© 2017 Steven G. Klesner, All Rights Reserved
This article is intended
as general information, and not as advice applicable to any person’s particular situation. As such, you should not rely
upon this information, but upon the advice of your attorney after fully disclosing the facts. It is also applicable only to
bankruptcy cases filed in the State of Iowa.
Wage garnishment is the main way judgment creditors
collect from debtors. In this case, the county sheriff tells your employer to begin withholding from your paycheck, and to
pay those amounts to the sheriff. Here’s what you need to know:
There are limits on the amounts
of the garnishments (these do not apply to state or federal taxes). One limitation is on the amount that can be taken from
each paycheck. Typically, this is 25% of the debtor’s income after taxes are withheld. So, if a debtor’s gross
pay for two weeks is $2,500, and taxes are $500, then the employer will withhold 25% of $2,000, or $500.
second limitation is the amount that can be taken in a calendar year. If a debtor’s annual income is under $16,000,
that amount is $400. For under 24,000, it is $800. For under $35,000, $1,500 can be garnished. $2,000 can be taken from those
earning between $35,000 and $49,999.99, and 10% can be taken from those earning over $50,000. When these limits are reached,
the garnishment must stop until the next year.
For some people, the 25% taken from several paychecks
is a real hardship. But, if they are considering a payment arrangement with a creditor, or if they are thinking of a Chapter
13 bankruptcy and are considering the affordability of the payment, then they should consider what the annual limitation on
garnishment is before deciding on these other alternatives. Garnishment may cost more, or it may cost less, than those other
options. Just remember that these limits are per creditor, so if there are other judgments, those may start garnishing
when another reaches its annual limit.
Debtors may also petition the state court to allow less to
be taken. The court will consider evidence of living expenses (be prepared to show all expenses with billing statements or
other documents), and may decide to allow less than 25%.
A bankruptcy will interrupt a wage garnishment,
and in many cases, debtors will be able to recover some, or all, of the amounts already taken. Many debtors may be unable
to raise money to file the case while they’re being garnished. Talk to your attorney about whether the money recovered
can be used to pay for the bankruptcy. Some may agree (we often do, but you must act quickly, before the garnishment is complete).
2017 Steven G. Klesner, All Rights Reserved
This article is intended as general
information, and not as advice applicable to any person’s particular situation. As such, you should not rely upon this
information, but upon the advice of your attorney after fully disclosing the facts. It is also applicable only to bankruptcy
cases filed in the State of Iowa.
When a person files a chapter 7 bankruptcy case, she must
disclose all property and property rights that exist at that time. One type of property right is the right to receive income
tax refunds from the state and federal governments. People might be owed for past years, but the most common situation is
an upcoming refund for an on-time filing.
Federal tax returns are usually due on April 15, and the
Iowa return on April 30. The bankruptcy courts consider your income tax refund as already “accrued” – meaning
you have a right to the refund – before the year ends. In fact, you are accruing it all during the year as you have
income withheld from your wages for payment of the taxes due the following April 15. At the end of the year, the entire amount
For several months of the year, usually fall through early spring, future tax refunds
are a potential issue. You are allowed to keep, or exempt, a certain amount, but if you exceed that amount, then
you may lose some of your refund to the bankruptcy trustee, who will use it to pay some of your debt and administrative costs.
This can be a very complex subject, and it is one area where your lawyer earns his fee. Your lawyer
can save you hundreds or thousands of dollars with good advice, or lose you a lot with bad advice. It takes experience and
effort to save clients money.
An example will help to understand the issue. Andrew and Abby are
meeting with their attorney on January 31 to file a joint case. Andrew made $40,000 last year, and Abby made $60,000. Both
were employees, and their employers withheld taxes from their income. They had no other source of taxable income. They’ve
received their W-2’s, and have had their joint federal and state returns prepared.
show they will receive $4,000 from the feds and $1,000 from Iowa. Of this amount, $1,000 is shown on the federal return line
for Additional Child Tax Credit (or “ACTC”). The balance of the federal refund ($3,000) is due to over-withholding.
All of the Iowa refund is due to over-withholding.
The first thing to understand is that there usually
are three kinds of property, accrued tax refunds, bank balances, and accrued wages, that share overlapping exemptions. There
are also three kinds of exemptions that can apply (the amounts are for each person filing for bankruptcy, so these
amounts are doubled in the case of Andrew and Abby):
$1,000 “wildcard,” which can be applied to bank balances and many other kinds of property;
2. $1,000 accrued wages and tax
3. 75% of earned wages, which is a limitation on garnishment.
Attorneys ought to apply these allowances to make maximum use of the 75% allowance, since there
is no cap on the allowance, and then apply the accrued wages/tax refunds allowance, and hold the wildcard in reserve because
it can be used for other things.
Let’s assume Andrew and Abby have joint bank accounts, and
expect to have about $1,000 in those accounts on the day they file their case. The only source of deposits for the past few
months has been their paychecks, and their bank statements show those wage deposits. When they file their bankruptcy, they
also expect that Andrew will be owed about $800 in wages by his employer (due to the usual delay in being paid for employment),
and Abby will be owed about $1,200.
The 75% limitation can be applied to the earned wages and, probably,
the bank accounts (lawyers and trustees sometimes disagree on whether it applies to bank accounts, but if the amount is not
large, then it doesn’t get challenged). So, we see that we can protect all but 25% of the bank balance and accrued wages
That means $250 of money in the bank, and $200 for Andrew and $300 for Abby of wages,
or $750 total, needs to be exempted under either the wildcard or accrued wages/tax refunds allowances. Andrew is allowed $1,000
wildcard and $1,000 accrued wages/tax refunds, and so is Abby. Between them, then, there is $4,000 available to cover the
$750. No problem so far.
That leaves $3,250 ($4,000 minus $750) of wildcard and accrued wages/tax
refunds to apply to the income tax refunds. The $1,000 of the federal refund that is due to the ACTC has its own exemption
(as a public assistance benefit under Iowa Code sec. 627.6(8)(a)). The remaining $4,000 of state and federal refunds exceed
the $3,250 available, by $750.
It’s a little more complicated, however. The tax refunds are
not considered by the courts to be equally owned by Andrew and Abby. Andrew’s share of the refunds is equal to his share
of their income for the year. He earned 40% of their income, and so his share of the $4,000 at issue is $1,600. Abby’s
60% is $2,400.
Andrew’s $2,000 in available wildcard and wages/tax refunds is enough to cover
his half of the $250 (or $125) bank funds and his $200 in wages, and still cover his $1,600 share of the tax refunds. But
Abby’s share of the bank funds and her wages eats up $425 ($125 plus $300) of her $2,000 allowance, which leaves her
only $1,575 to cover her $2,400 share of the refunds. She’s over by $825, and, even if Andrew has left-over allowances,
he cannot apply them to Abby’s share of the refunds. Andrew and Abby don’t have a $750 problem; they have an $825
Sound complicated? It is. Because this is a simple scenario. Imagine several bank accounts,
with funds from different sources, other assets in need of the wildcard exemption, and a more lopsided income difference between
spouses, which would be common.
In Andrew and Abby’s case, the $825 that is at risk may not
be enough to tempt a bankruptcy trustee to demand that it be paid over to him (some trustees choose to not pursue anything
under $1,000). But there is risk, and the trustee may not agree that the 75% exemption can be used on bank accounts, putting
$750 more in dispute, and leading to a court fight.
The solution in this case (other than choosing
to take a chance and be willing to turn over the excess amount) is to wait until after the refunds have been received and
spent. This should be done in close consultation with an attorney, to make sure the use of the refunds is appropriate.
Waiting isn’t always an option, however. Maybe a court case, a garnishment, or some other collection
action or other reason exists to file quickly. Perhaps you are considering filing late in the year, and so you don’t
know what your refunds will be. In that case, your trustee may hold your case open until you file your returns, to see how
big those refunds are. The refunds are then prorated based on the date of the filing (if you file on December 1, for example,
then you’ve accrued about 11/12th of the refund).
Sometimes, too, people owe student
loans or other government debt, and their refunds get seized. This is something to talk to a lawyer about. It may call for
filing a bankruptcy right away to try to avoid a tax refund seizure, or it may avoid the whole issue if the agency seizes
The take-away is this is complicated stuff, and you need an attorney who can make maximum
use of the exemptions and save you money. Timing the case filing, and using the exemptions well, are the main tools.
Remember this is all based on Iowa law, which applies to Iowa bankruptcy cases. Do not use this
as a guide for what happens in other states.