## Facts

- Adam and Jessica Hurt were Chapter 7 debtors who owed HUD approximately $19,653.38 on a defaulted HUD-related loan originally about $38,463.
- HUD sent the Hurts notice that it intended to collect the debt through Treasury offset against amounts payable to them, including tax refunds.
- The Hurts overpaid their 2016 federal income taxes and became entitled to a $5,267 refund.
- On February 23, 2017, before the bankruptcy filing, the Department of the Treasury applied the full $5,267 refund to the HUD debt.
- The Hurts filed their Chapter 7 petition on March 3, 2017 and claimed the 2016 tax refund as exempt under Virginia law on Schedule C.
- The Hurts filed an adversary proceeding against HUD seeking return of the refund, asserting avoidance and recovery theories under 11 U.S.C. §§ 547(b) and 553(b), and turnover concepts under § 542.
- The debtors and HUD filed cross-motions for summary judgment.

## Issues

1. Whether the prepetition Treasury offset of the debtors’ federal tax refund to satisfy HUD’s claim was avoidable as a preferential transfer under 11 U.S.C. § 547(b).
2. Whether the offset produced a recoverable “improvement in position” for HUD under 11 U.S.C. § 553(b).
3. Whether the debtors’ exemption claim and turnover theory under 11 U.S.C. §§ 522 and 542 required HUD to return the offset refund despite the prepetition setoff.

## Decision

- The court granted HUD’s motion for summary judgment and denied the debtors’ motion.
- The court held the prepetition offset was a setoff governed by § 553 and was not avoidable as a preference under § 547 on these facts.
- The court held HUD did not obtain a recoverable improvement in position under § 553(b).
- The court held the debtors’ exemption and turnover arguments did not defeat HUD’s valid prepetition setoff rights or require return of the funds.

## Legal Principles

- Setoff is primarily governed by 11 U.S.C. § 553; § 553 preserves qualifying nonbankruptcy setoff rights subject to Bankruptcy Code limitations.
- A prepetition setoff generally is not treated as an avoidable preference under § 547 where the Code provides a specific setoff adjustment mechanism through § 553(b).
- Under § 553(b), recovery is limited to the amount by which a creditor’s position is improved during the statutory prepetition period; absent a net improvement as measured by the statute, no recovery is available.
- A debtor’s exemption claim under § 522 does not, by itself, negate a creditor’s valid prepetition setoff rights.
- Turnover under § 542 is not a standalone device to unwind a prepetition setoff that is otherwise valid and not avoidable under §§ 547 or 553.

## Conclusion

The bankruptcy court held that the Treasury’s prepetition offset of the Hurts’ federal tax refund to HUD was a valid setoff protected by § 553, not avoidable as a § 547 preference, and not recoverable under § 553(b) because HUD did not improve its position; the debtors’ exemption and turnover theories did not compel return of the offset funds.


Hurt v. U.S. Dep’t of Hous. & Urb. Dev. (In re Hurt), 579 B.R. 765 (Bankr. W.D. Va. 2017)