What Happens if You Are in Bankruptcy and Win the Lotto?

Declaring bankruptcy means asking a federal court for protection from creditors. You begin the case by filing a petition; bankruptcy ends with a discharge -- cancellation -- of any debts the law allows you to discharge. During the bankruptcy case, you must declare all of your assets, including cash, investments, real estate and property of value, such as antiques and jewelry. While the case is in progress, you also must notify the court of any significant change in your financial condition, including money received from a lottery.

In Chapter 7 bankruptcy, your "estate" consists of all assets that are subject to seizure by the court-appointed trustee, who will sell these assets to repay your creditors. In a Chapter 13, the trustee sets up a repayment schedule, which will allow you to discharge your debts after paying off a portion of them over several years. The law makes an important distinction between pre-petition assets, which you own before filing the bankruptcy petition, and post-petition assets -- anything you acquire while your bankruptcy case is in progress.

Bankruptcy law divides assets into two important categories: exempt and non-exempt. An exempt asset is something that is protected from seizure by the trustee. Lottery winnings are non-exempt assets. You must declare any and all lottery winnings to the bankruptcy court if you receive them, or are legally entitled to them, within 180 days of filing the bankruptcy petition if you file a Chapter 7, or while a repayment plan is still in progress if you file a Chapter 13.

Pre-petition income is factored into the "means test" that determines your eligibility for bankruptcy protection. If you win the lottery prior to filing for bankruptcy protection, the money you receive will be included in the calculation; if you do not meet the means test guidelines, the court will not accept your Chapter 7 petition, or it may require you to file a Chapter 13. The law also requires you to declare any windfall, such as an inheritance or lottery winnings that you receive, within 180 days of filing the bankruptcy petition. The trustee has the right to seize the windfall and use it to repay creditors.

If a debtor already in bankruptcy wins the lottery and does not declare the winnings, the court can determine that the debtor has not acted in good faith and has abused the system. In the bankruptcy statutes under 11 U.S.C. §707, the law allows the court to consider any postpetition income along with the "totality of the circumstances" in determining whether there has been abuse. If the court finds that the debtor has abused the system, the law allows dismissal of the case. After dismissal, your creditors again have the right to collect your debts, and the court can even refer you to a federal prosecutor for a charge of bankruptcy fraud.

Read More: What is a Notice of Dismissal of Bankruptcy?

The bankruptcy law allows an exemption for a limited amount of equity in your homestead, as well as a car, personal belongings, and business equipment. There is also a "wildcard" exemption in federal law that allows you to protect up to $1,150 in any asset, including cash in a bank account, in addition to any unused part of the homestead exemption up to the limit of $10,825 for single filers, or $21,650 for married filers. If you have no home equity, and thus no homestead value to exempt, you can then exempt up to $11,975 in cash if you're single and $23,950 if you're married. Some states require you to use state exemption schedules, which have varying wildcard amounts of their own.

If the trustee or creditors are demanding that your post-petition lottery winnings be placed in the bankruptcy estate, you also have the right to request an exemption on the grounds of undue hardship. If you can show that seizure of the money will make it impossible to provide for yourself and your dependents, the court may rule the winnings as exempt.