It’s tax time and not only does Uncle Sam want to be paid, creditors do as well. Tax refunds are assets of estates and large refunds are easy targets for the bankruptcy trustee who represents the creditors. With careful counsel, a debtor’s refund can be protected in a variety of ways in both Chapter 7 and Chapter 13 cases.
Chapter 7 Tips
If possible, file after receiving and spending a tax refund. It is important to note that the money should be used for necessities — a mortgage, medical expenses, clothing and food — and not to purchase new assets. This will look good in court and assets will be depleted. If filing later in the year, a debtor should consider withholding to a lower amount from a paycheck so there is little or no tax refund. Lastly, by deferring more of a debtor’s salary into an employer IRA or 401k, money is protected.
Chapter 13 Tips
Unless counsel is careful, a Chapter 13 trustee could swoop down and seize the refund to pay creditors. The refund will be held for the duration of the bankruptcy plan which is up to five years and it will not be used to pay off debt. Instead, it is considered disposable income which means creditors are allowed an additional percentage of repayment. Again, adjusting a debtor’s employment tax withholding is a sound strategy. The less of a refund, the less a trustee can take.
For more information on taxes and bankruptcy, please refer your clients to Patricia Mayer.