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Chapter 7 Bankruptcy and Tax Refunds
Chapter 7 provides individuals, couples, and businesses a relatively straightforward and fast way to eliminate their unsecured debt. When you file Chapter 7, all your assets and property becomes part of the bankruptcy estate. The Chapter 7 trustee could take possession of any property in the bankruptcy estate and sell it to pay your creditors. This is why Chapter 7 is often referred to as “liquidation” bankruptcy.
Your refund is considered part of the bankruptcy estate. Fortunately, California has two sets of exemptions that debtors could use to protect their assets, including their tax refund. Nonetheless, timing is important in determining whether the trustee will have access to your refund.
If you received your refund before you file, it is considered part of the bankruptcy estate. Any portion that is not exempt or has not been used to pay necessary expenses, such as rent, mortgage, or utilities, is available to the trustee. The trustee could also petition the court to return any funds used to purchase luxury items or payback relatives or friends.
When you earned the income your refund is based on is important. If the tax refund is based on income earned within the previous year before filing for bankruptcy, it is included in the bankruptcy estate. Anything portion that is not exempt is available to the trustee. If the refund is based on income earned after the case is filed, it is not part of the bankruptcy estate. Our Sacramento Chapter 7 bankruptcy lawyers will examine your situation to help to determine when it would be advisable to file.
Chapter 13 Bankruptcy and Tax Refunds
People file for Chapter 13 to reorganize their debt. Unlike Chapter 7, a Chapter 13 debtor will be paying all or a portion of their creditors under the terms of a three-to-five-year bankruptcy plan. When preparing your case, our California Chapter 13 bankruptcy lawyers will prepare a plan that complies with the Bankruptcy Code and pays your creditors based on the type of debt, income, and non-exempt assets. When calculating what amount should be paid, all household income not allocated to paying your necessary expenses should go to your creditors. This income includes your tax refund.
Because a Chapter 13 case will last for years, you will likely receive multiple tax returns. Under California law, these returns will typically not fall under any available exemptions. Therefore, any return you receive should be paid into your bankruptcy plan. In most cases where a return is predictable, this additional payment could be factored into the bankruptcy plan. If your refunds greatly fluctuated in the past, the Chapter 13 trustee could request a copy of your yearly tax returns.
How to Keep A Tax Refund in Bankruptcy
Filing for bankruptcy requires careful planning and timing is of vital importance. Our Folsom, CA bankruptcy lawyers are here to see that you receive the greatest possible benefit when you file, including keeping as much of your tax return as legally possible.
When filing Chapter 7, it is important to remember that you could use your refund for necessary expenses. If you are struggling with paying your monthly bills, allocating your refund to applicable expenses might not be that difficult. Otherwise, you could take advantage of the wildcard exemption or time your filing so your refund is not included in the bankruptcy estate.
Chapter 13 bankruptcies present additional challenges. In these cases, you have more than the refund you have received or expect when you file. You will have a potential tax refund every year you are in bankruptcy. Your refund could be incorporated into your plan, possibly resulting in your bankruptcy lasting shorter than it would have otherwise. Another option is to adjust your withholdings to limit your refund. While this might result in more income available every month, you might have more control applying it to allowable expenses.
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