Published On: April 13, 2019
By Russ Wiles, Arizona Republic, 2/25/19 (reprint)
For many Americans, income tax refunds are the largest single chunk of money they receive all year. Imagine losing most or all of it to a debt collector or in a bankruptcy proceeding.
In most parts of the country, that isn’t something consumers need to worry about, but Arizona is among a dozen or so states that don’t protect key tax-refund components for individuals, especially the earned income tax credit and the child tax credit.
Nor is it just cash-strapped individuals who need to worry, as those credits also can be relinquished for other reasons.
“You can lose (tax credits) as the result of a car accident, a judgment or other reasons — not just bankruptcy,” said Chandler attorney Kenneth Neeley.
Sean and Tyler Rose Haley of Casa Grande learned that after they filed for bankruptcy in 2017, surrendering more than $5,400 to a bankruptcy-court trustee. The tax-refund money was the second most valuable asset they relinquished after their 2013 Chevrolet Equinox.
The Haleys say they got too deep in debt on a vehicle loan and other bills while suffering an income drop when Sean, who works in property management, switched jobs. Losing tax-refund money made it harder for them to establish an emergency fund and otherwise get back on track.
“When (the credits) are taken away and you’re already in a financial bind, it makes it that much more difficult,” Sean Haley said.
Tax-credit money unprotected
The Haleys, who have two young sons, normally receive a tax refund that’s bolstered by the earned income tax credit and the child tax credit.
The EITC, targeted to low- and moderate-income workers, is among the federal government’s largest anti-poverty programs. The child tax credit, worth up to $2,000 for each qualifying child, is available to taxpayers across a broader income spectrum, though it begins to phase out for singles with income above $200,000 and married couples above $400,000.
The value of the EITC varies by income and the number of children in a family. The maximum credit for households with three or more children is $6,431, but even people without children could receive up to $519. To qualify, taxpayers can’t have earned income above $54,884. Potential recipients must file a tax return to claim the credit.
The EITC is claimed on one in five federal tax returns filed by Arizonans, and the child tax credit by one in six. Among Arizonans who file for bankruptcy protection, many are dramatically affected by surrender of the two credits, said Phoenix attorney Diane Drain.
Surrendering key source of funds
The Haleys knew they would lose most of their tax refund but decided to file for bankruptcy anyway so that they could more quickly wipe clean some of their debts.
“It was mainly our car loan that was sinking our ship,” Sean Haley said.
In contrast, Abdi and Belinda Jimale of central Phoenix said they weren’t aware that their tax-refund money was at risk when they filed for bankruptcy protection, following a job loss, an illness that she suffered, a move from another state and other challenges.
“We didn’t know what was protected,” Abdi Jimale said. The couple figures they lost a refund of about $9,000, bolstered by the EITC and child tax credit for three of their five children.
“It’s our nest egg,” Belinda said of the tax refund money the family normally gets. The Jimales said they plan to use future tax-refund money to replace their van, which has about 200,000 miles on it.
Effort to expand exemptions
The loss of refund money for people like the Haleys and the Jimales has motivated some local bankruptcy attorneys to get Arizona’s law changed. They are trying to convince Arizona legislators to protect or exempt the EITC and child-tax credits from being surrendered as part of a bankruptcy or judgment.
Neeley, a member of the executive committee of the Arizona Consumer Bankruptcy Counsel, said he has been in contact with various Arizona lawmakers but was told a change won’t happen during the current legislative session. He remains hopeful the effort will bear fruit in 2020.
Neeley said he thinks protecting or exempting both types of tax credits from seizure in a bankruptcy proceeding, or from a judgment, could enjoy bipartisan support. Both types of credits have enjoyed such support at the federal level. For example, the EITC was enacted under Gerald Ford and expanded under fellow Republicans Ronald Reagan, George H.W. Bush and George W. Bush, as well as Democrat Bill Clinton.
“I’ve sensed a lot of interest from Republican representatives and senators (in Arizona), and Democrats for sure would back it,” he said.
The earned income tax credit is exempt from bankruptcy and judgment surrender in 38 states, while the child tax credit is protected in 35 states. The District of Columbia exempts both.
Bankruptcy timing important
Unless and until Arizona changes the law, the timing of a bankruptcy filing is important. Some debt-strapped families might want to delay filing so that they could collect an upcoming tax refund in full.
“People must often choose between giving away their refund or keep dealing with (wage) garnishment or possibly a foreclosure or car repossession,” said attorney Drain, who also sits on the executive committee of the Arizona Consumer Bankruptcy Counsel.
Financially stressed individuals also might need to keep dealing with harassing phone calls from debt collectors until they file, she added.
Hiring an attorney to navigate the process can help.
Arizonans currently can exempt various types of assets from bankruptcy seizure and loss resulting from a legal judgment, including up to $6,000 of equity in a vehicle, $500 worth of clothing, $1,000 worth of computer equipment and $300 in a bank account.
That’s in addition to a homestead exemption that protects up to $150,000 in housing equity for individuals or families owning a home. That $150,000 exemption in Arizona protects the value of any equity above what you owe on a loan, Neeley explained.
Assets diminished by fees
Ironically, tax refunds and other assets forfeited in a bankruptcy proceeding often don’t go to pay creditors, at least in full, attorneys say. Court-appointed trustees receive 25 percent of the first $5,000 they collect and smaller percentages of assets above that.
Two trustees contacted for this article didn’t respond to requests for comment.
Trustees often hire attorneys in an effort to collect more money for creditors, but sometimes the added expenses merely diminish the value of the assets, without benefiting creditors, according to Neeley.
The combination of fees “can eat up an entire estate,” he said.
About the Author: Diane Drain
Diane is a well respected Arizona bankruptcy and foreclosure attorney. As a retired law professor, she believes in offering everyone, not just her clients, advice about bankruptcy and Arizona foreclosure laws. Diane is also a mentor to hundreds of Arizona attorneys.
*Important Note from Diane: Everything on this web site is offered for educational purposes only and not intended to provide legal advice, nor create an attorney client relationship between you, me, or the author of any article. Information in this web site should not be used as a substitute for competent legal advice from an attorney familiar with your personal circumstances and licensed to practice law in your state. Make sure to check out their reviews.*
“You folks are the BEST OF THE BEST in Arizona.” M.H.
You and Jay are the best attorneys I have ever had or needed and thank God for the Honorable Robert Gottsfield in recommending you folks – I would have never made it through the entire process without you and Jay and God Bless you both always and stay in touch as well. You folks are the BEST OF THE BEST in Arizona.
“My only regret is that I didn’t find Diane sooner.” K.H.
I can’t say enough good things about Diane. The way she handled my not typical circumstances was amazing. I was very nervous to start the bankruptcy process but Diane just has a very comforting way of explaining the whole process. My only regret is that I didn’t find Diane sooner. If you find yourself in a financial situation that you can’t correct on your own, please Call Diane Drain as soon as possible.
“Filing for bankruptcy can be a stressful life event” R.A.
Filing for bankruptcy can be a stressful life event, and selecting the right attorney can add to this stress. Diane and Jay were a pleasure to work with, and it is obvious that they are passionate about helping people get their life back on track. I would highly recommend them if you need a bankruptcy attorney.
Published On: March 6, 2023
PEOPLE MAY WANT TO FILE A TAX RETURN – EVEN IF THEY ARE NOT REQUIRED TO DO SO Posting from the IRS IRS Tax Tip 2023-27, March 2, 2023 [...]
Published On: June 28, 2020
The IRS Won’t Call You About Your Stimulus Money IF YOU GET A CALL FROM SOMEONE SAYING THEY ARE FROM THE IRS – STOP!!!! IT IS A SCAM!!!! [...]
Published On: March 22, 2020
According to the IRS: Tax Day now July 15: Treasury, IRS extend filing deadline and federal tax payments regardless of amount owed. IR-2020-58, March 21, 2020 – The Treasury Department and Internal Revenue Service announced [...]
Published On: January 20, 2020
IRS Ruling for certain discharged debts IR-2020-11, January 15, 2020 WASHINGTON — The Internal Revenue Service and Department of the Treasury issued Revenue Procedure 2020-11 (PDF) that establishes a safe harbor extending relief to additional taxpayers who took [...]
My intention is to put you back in control of your life
Start with $0 down*. We provide affordable payment plans.