Keep Your Tax Refund in Chapter 7 Bankruptcy

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Many clients tell me they have “overpay” their taxes by using a higher withholding amount throughout the year because they like the idea of getting a larger refund at tax time to help pay household bills, get caught up on bills or utilities, or catch up on their rent or mortgage.  However, tax refunds are assets which are considered part of the bankruptcy estate just like your other property and if not properly protected using exemptions, can be taken by the trustee.  However, with a bit of pre-bankruptcy planning you may be able to keep most, if not all of your tax refund.  Here are some strategies to keep in mind.

Use Your “Wildcard” Exemption

Massachusetts does not provide an exemption specifically for tax refunds, however it has a fairly generous “wildcard” exemption.  In bankruptcy, certain kinds of property, up to a specific value is exempted automatically.  So, what is the “wildcard” exemption?  Well, it allows debtors to exempt property  – any type of property – over what the rest of Massachusetts bankruptcy laws allow for. The “wildcard” allowance can be as high as $6,000.  This means that if you have $6,000 remaining of your wildcard exemption & you anticipate a tax refund of $4,000, you can use $4,000 of wildcard exemption and keep your tax refund and apply the remaining $2,000 towards some other personal property you wish to keep. But remember, in order to use the wildcard exemption, you must first disclose that you are expecting a tax refund.

Delay Filing Chapter 7 Bankruptcy

The Chapter 7 bankruptcy trustee can only take that nonexempt property which you are entitled to as of the day you file. If you have already received and spent your tax refund, it is no longer an asset that needs to be disclosed in your bankruptcy.  Remember, however, that if you decide to delay your bankruptcy filing so that you can spend your tax refund you should be able to show that you spent it on necessities such as food, rent, living expenses or attorneys fees to file bankruptcy.  Don’t use it to pay off a credit card or other unsecured debt which you will be able to deal with in bankruptcy. Finally, if you use your refund to buy other personal property which is not a necessity, you will have to disclose them in bankruptcy and risk losing them.

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