December 15, 2019

Should You Pay Back Your Parents or Siblings Before Filing Bankruptcy

Should you pay back your parents, siblings, friends or other relatives before filing bankruptcy?  I get this question frequently as many of the potential clients I see have borrowed money from private sources in an effort to avoid bankruptcy.

My Bankruptcy Law Network collegue Susanne Robicsek answers this question clearly and consisely in a 2007 post on the BLN blog.  Susanne’s advice remains valid – do NOT pay back a personal loan prior to filing bankruptcy without first talking to a bankruptcy lawyer.

There are two potential issues if you pay back mom or dad, or the next door neighbor.  First, there is the problem of “preferences.”   Congress recognized that debtors would be tempted to favor certain creditors in a pre-bankruptcy setting.   The bankruptcy code contains a section that addresses so called “preferential” payments on old debts. A payment to an “insider” – think relative or business partner – is a preference if issued within one year before the bankruptcy filing.  A payment to a non-insider falls within the preference definition if issued within three months.  The only real defense to a preference allegation is the “ordinary course of business” argument, but that is a difficult road, especially in the case of personal loans.

Typically a preference action will be brought by the trustee.  If successful the trustee will be authorized by the bankruptcy judge to compel the recipient of the payment to tender that money to the bankruptcy estate for distribution to creditors.  Needless to say, mom or dad will not be happy to get a letter from your trustee demanding payment of that $5,000 you repaid them 8 months prior to filing.

A second, even more serious issue, can also arise if you pay money to a relative or friend.  Transfers of property prior to bankruptcy that are made to shield your money from creditors may be considered a fraudulent transfer.  This is a much more serious transgression and can result in a denial of your discharge.   The lookback period for a fraudulent transfer per the bankruptcy code is 2 years.

Bottom line: if you think that bankruptcy is even a remote possibility, talk to a bankruptcy lawyer before making any lump sum payments or repayments to anyone.

About Jonathan

Jonathan Ginsberg represents honest, hardworking men and women in the Atlanta area who need personal bankruptcy protection. In practice for over 25 years, Jonathan teaches bankruptcy law and practice at legal continuing education seminars and he is a founding member of the Bankruptcy Law Network. Jonathan lives with his wife and children in Atlanta.

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