A tax refund is simply money owed to you by the IRS. Therefore, your tax refund is an asset that can be used to pay your creditors unless exempted.
Necessary Living Expenses
The best way to avoid the tax refund problem is to wait to file bankruptcy until after you have received and spent the tax refund on necessary living expenses. If you have received your tax refund you can use it to pay the following:
- mortgage payment, rent, or home repair
- utilities
- food
- clothing
- medical care
- car payments and maintenance, or
- education costs
Do not use your tax refund to pay back family members or friends you owe money. Family members and friends are insiders, and insider payments amount to preferential payments. The Chapter 7 Bankruptcy Trustee will sue insiders to claw back payments made to them within one year of filing the Bankruptcy Case. Insider payments will also affect your Chapter 13 Plan payment.
Therefore, if you are looking to spend your tax refund, do so on immediately necessary items. Also, you’ll want to keep good records of how you used the money.
The best way to document how the tax refund was spent is to deposit it directly into your bank account. Your bank statements will provide a paper trail as to how the tax refund was spent.
Tenancy By The Entirety Protection
Tenancy by the entirety is an interest in property that may be held only between a husband and wife in which each party has a right of survivorship over the property and which neither party can terminate without the consent of the other.
Tenancy by the Entirety Protection may apply to tax refunds. There are four requirements which must be satisfied.
- The tax refund must be for a husband and wife.
- The husband and wife must not have any joint, unsecured debts. One such debt will defeat TBE protection.
- You have to have received the tax refund prior to filing bankruptcy. If you file bankruptcy first, then TBE protection is not available to the tax refund.
- You deposited the tax refund into a TBE checking or savings account. The bank signature card for the account must list husband and wife, tenancy by the entirety. A joint bank account is not a TBE bank account. A joint account with right of survivorship also is not a TBE bank account. Not all banks offer TBE bank accounts. You may have to visit a few banks.
Exempt the Tax Refund
You do not have to wait to file the Bankruptcy case if you have exemptions available to protect the tax refund. Unless exempted, the tax refund must be turned over to the Bankruptcy Trustee.
- Earned Income Credit: The EIC portion of the tax refund is exempt in bankruptcy.
- Wildcard Exemption: The non-EIC portion of the tax refund must be exempted like any other asset. The most likely exemption is the wildcard. The wildcard exemption is capped at $4,000.00. The wildcard exemption will not be available if you use the homestead exemption. In addition, you may need to use the wildcard exemption to protect other property.
- Personal Property Exemption: The non-EIC portion of the tax refund may also be protected using this exemption. The personal property exemption is capped at $1,000.00. Like the wildcard, this exemption may not be available because it had to be used to protect other property.
If you still have questions regarding your tax refund and bankruptcy, don’t hesitate to call. The Law Office of Brent M. Myer, PLLC is here to help you every step of the way.