Chapter 7 and Tax Refunds !!!

[seFlaDude]

I found this article on a Chapter 7 debtor and how he protected his tax refund according to a ruling from the 10th Circuit Court of Appeals.

http://www.bankruptcyorlando.com/201...y-trustee.html

[despritfreya]

This Florida Attorney, through his own “blog” asserts, “If you plan to file Chapter 7 bankruptcy before you file your 2010 tax return, and you are entitled to a significant refund, you should tell the IRS not to send the refund and apply the amount to your future taxes. The trustee will not be pleased, but there is legal authority to back up your position. Graves No. 08-1462 10th Cir."

Not so fast. . . This is why I intensely dislike it when bk practitioners, in an effort to advertise, mislead the consumers by only telling half the story.

First, there is a split in the various Circuits as to whether or not a Trustee can get to the refund if applied to a future tax liability. My Circuit, states they can and is cited in the Graves case.

Second, even the 10th Circuit case cited by the web site you linked DOES NOT absolutely state the refund is protected. What it does state is that if you are entitled to a refund for the following year, to the extent that such is attributable to pre petition wages after application of the pre petition refund, the Trustee gets it. The following is quoted from the case cited:

WEINMAN V. GRAVES (10th Cir., 2010)

In agreeing with the bankruptcy court that debtors could not be ordered to turn over that which they did not have, i.e., "the amount they could have received from the IRS in 2007, but did not the BAP assumed, without deciding, that debtors' "pre-payment constitutes estate property as a contingent reversionary interest." The BAP further concluded, however, that the Bankruptcy Code's turnover provision, does not empower a trustee to demand turnover from a debtor under these circumstances. In doing so the BAP noted that, because of 26 U.S.C. § 6513(d), debtors "had no current right to possession of the pre-paid taxes" at the time they filed their petition or at the time the trustee filed the turnover action. Since the debtors' interest in the overpayment was limited at the time of the petition, the trustee's right to possession was similarly limited. The BAP concluded that "[a] contingent right to a refund in the event that the Debtors overpaid their 2007 taxes is not something, in our opinion, that is subject to turnover."

One of the central precepts of bankruptcy law is that a bankruptcy trustee succeeds only to the title and rights in property that the debtor had at the time she filed the bankruptcy petition. Filing a bankruptcy petition does not expand or change a debtor's interest in an asset; it merely changes the party who holds that interest. Further, a trustee takes the property subject to the same restrictions that existed at the commencement of the case. To the extent an interest is limited in the hands of a debtor, it is equally limited as property of the estate. Applying this principle, it is clear that the trustee's interest in the application of the tax refund must be limited to the same extent as the debtors' interest here by the strictures of 26 U.S.C. § 6513(d), which makes debtors' refund-application election irrevocable. Debtors will have no right to any cash from the $3000 refund applied as a prepayment of their 2007 taxes until after their 2007 tax liability is determined, and then only if they are entitled to a further refund. The portion of that further refund attributable to pre-petition earnings would become property of the estate. Thus, we hold that the estate's interest in the pre-payment is limited to debtors' contingent reversionary interest in the pre-payment attributable to pre-petition earnings.

Because, at no time during the case up to the filing of the turnover action, did debtors have the right to obtain their refund or prepayment from the IRS, the trustee could not compel turnover of that amount, and the bankruptcy court correctly denied the turnover motion. Things may be different now, however, because it is likely that debtors' 2007 tax liability has been determined. If debtors were entitled to a refund after their 2007 tax liability was satisfied, the trustee is entitled to demand turnover of any amount of such refund attributable to pre-petition earnings.

We are aware that, to a large extent, this holding conflicts with the Ninth Circuit's decision in Nichols. There, in a case factually indistinguishable from this one, the Ninth Circuit held that the entire refund amount was property of the estate and implicitly subject to turnover from the debtors. In doing so, however, the court focused entirely on whether the refund was property of the estate and neither discussed turnover nor analyzed the case in light of the language of § 542(a).

In summary, we hold that the pre-petition portion of the refund is property of the estate. We go further, however, to hold that only the part of the refund that (1) is attributable to pre-petition earnings and (2) reverted to debtors after application of the refund to their ultimate (2007) tax liability, is subject to turnover.

____________________________________________

Bottom line. . . do your own research before you jump to conclusions.

Des.

[tobee43]

This Florida Attorney, through his own “blog” asserts, “If you plan to file Chapter 7 bankruptcy before you file your 2010 tax return, and you are entitled to a significant refund, you should tell the IRS not to send the refund and apply the amount to your future taxes. The trustee will not be pleased, but there is legal authority to back up your position. Graves No. 08-1462 10th Cir."

Not so fast. . . This is why I intensely dislike it when bk practitioners, in an effort to advertise, mislead the consumers by only telling half the story.

First, there is a split in the various Circuits as to whether or not a Trustee can get to the refund if applied to a future tax liability. My Circuit, states they can and is cited in the Graves case.

Second, even the 10th Circuit case cited by the web site you linked DOES NOT absolutely state the refund is protected. What it does state is that if you are entitled to a refund for the following year, to the extent that such is attributable to pre petition wages after application of the pre petition refund, the Trustee gets it. The following is quoted from the case cited:

WEINMAN V. GRAVES (10th Cir., 2010)

In agreeing with the bankruptcy court that debtors could not be ordered to turn over that which they did not have, i.e., "the amount they could have received from the IRS in 2007, but did not the BAP assumed, without deciding, that debtors' "pre-payment constitutes estate property as a contingent reversionary interest." The BAP further concluded, however, that the Bankruptcy Code's turnover provision, does not empower a trustee to demand turnover from a debtor under these circumstances. In doing so the BAP noted that, because of 26 U.S.C. § 6513(d), debtors "had no current right to possession of the pre-paid taxes" at the time they filed their petition or at the time the trustee filed the turnover action. Since the debtors' interest in the overpayment was limited at the time of the petition, the trustee's right to possession was similarly limited. The BAP concluded that "[a] contingent right to a refund in the event that the Debtors overpaid their 2007 taxes is not something, in our opinion, that is subject to turnover."

One of the central precepts of bankruptcy law is that a bankruptcy trustee succeeds only to the title and rights in property that the debtor had at the time she filed the bankruptcy petition. Filing a bankruptcy petition does not expand or change a debtor's interest in an asset; it merely changes the party who holds that interest. Further, a trustee takes the property subject to the same restrictions that existed at the commencement of the case. To the extent an interest is limited in the hands of a debtor, it is equally limited as property of the estate. Applying this principle, it is clear that the trustee's interest in the application of the tax refund must be limited to the same extent as the debtors' interest here by the strictures of 26 U.S.C. § 6513(d), which makes debtors' refund-application election irrevocable. Debtors will have no right to any cash from the $3000 refund applied as a prepayment of their 2007 taxes until after their 2007 tax liability is determined, and then only if they are entitled to a further refund. The portion of that further refund attributable to pre-petition earnings would become property of the estate. Thus, we hold that the estate's interest in the pre-payment is limited to debtors' contingent reversionary interest in the pre-payment attributable to pre-petition earnings.

Because, at no time during the case up to the filing of the turnover action, did debtors have the right to obtain their refund or prepayment from the IRS, the trustee could not compel turnover of that amount, and the bankruptcy court correctly denied the turnover motion. Things may be different now, however, because it is likely that debtors' 2007 tax liability has been determined. If debtors were entitled to a refund after their 2007 tax liability was satisfied, the trustee is entitled to demand turnover of any amount of such refund attributable to pre-petition earnings.

We are aware that, to a large extent, this holding conflicts with the Ninth Circuit's decision in Nichols. There, in a case factually indistinguishable from this one, the Ninth Circuit held that the entire refund amount was property of the estate and implicitly subject to turnover from the debtors. In doing so, however, the court focused entirely on whether the refund was property of the estate and neither discussed turnover nor analyzed the case in light of the language of § 542(a).

In summary, we hold that the pre-petition portion of the refund is property of the estate. We go further, however, to hold that only the part of the refund that (1) is attributable to pre-petition earnings and (2) reverted to debtors after application of the refund to their ultimate (2007) tax liability, is subject to turnover.

____________________________________________

Bottom line. . . do your own research before you jump to conclusions.

Des.

des...thanks for this information. i think many are wondering around this time of year.

we filed in april and had no issue with the florida courts....we were advised get rid of the return asap.....and THEN we filed. we were never questioned, however, our refund had nothing to do at all with the issue on whether the Trustee could or would get to the refund if applied to a future tax liability....since it was already done.

this year, we have nothing to worry about...since we will most likely owe.

thanks again for the great info!