The beginning of the year can be either a good time or a bad time to file bankruptcy. The distinction boils down to tax-related issues, and filing your personal bankruptcy during this time can either be a boon or a bust for your finances. The general rule is: if you owe taxes, file early. If you expect a refund, wait.
Why early in the year is a good time to file bankruptcy
Many Chapter 13 debtors wait until after the first of the year to ensure that the prior year’s tax debt is included in the bankruptcy. While recent tax debts are not dischargeable in either a Chapter 7 or Chapter 13 bankruptcy, paying a tax debt through a Chapter 13 plan can stop accruing interest and spread equal payments over three to five years. These payments are made under the supervision of the bankruptcy court and without fear of garnishment or seizure by the IRS.
Why early in the year is a bad time to file bankruptcy
Filing bankruptcy at the beginning of the year can put an anticipated tax refund at risk. When an individual files bankruptcy, all of her assets become property of her bankruptcy estate. This includes any income tax refund that is not yet received. The debtor is able to use legal exemptions to protect this money, but a Chapter 7 trustee can demand turnover of the non-exempt portion of an expected refund. In a Chapter 13 case, the debtor may have to pay an increased plan payment to account for a non-exempt tax refund.
The solution to managing an at-risk tax refund is to avoid filing bankruptcy until after the tax refund is received and spent. Your bankruptcy attorney can discuss strategies for spending a tax refund without fear of reprisal from a bankruptcy trustee.