Can I Keep My Anticipated Tax Refund If I File Chapter 13?

Your Chapter 13 bankruptcy is an opportunity to pay creditors over three to five years. Your monthly payments are largely determined by whatever you can afford to pay, but there are other rules. One of these rules directs that you must pay unsecured creditors an amount equal to what they would receive in a Chapter 7 liquidation bankruptcy. This can be a sticking point when it comes to an anticipated tax refund in a Chapter 13 case.

When you file bankruptcy, any income tax refund you are entitled to, but have not yet received, is property of the bankruptcy estate. While you can keep any amount of your tax refund that is protected by legal exemptions, any non-exempt amount must be either paid over the Chapter 13 trustee for distribution to creditors, or your monthly plan payments are increased to account for the non-exempt tax refund. Consequently, proper application of exemptions is very important. In some cases, your tax refund may be entirely protected by legal exemptions, especially when the refund is small.

If you are unable to exempt money from your anticipated tax refund, the traditional advice is to delay filing until your refund is received and spent. The most important part of this strategy is to file your bankruptcy case after the money is gone. Speak with your attorney about the do’s and don’ts of spending a tax refund.

One situation sometimes overlooked by pro se debtors and inexperienced attorneys is the “accrued” tax refund. A debtor’s entitlement to a tax refund accrues during the tax year, even though it may not be owed or payable to the debtor until after the bankruptcy case is filed.  For instance, if the debtor files bankruptcy on October 1, three-fourths of the debtor’s full refund has (arguably) accrued. If the total refund is $4,000, then $3000 is a pre-filing asset. The debtor must account for this $3,000 and either claim it as exempt, or non-exempt (and therefore available for distribution to creditors). A partial year tax return may be beneficial in this type of situation.

Debtors lose anticipated income tax refunds regularly through poor pre-bankruptcy planning and carelessness.  This unfortunate situation can be easily rectified by working closely with a your attorney and your CPA. If you are considering a bankruptcy filing and expect an income tax refund, discuss your situation with an experienced bankruptcy attorney.