Monday, February 7, 2011

What happens to your income tax refund if you file bankruptcy?

      This time of year, a common question heard by bankruptcy attorneys is whether people who have filed bankruptcy or are planning on filing bankruptcy will be able to keep their income tax refund.  Since I am a bankruptcy attorney practicing in the Southern District of Indiana, Indianapolis Division, I will only address how income tax refunds are treated in the Southern District of Indiana.  As always, this information is no substitute for the advice of a qualified bankruptcy attorney, but I will do my best to address this question for the readers of Indiana Bankruptcy Blog.

     So the answer depends where you are at in the bankruptcy process, whether any of your income tax refund is attributable to the earned income credit and whether you have filed a Chapter 7 or Chapter 13 Bankruptcy Petition.

Prior to filing of Chapter 7 Bankruptcy Petition

      If you have not yet filed your Chapter 7 bankruptcy petition, you are not yet subject to a claim from the bankruptcy trustee.  In the event you are entitled to an income tax refund, it is typically best to wait for your income tax refund to come in prior to the filing of your bankruptcy petition.  That being said, in Indiana the exemption for cash, whether it be in the bank, in cash or under the mattress is $350.00 for an individual or $700.00 for joint bankruptcy filers.  This means that if you receive a $2,000.00 income tax refund and then file bankruptcy prior to spending this money that the trustee could claim all but your $350.00 or $700.00 exemption.  I have found that most folks preparing to file for bankruptcy have many things they could do with that money that they have been putting off for a long time.  For example, I have had clients obtain car repairs, buy a new mattress, buy some new work clothes, pay for prescription drugs, or catch up their car or mortgage payments with this money.  It is permissible to spend the money on living expenses prior to filing bankruptcy.  Some people also spend their income tax refunds on bankruptcy attorney fees, which are typically a flat fee.  Since there is a fine line between what may and may not be deemed a permissible expense to a bankruptcy trustee, I typically ask clients to let me know what they would like to spend their income tax refund on so that I can let them know whether or not I believe it is a good idea.  Examples of things that I have advised clients not to spend income tax refunds on include a vacation, a big screen television, or paying off debts that will be discharged in their bankruptcy.

After the filing of your Chapter 7 Bankruptcy Petition

         If you have filed your bankruptcy petition prior to the receipt of your income tax refund the trustee may have a claim to at least a portion of your income tax refund.  How much of a claim the trustee has to your income tax refund depends on when your bankruptcy petition was filed.  The trustee's claim to your  income tax refund is pro-rated through the tax year of the bankruptcy filing.  For example, if you filed a bankruptcy on June 30, 2010, which is half way through the year, the trustee could claim 50% of your 2010 income tax refund received in 2011.  If your bankruptcy petition was filed in January, 2011, prior to the receipt of your income tax refund, the trustee may claim 100% of the 2010 refund because you filed your case after the year had ended.

 Earned Income Credit Exception

      It should also be noted that if a portion of your income tax refund is attributable to the earned income credit that the trustee cannot claim that portion of your refund.  Many people also believe that the child tax credit is exempt from the trustee's claim, but this is not correct.  The only portion of your income tax refund not subject to the bankruptcy trustee's claim is the earned income credit.

Chapter 13 and your Income Tax Refund

      Whether or not your income tax refund needs to be turned over to the Chapter 13 bankruptcy trustee depends on your Chapter 13 repayment plan.  There are some Chapter 13 bankruptcy debtors who have to turn over 50% of any income tax refund received during the life of their Chapter 13 Plan.  Others do not have to turn over any part of the refund.  It simply depends on the facts of each debtor's case, what debts they owe, and how much they are paying to their unsecured creditors.  If you have already filed a Chapter 13 bankruptcy check with your attorney to see if you need to turn over funds.

A Word of Caution

     Do not forget to turn over your income tax refund to the trustee if he or she is entitled to it in your case.  Many debtors are tempted to spend the funds when they receive them and don't think the trustee will do anything if they don't receive the money.  Other debtors have already received their discharge by the time that they receive their income tax refund and don't believe they should turn the money over to the trustee.  If you have filed a bankruptcy and are not sure what portion, if any, you are required to turn over to the bankruptcy trustee contact your lawyer to double check.  If you fail to turn over an income tax refund ordered to be turned over by the court a Chapter 7 Trustee can ask for the Court to revoke your discharge.  A Chapter 13 Trustee could can ask that your case be dismissed.  Further, the trustees will take these measures, as they have a duty to recover these funds for your creditors.

      If you believe you need to file a bankruptcy and live in Carmel, Indianapolis, Noblesville, Tipton, Fishers, Zionsville or Kokomo, Indiana, please do not hesitate to contact me for your free initial consultation.  I can be reached at erika@halcombsingler.comm, 317-575-8222 or via the contact section of Halcomb Singler's website.  Please post any questions to this blog, as I review it often and if you want to hear more about Indiana Bankruptcy please "follow" my blog by clicking on the follow button on the top of the page.

Halcomb Singler, LLP, is a debt relief agency.  It helps people file for bankruptcy under the bankruptcy code.  No attorney-client relationship with the firm of Halcomb Singler, LLP, is created through this blog. Also, please note that Erika Singler is an attorney licensed in Indiana and does not seek to practice law in any jurisdiction in which they are not properly authorized to do so.  The information contained in this blog is general in nature and should not be relied upon for the circumstances of any individual(s) or businesses.


  1. what about a joint imcome tax refund when filling alone (the person filing is married not filling jointly) but the taxes are jointly based.

    I am in Indiana

  2. Thank you, I was wonder what consequences would follow if I hired a chapter 7 bankruptcy lawyer near Centennial, Co. Now I am fully informed and ready to make the next step in my life.

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