Will the Bankruptcy Court Take My Tax Refund?

Here’s what you’ll need to do to protect your tax return in bankruptcy.

Updated by , Attorney

A tax refund is a valuable asset, and if you're filing for bankruptcy, you'll likely want to keep as much of it as possible. But so will your creditors—which is why preserving a tax refund in bankruptcy isn't easy. Not only will maximizing your portion take careful planning, but it will also depend on:

For targeted information, check out our quick ten-question bankruptcy quiz—it can spot potential bankruptcy issues fast. Also, make sure you're prepared for what happens after bankruptcy by learning about the downsides of bankruptcy.

Using Exemptions to Protect Tax Refunds in Chapter 7 Bankruptcy

You don't lose everything in Chapter 7, but you might not get to keep everything either. Each state lists the property its residents can protect or "exempt." You lose property you can't exempt in Chapter 7 bankruptcy.

Because most states don't have an exemption for a tax refund, look for a wildcard exemption. A wildcard exemption lets you protect any property of your choice within limits set by the state. If your state exemptions aren't helpful, check whether your state will allow you to use the federal bankruptcy exemptions instead—they have a substantial wildcard exemption.

Also, an earned income credit exemption or a cash exemption might work—although you won't be able to preserve much cash in most states.

How Planning Can Help Protect Tax Refunds in Chapter 7 Bankruptcy

Consider reducing your withholdings before filing your bankruptcy case if you typically receive large tax refunds. The smaller the refund, the less you'll need to exempt.

Another approach is to spend your refund before you file your bankruptcy case. But be sure to keep track of your expenditures and use the funds for necessary expenses, such as:

  • rent or mortgage payments
  • utilities
  • food
  • clothing
  • medical expenses (including glasses and contacts, braces, and dentures)
  • car payments, maintenance, and repairs
  • education expenses, and
  • attorney's fees and costs for your bankruptcy filing.

Also, you'll want to avoid paying a significant amount to a family member, friend, or a particular creditor because the Chapter 7 trustee appointed to oversee your case could try to get the money back. Learn about preference payments and the clawback provision.

Protecting Tax Refunds in Chapter 13 Bankruptcy

In Chapter 13, you're required to pay all of your disposable income to your creditors through a Chapter 13 repayment plan. This could be problematic if you didn't properly plan for a potential income tax return by exempting it when you filed. Why? Because most Chapter 13 trustees treat a tax refund as extra disposable income during your case and expect you to hand it over for creditor payment. Therefore, you'll likely want to adjust your withholding to minimize your refund before filing your bankruptcy case.

It's important to remember that everyone's situation is different. Because another approach might be best for you, a prudent approach is to consult with a knowledgeable bankruptcy lawyer.

Navigating Your Bankruptcy Case

Bankruptcy is an unusual area of law because it's essentially a qualification process. The laws provide instructions for completing a 50- to 60-page bankruptcy petition, and because all rules apply in every case, you can't skip a step.

The forms and resources below will help you find more information. Also, you can use this list of Chapter 7 and 13 bankruptcy forms to see where this topic falls. And this handy bankruptcy document checklist will help you gather the things you'll need to complete the petition.

More Bankruptcy Information

Bankruptcy Forms

You'll find fillable, downloadable bankruptcy forms on the U.S. Courts bankruptcy form webpage.

Related Information

What Should I Know Before Filing for Bankruptcy?

How to File Bankruptcy Without Losing a Car

Can I File for Bankruptcy If I Haven't Filed Taxes

Will Bankruptcy Stop the IRS From Collecting Tax Debts?

Need More Info?

We want to help you find the answers you need. Go to TheBankruptcySite for more easy-to-understand bankruptcy articles, or consider buying a self-help book like The New Bankruptcy by Attorney Cara O'Neill.

We wholeheartedly encourage research and learning, but online articles can't address all bankruptcy issues or the facts of your case. The best way to protect your assets in bankruptcy is by consulting with a local bankruptcy lawyer.

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