Tax season can collide with post-holiday bankruptcies in some unusual ways. If you intend to file a Chapter 7 or Chapter 13 bankruptcy soon, it's important to understand what you can and can't do with any tax refund that you receive.
-- Keep in mind that trustees would much rather take cash from you than they would assets that have to be sold and turned into cash before being used to pay off any creditors. That means that your refund is going to be of interest to the trustee, whether it's small or large.
-- If you haven't already received your tax return when you file your bankruptcy, it belongs to your bankruptcy estate. It's part of your assets and has to be turned over to the trustee. Whether you can keep any of it or not depends on the size of the return, any exemptions you have available and the decision of the trustee.
If you haven't filed for your tax refund yet, you give up the right to do so once you file bankruptcy. The trustee will file your taxes on your behalf and any refund money will go into your bankruptcy estate.
-- If you file your taxes and get your return prior to filing your bankruptcy, you need to be careful how you spend it. Talk to your bankruptcy attorney before you make any plans, but delaying filing is often a prudent choice if you have a large return coming. You may be able to use that return to put money on ordinary and necessary expenses.
For example, you might be able to use your tax return to pay for major dental work that you've been putting off because you couldn't afford it. Or, you might be able to pour it into car repairs so that you know that the car you're going to keep after the bankruptcy is over is going to stay running. This is not, however, the time to indulge in a family vacation or buy a few luxuries.
Talk to your bankruptcy in advance about the way to handle your tax return. Your unique situation will dictate whether it's best to file bankruptcy now or wait until your refund is back.
Source: Intuit Turbotax, "Filing Taxes After Filing For Bankruptcy," accessed Feb. 10, 2017