February 26, 2020

Troublesome Transfers Disrupt Bankruptcy Planning

gift for no considerationOne of the more frustrating parts of bankruptcy practice occurs when I have to tell a prospective client that he cannot file because he recently transferred property out of his name in an attempt to protect that property from creditors.  Most of the time, the transfers are made by someone who owes money to a creditor that he cannot pay and he wants to protect assets from that creditors.

Recently, for example I spoke to a man who has well over $100,000 of equity in his home and over $150,000 in credit card debt.  Recognizing the risk to his house, this gentleman executed a quit claim deed to his wife, transferring all of his interest in the house to her.  Five months after the transfer he called me to say that he was ready to file bankruptcy.  Unfortunately, I had to advise him not to file now because Section 727 of the Bankruptcy Code says that a transfer of property for no purpose other than to frustrate the intent of creditors within a year prior to filing is considered a fraudulent transfer and would prevent such a filer from receiving a discharge.

Another type of troublesome transfer can arise when an elderly parent attempts to transfer assets to an adult child in an effort to qualify for Medicaid.   Usually the problem arises not for the transferor but for the transferee. [Read more…]

Bankruptcy Fraud: Don’t Cross that Line!

bankruptcy fraudNews reports indicate that former baseball star Lenny “Nails” Dykstra has been charged with bankruptcy fraud by a California based United States Attorney.  Dykstra filed for Chapter 7 bankruptcy in 2009, scheduling $31 million in debts and only $50,000 in assets.

In the complaint, prosecutors allege that Dykstra sold or destroyed over $400,000 worth of property.  Among the property that Dykstra allegedly sold – presumably to raise case – were sports memorabilia and furnishings from the home he lost in the bankruptcy.

Obviously most of the Chapter 7 cases filed in the Northern District of Georgia, or in most bankruptcy courts do not involve millions of dollars of debts incurred by a high profile debtor.  However, there is an important lesson that all bankruptcy filers can learn from the charges levied against Mr. Dykstra. [Read more…]

Examples of Bankruptcy Fraud

bankruptcy fraudLast October, I wrote a post on this blog about bankruptcy fraud, and pointed out that everything included in a bankruptcy filing is subject to scrutiny by the office of the United States Trustee, which is an arm of the United States Department of Justice.  In other words, false statements on a bankruptcy petition could land a debtor in hot water – dismissal of the bankruptcy case, fines and even prison.

Because the bankruptcy process can seem informal, it can be easy to forget that a Chapter 7 or Chapter 13 filing is made up of documents filed in a federal district court and subject to investigation by the F.B.I.

Attorney Gini Nelson, a New Mexico bankruptcy lawyer, recently published a post about bankruptcy fraud in the Bankruptcy Law Network blog.  Gini’s post includes a link to the IRS.gov site containing examples of bankruptcy fraud investigations.   I found the IRS.gov link especially interesting in that one can get a sense of the type of fraud that bankruptcy debtors have attempted and the level of fraudulent activity that generated prosecution.  Given the highly interconnected and electronic public record access that is available to bankruptcy trustees as well as government investigators I can’t believe any of these folks believed that they would not be caught.

Failure to Disclose Assets Lands Chapter 7 Debtor in Prison

Because the bankruptcy system operates efficiently and quickly and it serves hundreds of people every day, I sense that many bankruptcy debtors forget that everything they submit to the bankruptcy court is done so under penalty of perjury. I recently ran across an article from a Texas newspaper about a Chapter 7 debtor who ended up in federal prison, convicted of bankruptcy fraud, because he failed to disclose an $84,000 insurance payment, proceeds from the sale of a vehicle and several bank accounts.  This particular debtor used Chapter 7 to discharge over $1 million in liabilities.

I bring this case to your attention for several reasons.  First, you should recognize that Chapter 7 trustees are very conscious of the likelihood that a certain percentage of debtors will fail to disclose assets.  While it may seem that your Chapter 7 trustee is not paying much attention to any particular case, I suspect that trustee training programs provide trustees with profiles of the types of debtors likely to omit important information as well as resources to search for evidence of hidden assets.

In the Texas debtor’s case I wonder how he thought that a vehicle sale would be missed by the trustee, given that vehicle liens are public record, as are vehicle registrations.

These days almost any sale of real estate or motor vehicles will generate a paper trail of tax forms, insurance records and title documents.  Further I have personally seen situations where an unhappy ex-wife or a former friend will draft a “poison pen” letter to the trustee will allegations about improper activities by a bankruptcy debtor. [Read more…]

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. [Read more…]

“No Conversion from 7 to 13” U.S. Supreme Court Tells Debtor Who Hid Assets

The United States Supreme Court does not frequently hear cases involving consumer bankruptcy law.  However, this past February, the Supreme Court considered the case of Robert Marrama, a Chapter 7 debtor in Massachusetts.

Mr. Marrama filed a Chapter 7, but failed to disclose on his schedules that he had put title to a Maine vacation house into a trust. He also failed to disclose an income tax refund.  Interestingly, it appears that Mr. Marrama did reveal the existence of the house, but listed his ownership interest (equity) as zero.

The Chapter 7 trustee checked property records and discovered the transfer (it is unclear to me when this transfer occurred, although the transfer itself does not seem to be an issue here).  The trustee filed a motion to undo the transfer and take title to the house for the purpose of selling it.

Mr. Marrama then moved to convert his case from Chapter 7 to Chapter 13.  The trustee objected and the bankruptcy judge ruled against Mr. Marrama as did several other appeals courts.  The case eventually made its way to the Supreme Court, where Justice John Paul Stevens writing for the majority, stated that while honest debtors were entitled to convert their Chapter 7 cases to Chapter 13, a bankruptcy judge is entitled to take away that right because of “fraudulent conduct.”

The case will be sent back to Massachusetts where Mr. Marrama will no doubt lose all of his non-exempt property.  Chapter 7 cases cannot be dismissed without permission of the court and this is clearly not a case where such permission will be granted.

The point here – it is vital that you reveal all of your assets and debts to your attorney and to the courts.  Over the past few years, the United States trustee and Chapter 7 trustees have become much more vigilant in looking for assets.  Recently one of the attorneys for the United States trustee told me that her office’s goal is to push people out of Chapter 7 and into Chapter 13.  Chapter 7 trustees are being strongly encouraged to look closely for hidden assets.

Thanks to Scott Sagaria of the California Bankruptcy blog for writing about the Marrama case.

Property Give-aways Prior to Bankruptcy – a Dangerous Decision

Whenever I teach a continuing legal education bankruptcy seminar, I always get questions about fraudulent transfers.  Bankruptcy Code Section 544 as well as the Official Code of Georgia make transfers by an insolvent debtor to another person for less than market value a fraudulent transfer.

The Bankruptcy Code gives trustees the right to recover fraudulent transfers and Section 727 of the Code makes a fraudulent transfer grounds to deny a debtor’s discharge.

I think that fraudulent transfer cases can be especially dangerous because the law that has developed around this area often defies common sense.  Often the neither the debtor nor the transferee has any bad intention and, in the 11th Circuit, you cannot "undo" the transfer.  Attorneys not famliar with this area of the law are often surprised at the harsh results that follow.

I recently came across a case out of Ohio that illustrates how unforgiving the fraudulent transfer law can be.  The Ohio case involved a situation where a young man transferred title to a motorcycle to his father.  The young man’s wife did not like having the motorcycle around.  The father never drove the motorcycle nor did he ever insure it.   My guess – although the case does not say this – is that the son periodically drove the motorcycle away from the watchful eye of his wife.

In any case, the father found himself in financial trouble and in need of bankruptcy relief.  Prior to filing the father "gave" the motorcycle back to his son.

When the father filed bankruptcy, the trustee asserted that the transfer was fraudulent and demanded that the motorcycle be turned over to the bankruptcy estate.  The Ohio bankruptcy judge agreed with the trustee and found that the transfer was, indeed fraudulent.

My collegues in the Bankruptcy Law Network have written extensively about fraudulent transfers and I urge you to review their postings.   The point here – if you are considering bankruptcy, think hard about any transfer that you might have made even if you never really considered the property to be yours.  These type of "oh, by the way" matters are the statements that keep bankruptcy lawyers up at night.

An Exemption Trap?

One of the less well known components of the BAPCA bankruptcy law changes has to do with exemptions.  Exemptions, as you may know, refer to those assets that are sheltered from seizure by the trustee.  You can read more about the Georgia exemptions on my Georgia bankruptcy law web site.

For example, in Georgia, you can shelter $5,000 in household goods, as long as no individual item is worth more than $300.  Therefore, for practical purposes, your television, stereo, clothing, clock radio, etc. is not at risk.

One of the most important exemptions has to do with your home.  In Georgia, you can shelter $10,000 of equity in your home ($20,000 of equity if you file jointly with your spouse).  In other States, however, the “homestead exemption” may be much larger.  For example, in Florida, your can declare as exempt 100% of your equity.

Thus, two identical debtors, one who lives in Georgia and one who lives in Florida, could have very different bankruptcy experiences. The Florida debtor could own a $250,000 house free and clear and still qualify for Chapter 7 without risking his house, whereas the Georgia debtor would lose his house to the trustee.

Because of this disparity in exemption rules, Congress changed the Code to provide that a debtor who moves from one State to another must use the first State’s exemption laws for two years.  After he has been a resident of the new State for two years, he must use the new State’s laws.  The purpose of this change was to stop people from moving to States like Florida to shelter their assets in real estate.

Florida attorney Jonathan Alper raises an interesting question in his blog about what happens if an individual moves to Florida, buys a house then encumbers his new homestead with a home equity line of credit in his spouse’s name.  Jonathan has one opinion about the repercussions and I have another, but the point here is that when new rules are created, there are always going to be fact patterns that no one expected and that may result in unexpected or undesirable results.  My sense is that there are going to be a lot of these unknowns in the new law and we are just starting to see some of them work their way up the appellate system.  My colleague Scott Riddle publishes a blog that looks at some of these new developments in the law and I read it regularly to keep up to speed.

Full Disclosure on Bankruptcy Petitions a Must

My colleague attorney Scott Riddle recently posted on his Georgia Bankruptcy Blog an important reminder to both debtors and their counsel about the importance of full and complete disclosure of assets and debts in bankruptcy petitions.

The last paragraph of Scott’s post merits repeating:

The lesson to debtors is, obviously, disclose all of your assets and answer all questions truthfully (truth + fully).  You cannot over-disclose to your lawyer or on the schedules.  For debtors’ counsel, explain the criminal and civil (bankruptcy) penalties for false schedules, and get a signed statement that it has been explained.  It can’t be good marketing when a client is denied a discharge and gets indicted, especially if the client defends by claiming he/she didn’t understand what is supposed to be disclosed.

All of us who represent stressed out and anxious debtors have heard a request that “let’s just keep this between the two of us” and a confession about some hidden asset or loan repayment (in cash) to a relative.  My response, as would be the response of most of my colleagues in the consumer bankruptcy bar, is to the effect that (1) I am an officer of the Court and I will not participate in a scheme to mislead the bankruptcy court and (2) I am not going to put my livelihood in jeopardy for any client, ever.

In the case discussed in Scott’s blog entry, the omitted assets would not have created a problem for the debtor, but the judge or trustee in that case sent the file to the U.S. Attorney for criminal prosecution for Bankruptcy Fraud.  Because the debtor intended harm, he committed a crime – and ended up serving time in federal prison.

So, if you are considering bankruptcy, keep in mind this requirement of total and complete disclosure of all information, good, bad or indifferent.

What is the difference between a preference and a fraudulent transfer?

I see a possible trap for the unwary in one of the October 17, 2005 changes to the Bankruptcy Code. I do not have a firm answer to this and I welcome any suggestions or thoughts.

Bankruptcy Code Section 547 empowers the trustee to avoid a transfer (preference) between the debtor and an insider on account of an antecedant (pre-existing) debt if the payment was for a debt incurred within one year of the bankruptcy filing.

Bankruptcy Code Section 548 empowers the trustee to avoid a “fraudulent” transfer to any party within two (2) years of the bankruptcy filing – fraudulent being defined in the Code Section as essentially a transfer made with actual intent to hinder a creditor or for less than full value and made when the debtor was insolvent. Prior to October 17, the lookback period in this section was one year, not two years.

Finally, Bankruptcy Code Section 727 authorizes the Court to deny a discharge to a debtor who, with the intent of defrauding creditors or the estate, has transferred property within one year of filing.

I have a case where my potential client had borrowed assets from an insider to use as security for a bank loan. He never took out the bank loan and therefore never made use of the loan of the assets. When it became obvious that he would not need the bank loan, he then transferred that property back to the insider a year and two months ago.

The insider had requested the return of the assets once it became clear that my client would not need them. The transfer was made when the debtor was insolvent.

Does it make a difference that the debtor’s transfer was in the form of a debt repayment (vs. an outright transfer)? Is there a different standard of review if a “preferential” transfer is outside the preference period but within the fraudulent transfer period? Would this return of assets be considered “ordinary course of business.” Should I list it on Question 10 of the Statement of Financial Affairs?


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