Can the Military Off-Set Your Tax Refund While You Are In Bankruptcy?

The Bankruptcy Court in the Eastern District of Tennessee just ruled that if you owe a debt to the Military the creditor can off-set or take your tax refund to apply to the debt, but the creditor should obtain relief from the automatic stay first. In the case of In re Buttrill, 1:15-BK-10891-SDR, the debtors owed Army and Air Force Exchange Services (“AAFES”) $4,405.00.   The creditor was listed in the bankruptcy, however AAFES off set or took directly from the United States Treasury $4,405.00 of the debtor’s tax refund.  After they took the refund, AAFES sought permission to lift the automatic stay retroactively.  The debtors opposed the motion to lift the stay contending that AAFES had not proven it was entitled to an offset and also added that by taking the tax refund before obtaining relief from that automatic stay, AAFES had violated the stay and the Debtors were entitled to damages.

Judge Rucker ruled that while the automatic stay was violated by AAFES there were no damages from the violation. Because the creditor had the right to offset the tax refund, which it could still do while the debtors were in bankruptcy, they would not have received the tax refund and therefore were not damaged by the violation.

What makes this ruling interesting is the determination that a creditor’s right to offset or take a tax refund is stronger than the debtor’s right to the keep or exempt the tax refund, which is the minority view in the country.  The Bankruptcy Court followed In re Borne, 262 B.R. 745 (Bankr. E.D. Tenn 2001) which reasoned that a debtor’s exemption rights with respect to a tax refund should be no greater than if the debtor had not filed the bankruptcy.   If the debtor had not filed bankruptcy, the federal agency could have still off-set the tax refund.  Some Courts such as the Bankruptcy Court in the Western District of Virigina and the Western District of Wisconsin hold that if the debtors exempted the tax refund and no interested party objected to the exemption, then the tax refund is not subject to offset.

If you owe a governmental or quasi-governmental entity such as bank child support, the IRS, the state for over-payment of foods stamps or unemployment,  over-payment of Social Security benefits, the military for exchange services, credit or over-payment of wages or bonus your tax refund may be subject to offset.    The attorneys at Bond & Botes, P.C. can discuss whether these types of debts are discharged in bankruptcy, subject to offset and also ways you can change your withholding to reduce the amount of funds subject to offset.