Debtors’ Tax Refund Not Out of Reach for Creditors

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By Diane Davis

A bankrupt couple claiming that their 2015 tax refund is exempt under New York law must turn it over to the Chapter 7 trustee, the U.S. Bankruptcy Court for the Eastern District of New York held Jan. 31 ( In re Crutch , 2017 BL 28966, Bankr. E.D.N.Y., No. 15-44523-cec, 1/31/17 ).

Debtors Doris and Benjamin Crutch’s source of income is from a private pension plan and Social Security benefits. That income wasn‘t considered part of their bankruptcy estate under New York law.

But parts of their income withheld as tax lose that exempt status, meaning the Crutch’s tax refund is property of the estate, Judge Carla E. Craig wrote in a case of first impression.

The funds at issue here aren’t “payments from a pension plan or Social Security benefits once they have been collected as a tax, credited against tax liability, and returned to the Debtors as a tax refund,” the court said.

Pension payments and Social Security benefits should be treated as “wages” for tax withholding purposes, the court said, applying the Tenth Circuit’s reasoning in Manchester v. Annis (In re Annis), 232 F.3d 749 (10th Cir. 2000). Periodic payments from a pension plan are “wages” subject to withholding, and Social Security benefits are considered equivalent to payment of “wages,” the court said.

The court rejected the debtors’ argument that the refund was exempt because the tax was derived from exempt income.

Rosen, Kantrow & Killon, PLLC, represented the Chapter 7 trustee; Law Office of Harriette N. Boxer represented the debtors.

To contact the reporter on this story: Diane Davis in Washington at DDavis@bna.com

To contact the editor responsible for this story: Jay Horowitz at JHorowitz@bna.com

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