting on those debts. This may involve the selling of property or other non-exempt assets you own, as well as the seizure of any money you possess.
A tax refund is treated as cash or any other monetary asset when you file for chapter seven bankruptcy. The amount of money you have on hand from this refund will go toward repayment of your bills. Any money you receive after filing for bankruptcy is yours to keep. Unfortunately, tax returns fall into a strange category of their own when it comes to qualifying as preexisting funds or newly-earned money; although you may receive your refund after filing for bankruptcy, the process which rendered the refund may have taken place before the filing, thus making this money eligible for seizure by the trustee of your bankruptcy.
How Can I Keep My Money?
Assuming that no other action is taken in preventing the loss of your refund money, the trustee in charge of your case will handle it based on the timing of your receipt of said funds. Any remaining money from the year prior to your bankruptcy filing will be treated as cash you currently possess and will be used to pay down your debts. Any tax refund amount based on money you earned prior to the filing will be treated the same way.
However, tax refund amount portions that are derived from the money you earned after filing are exempt from being seized by your trustee, as is any tax refund you receive for the following year. When it comes to keeping the maximum amount of the money your government gives you back for paying your taxes after a chapter 7 bankruptcy filing, it really all comes down to timing!
The best way to avoid losing your tax return to your trustee and creditors is to plan ahead. Although it may be difficult to plan your bankruptcy filing far in advance, the longer out you’re able to predict and prepare for things, the better. Three ways to hang onto your money through careful timing and planning include:
- Including your tax return funds as part of your bankruptcy exemptions.
- Spend your refund before you are asked to remit it, using it to cover necessary expenses.
- Adjust your withholding on your tax forms to minimalize the amount you receive as part of your refund.
Let’s take a closer look at each option, and how it affects your finances before, during and after your bankruptcy.
Including Funds in an Exemption
This is typically your worst-case scenario. In any bankruptcy, the debtor can keep a court-determined amount of money or assets, known as exemptions. If your refund is sizeable and you receive it shortly before filing or it is based on money that was earned prior to your filing, you may be able to include it in this exempt amount. The total amount you’ll be allowed to exempt from your eligible assets will generally depend on which state you file your bankruptcy in.
Spending Your Refund on Necessary Expenses
Your bankruptcy trustee cannot seize money that has already been spent. If you have recently received a tax refund and are concerned that is might be seized in your imminent chapter seven case, consider spending it on necessary items and services for yourself and your family. While this isn’t technically keeping the money in your pocket, it is transferring the amount into something you can keep, something that is unlikely to be eligible for seizure during your bankruptcy.
Having an expense deemed necessary may take some convincing of your local court system, but some general-accepted expenses include:
- Payment toward mortgage, rent, home repairs and other basic living expenses
- Utility payments (This may include internet and phone service, depending on your employment and other factors.)
- Food and drink, except for alcohol
- Non-luxury clothing items
- Car payments, maintenance, gas, etc.
- Educational expenses for yourself, spouse or dependent child
Generally, any expense that can be shown to be part of your necessities or those of a dependent family member are accepted. Expenditures for luxury goods, leisure-related travel, repayment to non-creditor entities or repayment of part of your total debt without consent of your trustee are not accepted.
Adjustment of Tax Withholding
To give yourself the best possible advantage in avoiding the loss of your tax return money, it can be beneficial to minimize your return altogether. To do this, you must first know that you will likely be filing for bankruptcy in the coming year. Adjust your withholdings on your tax forms for that upcoming year to minimize the amount withheld from each paycheck. You will receive more pay each period, and your tax return will be much smaller. Often, these adjusted returns can be so small that they are deemed useless as repayment to creditors, forcing your trustee to abandon them and allowing you to keep the total amount.
There is never a guarantee that you will be able to keep your tax return during a chapter 7 bankruptcy but with these tips in mind, you just might stand a fighting chance. Talk to your lawyer or representative today about the best ways to hang on to your refund. It’s your money – keep more of it in your pocket!