A change in Oregon property exemption law since last tax season now protects most people’s tax refunds. But it still has to be done right.
Why Does Oregon Law Matter in A Federal Bankruptcy?
Federal bankruptcy law gives each state the right either to require people filing bankruptcy within the state to use the state’s property exemption laws or to give them a choice between that state’s exemption laws or the federal exemption laws provided in the Bankruptcy Code.
What Changed in Oregon Law?
For decades Oregon law required bankruptcy filers to use Oregon’s set of property exemptions. Then as of July 2013 the law was changed to allow a choice between Oregon’s exemptions or the federal ones. (You still have to choose one or the other set—you can’t pick and choose among individual exemptions.) Since the Oregon exemptions are very limited in protecting tax refunds while the federal exemptions are much more generous, having the option now enables more people to protect all of their tax refunds by using the federal exemptions.
Neither the federal nor Oregon exemptions have a specific exemption designated just for tax refunds. But both have “wildcard” exemptions which can be used for virtually any type of property, and in both systems are the only exemptions available for pending tax refunds. The Oregon’s wildcard exemption is only $400 (or $800 in a jointly filed case by two spouses), while the federal wildcard amount is $1,225 (or $2,450 in a jointly filed case), more than three times larger.
In addition the federal exemption—but not the Oregon one—allows any unused homestead exemption to be added to these wildcard amounts, greatly increasing the potential exemption for tax refunds. The federal homestead exemption is currently $22,975 ($45,950 in a jointly filed case). So in a case where the homestead exemption is not used at all (because the debtor doesn’t own a home or owns one but it has no equity, and the exemption is not needed for any leasehold interest), he or she can exempt up to $24,200 ($1,225 + $22,975) in tax refunds (or $48,400 ($2,450 + $45,950) in a jointly filed case).
The ability to protect a tax refund a year ago only to the extent of $400 per person compared to up to $24,200 now is a monumental difference.
But Why Are Tax Refunds Even Potentially at Risk in Bankruptcy?
As of the moment your Chapter 7 bankruptcy is filed, everything you own legally becomes part of your “bankruptcy estate.” That includes not only obvious things like your vehicle and household furnishings and such, but also less tangible assets like money that you are legally entitled to you that you simply haven’t received yet. That includes tax refunds to which you are entitled to at the time your Chapter 7 case is filed.
So whether a tax refund is part of your “bankruptcy estate” is a matter of timing. If your case is filed on or after January 1, you are considered to be legally owed the prior year’s entire tax refund(s). And that’s true regardless whether you have prepared that year’s tax return, know what the amount of refund(s) will be, or whether you are even owed a refund. The Chapter 7 trustee may require you to surrender those refunds to him or her when they arrive.
When Are Tax Refunds No Longer in Your “Bankruptcy Estate”?
If you receive and appropriately spend any refunds before your case is filed, then of course the refunds are no longer owed to you, and so they are no longer part of your “bankruptcy estate” and are not accessible to the trustee.
Notice we said “appropriately spend” because the bankruptcy system can get very nosy about what you do in the months BEFORE filing your case, especially about assets you sell or transfer or money that you spend. So it is very important to see a bankruptcy attorney as soon as possible, BEFORE spending your tax refunds.
What if You Can’t Wait?
You may not have to wait to file bankruptcy until the tax refunds arrive and are spent if they are protected by an exemption.
But this is much more complicated than it may seem, even from reading this blog post until here. Yes, with the availability of the federal exemptions, and particularly the much larger wildcard exemption, it’s much more likely that any tax refunds would be exempt. But depending on your other assets, the federal exemptions may not be the best for your overall. And the federal wildcard exemption may be more limited than you think if you unexpectedly need to use your homestead exemption (which you may, even if you rent your home). To balance all this, along with the advantages and disadvantages of waiting to file your bankruptcy case, you honestly need the knowledge and advice of a conscientious bankruptcy attorney.