Chapter 7 Bankruptcy: Debtor Beware of Losing Your Tax Refunds!

When filing a chapter 7 bankruptcy, the goal is to allow you to have a "fresh start".  A fresh start means that we, as a society, want you to have a car to get to work.  Keep your tools so that you can continue to work in your trade.  Keep clothes, household goods, and other items so that you are not from starting from scratch.

A "fresh start" is essentially artful terminology that guides you as to whether a you will be allowed to keep possessions in a bankruptcy.  One asset that is the subject of many trustees is the tax refund.  You might be one of those individuals that gets a large tax refund.  Trustees in a chapter 7 cases, the administrators of the bankruptcy case, look for large tax refunds that can take and distribute to your creditors.

In a chapter 7 bankruptcy, there are two tracks of exemptions to protect your assets from being sold to creditors.  One track is the home equity track.  You can protect from $75,000 to $150,000 of equity in your home.  This is a great exemption that protects a lot of money if you have worked hard to build equity in your home.  If this path is taken, you will likely have to surrender your tax refund if you have not spent your tax refund before you file bankruptcy.  This mainly effects debtors from late in a tax year through May of the following year.  Late in a tax year, you have built up a nice savings with your employer that that a trustee will look at with an envious eye.

If you have not built up equity in your home, you can use the approximate $20,000 "wild card" exemption to protect your tax refund.  $20,000 is not nearly the same protection as the home exemption, but it can come in handy to protect to a $8,000 tax refund that I have seen from some debtors.

Photo from Efile989 at Flickr