As we explained in a previous blog, a tax refund is a refund on income taxes paid to the government when your actual tax liability is less than the amount paid. In a bankruptcy, a tax refund is considered part of the bankruptcy estate because it is an asset. It can be used by the trustee administering the estate to pay back your creditors.
In a Chapter 7 bankruptcy, you may be able to “exempt” or protect your tax refunds. However, in a Chapter 13 bankruptcy, it is much more difficult. In a Chapter 13 bankruptcy, you are required to pay all your disposable income into the Chapter 13 plan to pay back your creditors. Your disposable income is any income not used to pay your monthly reasonable and necessary expenses. This is calculated and determined at the beginning of the bankruptcy filing. Since your initial Chapter 13 plan calculation does not take into account your tax refund, and your tax refund is considered a disposable income, it is to be turned over to the trustee as part of the bankruptcy estate and used to pay back creditors.
There are two possible ways to keep your tax refund in a Chapter 13 bankruptcy. First, you can include language to exempt all your tax refunds when you propose the Chapter 13 plan. However, you must have some compelling reason to make the proposal or the court may deny your plan petition on the basis that if you need your tax return as extra income to survive, then you are unlikely to meet your monthly plan payments.
Second, you can file a motion to modify your plan payments to keep your tax refunds. Again, you must be able to show a compelling reason, such as having an unexpected necessary expense. Some common examples are car repairs, health issues, or pet problems. However, you would need to file such a motion for every year you wish to exempt your tax refunds, and you will need to pay your attorney to draft, file and argue the motion.
It is more difficult to keep your tax refunds in a Chapter 13 bankruptcy, but it is possible.