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Tax Refunds in Chapter 13 Bankruptcy Cases

Posted on Friday (January 29, 2010) at 7:30 am to Bankruptcy Means Test
Chapter 13 Bankruptcy
Tax and Bankruptcy Issues

 Tax refunds in Chapter 13 bankruptcy cases
Written by Craig D. Robins, Esq.
This post is part of a series of articles that I’ve written this week addressing every aspect you will need to know about filing bankruptcy, protecting tax refunds, and related issues.  Links to all posts in this series are at the bottom of the page.
Tax Refunds in Chapter 13 Bankruptcy Cases Filed in New York
Generally, if you file for Chapter 13 bankruptcy in New York, you will be able to keep your tax refund if your Chapter 13 plan provides for a 100% payment to all creditors.  If it does not, then you will have to remit any tax refund to the Chapter 13 trustee, who will include it in the distribution to creditors.
If you have a Chapter 13 plan that provides for a payment of less than 100% to unsecured creditors, then you will also have to remit all future tax refunds to the trustee for the period of the plan, which would probably be five years.  Here’s why:
A debtor in a Chapter 13 case is required to pay all projected disposable income into the Chapter 13 plan.    Tax refunds are considered additional income that the debtor has over-withheld.  Thus, when this income comes in, it has to be paid into the Chapter 13 plan.
In those Chapter 13 cases where you have to submit your tax refund to the Chapter 13 trustee, there will be clear and explicit language in the Chapter 13 plan about this, which will also indicate that you are responsible for sending a copy of your tax return to the trustee at the same time that you file it.
TIP:  The higher the number of exemptions that you provide to your employer on an IRS W-9 tax form, the less the witholding will be, and the smaller the tax refund.  In sub-100% Chapter 13 plans, you will want to have as small a refund as possible, because any refund that you do end up receiving just goes to your creditors, and does not benefit you in any way.
Effect of Receiving Tax Refund Before Filing Bankruptcy:  Possible Whammy on the Means Test
Yesterday I wrote about How a Tax Refund Can Mess Up Your Bankruptcy Means Test .  Well, the same means test that is used in Chapter 7 cases to determine eligibility to file for Chapter 7 relief, is also used in Chapter 13 cases to determine the minimum amount that you have to pay into the Chapter 13 payment plan.
If you file a Chapter 13 petition in the six-month period after receiving a tax refund, then you must include the tax refund in the means test as income.  This is because all income received during the six-month means test period must be listed, and income tax refunds constitute income for this purpsoe.
Even though the income tax refund can be pro-rated to reflect receiving it over a twelve-month period, it will nevertheless increase the amount you will have to pay in the means test.  However, if you file your bankruptcy petition more than six full calendar months after receiving the tax refund, you do not have to include the tax refund, based on a strict interpretation of the law. 
This means that most people who file for Chapter 13 during the second half of the year who have plans that pay less than 100% can expect to pay less into their Chapter 13 plans each month.  This is not exactly a logical result, but it’s the result of a very poorly and ambiguously worded means test statute.
Quick Links to All Tax Week Blog Posts About Tax Refunds and Bankruptcy:
Informative Article About Eliminating Taxes in Bankruptcy:
Article About Tax Consequences and Bankruptcy:
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