If you are waiting to get your income tax refund in hand before filing bankruptcy, you’re definitely not alone. In fact, it may be smart to wait for your tax refund to be in hand before filing bankruptcy.
Once you file bankruptcy, the bankruptcy court trustee has much control over your financial affairs. This means that the trustee can determine which assets of yours can be liquidated or [sold] to repay your creditors – but not without limits.
If you receive your income tax refund after filing but before your bankruptcy case is closed, the bankruptcy court trustee can potentially seize [at least a part] of your refund and apply it to your unpaid debt.
Only the provisions of state and federal “exemptions” can spare your money. State and federal exemptions are essentially the bankruptcy protections a debtor’s assets receive against liquidation.
If you have an open bankruptcy case and your tax refund is pending, the trustee will likely wait for you to obtain your refund. If the amount of your refund is greater than the applicable state or federal exemption for the asset category of your refund, the trustee can confiscate that excess portion of your refund to repay your creditors.
To avoid having to surrender your income tax refund to the bankruptcy court trustee, it’s probably best to simply wait until you have your refund in hand before filing bankruptcy. You should also steer away from signing a retainer or any bankruptcy service agreement until you have your tax refund in hand.
Demonstrating a plan to shield your refund from the trustee while actively planning to file bankruptcy can be construed as “bankruptcy planning” and can result in the dismissal of your bankruptcy case or further scrutiny by the court.
The trustee can examine emails, phone records, social media postings, or any other communication if he/she suspects that a debtor has engaged in bankruptcy planning.
In theory, even in the absence of any wrong-doing, the trustee can still examine your financial affairs even 90 days prior to the date of the bankruptcy filing and in some more extreme cases can seek monies a debtor has transacted for dating back a year.
So if you’re still thinking of filing bankruptcy during the tax season, here’s some small advice.
Determine the exemption amount for “tax refunds” in your state. Although bankruptcy is a federal matter, all states exercise different levels of protection against the liquidation of your assets by the trustee.
Your particular state may allow you to pick from either the state or federal exemptions. In many instances, the state exemptions allow you to keep more of your tax returns than the federal exemptions do.
You can obtain more information about all of the different state and federal bankruptcy exemptions and protecting your tax returns here.
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