If you’re planning to file bankruptcy, or you’re already in the middle of the process, you’re probably extra concerned about the fate of every dollar you come across. Given that tax refunds are often a significant source of additional income for the typical person, you may have the question: what happens to my tax refund in a bankruptcy? In this post, we will address this question, and also address a few other related issues.
Tax Refunds Normally Go to the Bankruptcy Estate
The fate of your tax refund ultimately depends on when you earned the income. If you earned the income for the tax refund in the previous year, or in the same year as the bankruptcy filing, then the tax refund will be transferred over to the bankruptcy estate. This means that you won’t have access to the refund. Suppose you plan to file bankruptcy in the first quarter of 2022, but you anticipate a sizable tax refund from 2021, the refund will go the bankruptcy estate. Or, consider another example: if you plan to file bankruptcy late in 2022, and you expect a substantial tax refund for 2022, and the bankruptcy process extends over into 2023, then the refund will eventually go to the bankruptcy estate. However, importantly, any portion of the tax refund attributable to income earned after the filing won’t go to the bankruptcy estate.
All tax refunds obtained after the year in which you file bankruptcy will go to you. This is something which you need to be aware of.
Plan Ahead for an Upcoming Bankruptcy
Given these realities, you should plan accordingly. If you anticipate a large tax refund based on your current withholding rate, then there are ways that you can plan ahead effectively. One strategy may be to simply adjust your withholding so that you don’t receive any tax refund at all. This will avoid having the refund transferred over to the estate (and into the hands of the bankruptcy trustee).
Another strategy would be to claim an exemption for the tax refund. The State of Florida has its own set of bankruptcy exemptions which are invoked in place of the federal exemptions. You can potentially use the wildcard exemption up to $1,000 for a refund, or even up to $4,000 if you don’t use the homestead exemption.
Yet another possibility is to time the receipt of the tax refund so that the bankruptcy is filed afterwards. In this way, you can receive and spend the funds prior to the bankruptcy, thereby avoiding transfer to the trustee. If you’re going to pursue this route, one thing you should bear in mind is that the funds acquired from your tax refund can alleviate your financial condition. Depending on the size of your tax refund, you might possibly be able to use the funds to pay off or pay down certain debts and perhaps even avoid filing bankruptcy altogether. Of course, avoiding bankruptcy might not be feasible, but this is still an avenue worth considering.
Contact Financial Freedom Advocates for More Information
Hopefully, this sheds some light on the issue of tax refunds in the context of bankruptcy. If you’d like to learn more, contact Financial Freedom Advocates today by calling 786-668-6688
or via our website.