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Will I Lose My Tax Refund by Filing Chapter 7 Bankruptcy?

February 8, 2010


April 15 is quickly approaching and many Americans are filing their income tax returns. A common question at this time of year is, “Will I lose my income tax refund if I file Chapter 7 bankruptcy?” The short answer is no, at least if you consult with an experienced bankruptcy attorney.

The safest situation is to file your tax return and receive your refund prior to filing bankruptcy. The bankruptcy estate is calculated as of the date that you file your case. If the tax refund money is gone on the date you file your bankruptcy, there is generally no way for the bankruptcy trustee to make a claim against the tax money.

However (it’s funny how bankruptcy law, like life, has many “howevers”), there are exceptions to the general rule. For instance, if you pay an insider creditor on an antecedent debt, the trustee can avoid the transfer. An “insider” is a basically person close to you like a friend, family member, or business associate. If you owe an insider money, and you repay the debt from your tax refund, then the trustee could ask the insider to repay the money to the bankruptcy estate. Paying an insider within a year of filing bankruptcy usually leads to problems.

You may run into a similar problem if you pay down a loan, or pay any creditor a large lump sum within 90 days of filing bankruptcy. You could also run into an equity issue by paying off a vehicle with a large tax refund. These may seem like responsible actions, but the bankruptcy laws are full of landmines. Before spending your tax money it is wise to consult with your bankruptcy attorney to avoid these sticky situations.    

Another issue that occasionally happens is when a bankruptcy debtor files a Chapter 7 case after filing a tax return, but before receiving an expected small refund. “No problem,” says the bankruptcy attorney, until the IRS adjusts the small refund into a large refund. There is “no problem” if the debtor has available exemptions to protect the refund, the debtor simply amends his schedules. But sometimes there is no way to protect all of the refund and the trustee is able to collect. That is an unfortunate situation for someone that really could use the extra money, and a case that can be avoided by waiting until the refund is received and spent.

If you are concerned about keeping your income tax refund, consult with an experienced bankruptcy attorney. Your attorney can advise you on property that is exempt (protected) and non-exempt (not protected) before you file your case and risk losing any property.


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