Why Can the Trustee Require me to Turn over my Income Tax Refund?
Often we receive inquiries as to why the trustee in a chapter 7 bankruptcy case is requesting a debtor's income tax refund. The client will call and state that they received word that their trustee filed a notice stating he is taking an interest in the debtor's income tax return, meaning he is going to hold the debtor's case open until they receive their tax refund, and then determine if they need to turn over any portion of it. If the trustee determines that there is an unexempt portion of the refund, he will require the debtor(s) to turn over a certain portion of it. The notice the trustee files with the court gives the debtor's creditors notice that he or she is doing this, and it also instructs the debtor's creditors to file proof of claims with the court (which is the creditor providing proof that you owe them money) so that IF the debtors have to turn over money, it will be distributed to those creditors equally.
You are allotted a certain amount of exemptions when you file for bankruptcy. If you have property that exceeds those exemptions, you have to turn that portion over to the trustee who will then distribute it equally among your creditors. Upon filing, all of your property becomes part of the bankruptcy estate, and the trustee has control over the bankruptcy estate. He has the ability to instruct you to turn over unexempt property if he discovers that you have any. When your attorney files your case, they use the numbers that the debtor provides for values of their property. Prior to filing, if all of the property the debtor lists is exempt, there are typically not going to be issues with having to turn over any property. However, if the debtor is expecting to receive a large tax refund, the trustee will sometimes file a notice that he believes there are going to be unexempt assets, such as your refund.
If he determines that you do have to turn over a portion of your refund, you will need to do so to ensure you receive your discharge. If you fail to turn over the requested amount, should he ask for anything, the trustee can revoke your discharge, meaning you would still be liable for all of the debts you listed on your petition and you would no longer be able to file a chapter 7 bankruptcy on any of those debts. So, when you file your taxes and determine how much you will be receiving back, it is important to forward a copy of the returns to your attorney's office immediately. Your attorney will need to forward the copies of the returns to your trustee for review and then will let you know if you need to turn any portion of your refund over. Because there is a chance he will make you turn some of the refund over, it is important that you do not spend any portion of your refund until your attorney has the chance to advise you that it is ok to do so. Even if you spend the refund before the trustee can ask you to turn the refund over, he or she will still make you turn over that amount of money.