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What Everyone Knows About Bankruptcy: Not

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Lots of people profess to know all about bankruptcy. Whether they have good information or not.

But other professionals should know better than to advise people about the workings of bankruptcy.

And if they don’t know better, they should be made to pay, in some exquisitely painful way, for the harm they inflict.

The rack seems good to me.

The accountant was wrong

The terrified client in my office was told by her accountant that if she filed Chapter 13 to save her home, the court would not allow her to buy prescription dog food for an ailing 16 year old pet!

Further, the accountant went on to declare that in Chapter 13, the debtor could pay only for housing, food and gas: nothing more. No maintenance for the house, no insurance, no clothes, no medical care.

Of course, the accountant was dead wrong. Articulate but wrong.

Means test and budgets in Chap.13

So I explained the operation of Chapter 13, how the means test works, and the balance between the debtor’s reasonable living expenses and the claims of creditors. And assured the client that she can provide for her treasured pet for the balance of its life.

Then I fumed.

I’m resigned in the age of the internet that new clients have encountered lots of bad information on the web. There is no competency examination before anyone with a browser and an internet connection can opine on any subject.

The most trusted advice on a criminal law site recently turned out to be from a 15 year old whose knowledge came from TV!

But the source of this utterly distorted information holds a professional license in another field; that license gave apparent authority to the tales of horror she told my client.

How was the client to know it was tripe, pure tripe?

It took me two hours to find and eradicate the externally caused fears in my client and the self-generated terrors she’d nurtured based on bad information.

Can I count on my readership to bail me out of jail if I find the accountant providing worthless and harmful bankruptcy advice?

More

How to interview a bankruptcy lawyer

What Your Bankruptcy Lawyer Can’t Tell You

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bankruptcy secret about means test

I can share a secret, just between us.

Bankruptcy “reform” in 2005 tried in a number of ways to discredit and gag lawyers from helping debtors.

One of those additions to the Bankruptcy Code prohibits lawyers from advising those filing bankruptcy to incur new debt.  The statute makes no distinction about the kind of debt involved or the purpose served by the loan.

Lawyers are not to advise incurring new debt.

But I’m not your lawyer, so I can tell you what you need to know about cars.  Or really about car loans, since I know nothing about cars beyond that.

Cars and the means test

Car loans are the most frequently found secured debt.  And payments on debts secured by cars are deductible on the means test introduced by bankruptcy “reform”.

The IRS standards, on which the means test is based, allowed a debtor deduct a certain amount per month to acquire a car.  Courts were split on whether you had to have a car payment to get the ownership allowance.

Then the Supreme Court in Ransom said  the debtor with a paid for car gets no ownership deduction.  But if you have some remaining payments on a car loan, you get to claim the full car ownership deduction  of $517 here in California on the means test.

More deductions on the means test, more likely you qualify for Chapter 7, or for a very cheap Chapter 13.

The means test also has a provision for the expenses of operating a car:  gas, insurance, registration and maintenance.

For a time, the debtor with a car with no loan but lots of miles could claim an extra $200/month for the expense of maintaining an older car.

That older car operation allowance was not found in the bankruptcy statute but in the  IRS Manual.  Since many of the standard expense allowances were based on IRS standards, courts often used the manual’s allowance for the extra maintenance of an old car to increase the debtor’s vehicle operation allowance.

IRS manual not part of bankruptcy law

The $200/month clunker adder the the operation deduction was disallowed by the 9th Circuit BAP in April 2014.  The three judge panel held that bankruptcy law does not incorporate all of the provisions of the IRS Manual, just because it uses some part of the IRS standards.

That, I suppose, is the good news.  Some bankruptcy courts have been willing to swallow great hunks of the manual just because Congress used the collection standards in crafting the means test, usually to the debtor’s disadvantage.

The bad news for those needing bankruptcy relief is that you are expected to keep an old car running for no more than it takes to keep a new car running.  Which causes you to ask what planet do Congressmen live on, but that’s another story.

The $200 clunker allowance is now seen, at least in the 9th Circuit, as money that you should be paying  your creditors.

So?

Get new wheels

Meet with a bankruptcy lawyer and that lawyer may not be bold enought to say what I can:    Get a replacement car BEFORE you file bankruptcy.

Go incur some debt to get reliable transportation.

If your income is above the median for families in your state, you need to pass the means test to file Chapter 7. The monthly payment on a new car is deductible on the means test.

If your car is older, it may not last the five year duration of a Chapter 13.  If you had to replace your current car during the Chapter 13, the terms are not usually advantageous.  But my clients have had good success in financing a replacement car before they file bankruptcy.

If  a car is new, or newer than what you currently drive, there’s a better chance you can actually operate it on the IRS allowance for vehicle operation.  Reliable transportation will get you to work and get you along the road to financial recovery.

The consequence of failing the means test is that you must file Chapter 13 for bankruptcy relief.  Chapter 13 may or may not be a good fit for you.  But we all like to have choices.

Just be scrupulous that you tell the truth on the loan application.  Don’t sign it without reading it carefully.

The debt incurred to buy a newer car will survive the Chapter 7 discharge, since to keep the car, you’d have to reaffirm the car loan.  This isn’t a scheme for a free car.

It’s a dose of reality in a bankruptcy world sometimes divorced from reality.

And I can shout this from the roof tops, because I’m not your lawyer, I’m just a bankruptcy blogger and the bankruptcy gag order doesn’t apply here.

More

Means test meaningless in Bay Area

What you must tell your bankruptcy lawyer

Keep your car through bankruptcy

Image courtesy of Flickr and Coolio-Claire.

Bankruptcy Alphabet: J For Justify

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J stands for Justify in my Bankruptcy Alphabet.  Or rather, it stands for “no need to Justify” your decision to file bankruptcy.

Those considering bankruptcy imagine the first meeting of creditors as an inquisition by the trustee.

They fantasize that they will have to justify their choice of bankruptcy and that the trustee could disallow bankruptcy relief if he isn’t satisfied.

Not so. No one gets to sit in judgment over your decision to file bankruptcy.

There are laws about whether the debtor gets a discharge, and laws about what property the debtor is entitled to keep.

But no laws say you have to be insolvent, or delinquent , or even entitled to a discharge in order to file bankruptcy.

There is no requirement that you be “worthy” or that the decision be sound, or your misery deep enough to file.

It’s Just your call.

Jay Fleischman thinks “J” is reserved for him in the bankruptcy alphabet.

More

The entire Bankruptcy Alphabet

Should bankruptcy be a last resort?

Image courtesy of Muffet.

Debts To The Government: Can They Be Wiped Out

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Uncle Sam public domain

It’s easy to assume that debts owed to the federal government can’t be discharged in bankruptcy.

Easy, but wrong.

Just because the creditor is Uncle Sam doesn’t mean the debt can’t be wiped out in bankruptcy.

In fact, debts to the government range from freely dischargeable to not-in-this-lifetime nondischargeable.

Honesty required for discharge

All of the discussion that follows assumes that your debt to the government is honestly incurred, and is unsecured.

Secured debts, those for which there is a lien, generally survive a bankruptcy discharge.

So tax liens and SBA liens live beyond a Chapter 7 discharge.  

More on limits on tax liens after bankruptcy.

Debts dischargeable in bankruptcy

Income taxes for years more than three years before the bankruptcy filing are dischargeable.  You count the three years from the due date of the return.  If there is a tax lien, the lien survives on existing assets, but doesn’t attach to new property.  More on taxes in bankruptcy

Social Security overpayments  can be wiped out in bankruptcy.  After a bankruptcy filing, your current benefits are not subject to reduction on account of a prior overpayment.  More from SSA.

SBA loans are just loans, subject to discharge in bankruptcy.  The complication with SBA loans is that they are often secured.  It’s important to determine what assets, if any, are pledged to support the loan.  A bankruptcy discharge will prevent the SBA from suing you to collect its loan from your wages, savings or other assets;  the collateral you gave the lender when the loan was negotiated survives.

More on SBA loan guarantees

Student loans may be dischargeable

Government guaranteed student loans occupy the middle ground in our range of possibilities.  A student loan guaranteed by a governmental entity can be discharged if the borrower can show a bankruptcy judge that repayment would create an “undue hardship” on the debtor or the debtor’s dependents.  The standard is pretty tough.

Some bankruptcy courts will discharge part of a student loan.  Those courts find that repayment in full is a hardship, but partial repayment is possible without undue hardship.  The 9th circuit which includes California, is one of those circuits allowing partial discharge of student loans.

Government debts that survive bankruptcy

Fines and penalties owed to a government that are imposed to punish, rather than compensate, can’t be discharged in Chapter 7.  There is an exception for tax penalties:  if the tax is dischargeable or the event that triggered the penalty occurred more than three years ago, the penalty can be wiped out.  11 USC 523(a)(7).  In Chapter 13, all tax penalties are dischargeable.

Trust fund payroll taxes are never dischargeable in bankruptcy.  The trust fund portion of payroll taxes is the taxes withheld from the employee’s paycheck for payment to the government.  Officers of corporations who short the government for trust fund taxes can be personally liable for shortfall.

Military scholarships and incentive pay remain collectible despite bankruptcy.  Most of these exceptions make the debt non dischargeable for a period of years, shorter than the usual statute of limitations.  Here’s a more extensive list of governmental exceptions to bankruptcy discharge.

Non dischargeable debts in bankruptcy

Even if a debt is non dischargeable at the end of a bankruptcy case, some of the bankruptcy rules still apply.

Collection of non dischargeable debts is still stayed by the automatic stay.  The stay remains in place til the debtor is otherwise discharged, or until a bankruptcy judge lifts the stay as to that debt.

The statute of limitations still  controls how long a debt is legally enforceable.  The running of time on statute of limitation is suspended while the stay is in place, and sometimes for a specified additional period.  But just because a debt is not dischargeable in bankruptcy, applicable law may still allow it to die of old age.

Six Rotten Excuses Not To File Bankruptcy

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Reasons Not To File Bankruptcy, Rotten & Wrong

I am not a bankruptcy attorney. I never have been.  I am a mortgage law attorney.

But in the current financial climate, I see clients in my office daily who desperately need to file bankruptcy…And they won’t.

The reasons they give, and the parade of horrors they’ve built up in their minds about bankruptcy, are heart-felt, but wrong.

I’ve listed the six misconceptions below in the rough order of the frequency with which  I hear them.

Consider this my humble attempt to obliterate those “…nattering nabobs of negativism.” as Vice President Spiro Agnew once put it.

Bankruptcy Turns My Credit into Poo for Ten Years

Nope. Not so.

It will indeed be on your credit report for up to 10 years. Some say it is there forever because bankruptcies are public records that are not expunged over time if you know how to look them up.

But if you mean your credit rating? You mean that three digit number thing you’re obsessed with now, that you never even used to look at?

Plan on it returning to the 725-750 range after about two years if you’re busy paying your bills on time post-bankruptcy.

Think about it. Your score can’t get much lower after you file, and every bill you pay on time makes it go up. Your credit rating plotted over time looks more like a fetal heartbeat than a gut wrenching roller coaster ride.

No. It just ain’t so.

A Bankruptcy Will Strip Me Naked

I love this one. Bankruptcy is an incredibly powerful debt management and restructuring tool. Just ask WAMU, Lehman Brothers, Worldcom, General Motors, Enron and PG&E to name just a very, very few.

There are several types of bankruptcy filings. Each is a different highly specialized type of tool to be used to achieve very unique purposes.

Corporations use bankruptcy very strategically. The sharpest corporations know exactly to the day when they will file and to the day when they will emerge from bankruptcy. They emerge with the appetite of a hibernating Grizzly bear that slept late into summer.

The mistake most consumers make is that they rush into bankruptcy in great haste after pulling a phone number out of the yellow pages. This alone is huge mistake and often results in the consumers’ downfall.

Consumers need to consult with, and plan their filings the same way GM and PG& E did. A well timed and well considered bankruptcy can produce astonishing results for individuals.

Step one is to avoid “F&F” bankruptcy attorney. (The ones who File and Forget.) Consumers need to seek out skilled bankruptcy attorneys who are well versed in what each type of bankruptcy can do for the individual consumer and when.

Please don’t dig up the cheapest bankruptcy attorney you can find when there are hundreds of thousands of dollars riding on the outcome. The results of picking the low price leader are uniformly bad.

And the cost to fix the situation is far higher than getting it right the first time.  Some screwups just can’t be fixed.

I’ll Lose My Home if I File Bankruptcy

Nope. Not necessarily so.

Someone likely to lose their home in bankruptcy is probably equally likely lose it without filing. It just may take longer for the house to ripen into full blown economic gangrene that rots and falls off your economic body.

Currently tens of millions of homes are so far underwater that in a Chapter 7 filing, the debtor commonly keeps the house as long as they continue to make the mortgage payment. But they can often get rid of mountains of other debts.

Meanwhile in Chapter 13 debtors can strip off no-equity junior mortgages and encumbrances on the house and permanently discharge them for pennies on the dollar.

In a Chapter 11 debtors may be able to cram down their rental property mortgages to the current fair market value of the property, AND KEEP their no equity home in the bargain.

The United States Government and the lending industry actually caused the massive underwater mortgage problem. Their policies are causing the problem to get worse.

There is no reason debtors shouldn’t make lemonade from the lemons the government and the lending industry are busy growing.

I Owe Income Taxes So Bankruptcy Is Useless

I hate it when I hear this. Bankruptcy is one of the only ways to permanently get rid of income taxes.

We’re living in an era when the IRS, in the Bay Area, will not settle your tax debt unless you are unemployed, on kidney dialysis, and on a heart-lung machine.

Income taxes are dischargeable in bankruptcy if they meet the tests under the Three Year Rule, The Two Year Rule, and the 240 Day Rule. Three special time periods have to run out.

There are complex rules for figuring out if they have run, and certain things the taxpayer may have done can keep these time periods from running out.

“F&F” attorneys don’t have a clue about any of this. That’s why you need a specialist who knows what they CAN do in bankruptcy, how to do it and most importantly when. By the way, the same rules apply to the California Franchise Tax Board as well.

The corollary is that I Owe California Sale Taxes So Bankruptcy Is Useless

See the misconception immediately above. Not true.

The identical general set of discharge-ability rules applies to liability for California sales taxes. The State Board has admitted this in writing while commenting on a proposed piece of legislation. (Oops…)

See Staff Legislative Analysis 2008 for a proposed bill that would stop the accrual of interest on unpaid sales and use taxes for a small business during the pendency of a Chapter 7 Bankruptcy proceeding. Proposed Section 6593.7 for of the Revenue and Taxation Code.)

With My Income, I Will be Forced to File a Chapter 13 and Pay All the Debt in Full

Please see a solid bankruptcy specialist before concluding this is true.

It is true that there is now a Means Test for deciding whether or not Chapter 7 is available.

But it takes a damn good bankruptcy specialist to model what will happen. Depending on what you want to achieve, a Chapter 13 might actually be preferable.

Many Chapter 13 plans pay little or nothing to unsecured creditors.  It may be termed a repayment plan, but that doesn’t mean creditors necessarily get anything.

I Owe Too Much to File Any Bankruptcy

Nope. That’s like being too good looking.

It is not how much you owe. Just ask General Motors.

It is how much money and or property you have that is not subject to any debts. Where you have lots of money or other property which can be liquidated to pay your debts, filing bankruptcy may not be useful because you end up paying all the debts in bankruptcy or most of them.

It’s not the amount of debt. (except in Chapter 13.) There is NO debt limit in Chapter 7 and none in a Chapter 11 proceeding.

Wise up by shedding these bankruptcy bloopers.  Good legal advice from an experienced bankruptcy lawyer may set you free.   

More from the Soapbox

Questions for a Bankruptcy Lawyer 

Means Test in Northern California

How exemptions work

Bill Purdy is a tax and mortgage law attorney in Soquel, California helping homeowners statewide with foreclosure and loan modification issues and the taxes that may follow.  He’s written here recently on Foreclosures & 1099’s  and Four Don’ts When You’re Behind on Your Mortgage.    

Images courtesy of Leo Reynolds  and Stephen.

                 

Bankruptcy Discharge vs. Dismissal

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Dismissed and discharged.

In a bankruptcy case, these two terms are at the opposite ends of the scale of results in bankruptcy.

Yet they are often confused.

A discharge is a win!  The bankruptcy discharge order wipes out your personal legal liability to pay a debt.

A dismissal is usually a loss.  It means the bankruptcy case was closed before a discharge was entered.

Bankruptcy discharge rocks

A bankruptcy discharge is the legal order that your unsecured debts are hereafter unenforceable. Your legal obligation to pay is wiped out.

Note that some unsecured debts, like recent taxes and family support can’t be discharged.

And liens that have attached to things you own when you file pass through the bankruptcy unaltered. But those liens don’t attach to assets you acquire after the underlying debt is discharged. Even if the lien survives, the only thing the creditor can do to get its money is to levy or foreclose the asset. They can’t sue you.

When bankruptcies are dismissed

A dismissal could be at the request of the debtor when bankruptcy protection or a discharge is no longer needed.

Sometimes, we file a Chapter 13 to buy enough time to complete the sale of an endangered home.  Once the sale is complete, there may be no further need for the automatic stay.

Generally a debtor can’t voluntarily dismiss a Chapter 7 case.  The debtor can convert the case to another chapter, but the debtor can’t usually change his mind and escape bankruptcy.

By contrast, the debtor has an almost absolute right to dismiss a Chapter 13 case.  That’s why Chapter 13 is my go-to chapter when the situation is fluid or there are major unknowns.  If things go really sideways, we can dismiss the case.

Why I love Chapter 13

More often, dismissal  comes on the motion of the trustee or the court, often for failure to timely file a document or for abuse of the system.

But dismissed means that the case has been closed without a discharge.

Closed without a discharge

There’s a third outcome for cases that involves neither discharge nor dismissal:  closed without a discharge.

Chapter 13 cases that follow a Chapter 7 too close in time to be entitled to a discharged are “closed” at the completion of the plan.  That’s a Chapter 20.

Cases are also closed without a discharge when the debtor fails to complete the required debtor education course that is a condition to a discharge.

The bankruptcy ticket to ride

Sometimes, having your case closed without a discharge represents a failure: all that effort to file and you failed the last little step to getting rid of your debts.

Sometimes, however, it’s a deliberate strategy to get out of an bankruptcy that was filed untimely, without using up one’s right to a discharge.  But that’s a story for another day.

More

Choosing the bankruptcy chapter for you

Why Chapter 13 cases fail

Can you change lawyers mid stream

Image courtesy of Nemo and Pixabay.

Bankruptcy Schedules Are More Than Just Paperwork

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Bankruptcy paperwork can make you feel like you are drowning in paper.

There’s your paper; there’s the paper your lawyer needs.  And there’s the paper the court insists on.

Why bankruptcy schedules worth the work

It’s easy to try to skate. To cut corners.  To shut down.

But that paper is critical.

Nearly every question, benefit, or dispute in an individual’s bankruptcy case starts with the bankruptcy papers.

Those papers are called the schedules.  The schedules form the heart of a bankruptcy case.  They lay out what the person filing the case owns, owes, and spends.

And most debtors (those who file bankruptcy) have little idea how much paper is involved til they see the schedules and sign them in their lawyer’s office.

Before they get to the signing, debtors chafe at the endless questions from their attorney about the nature of the debt, who is liable, and whether the debt is disputed.

Is all this effort really needed?

First impressions matter

Your schedules constitute  the trustee’s first look at you. Well-done schedules project engagement with the process and they tend to limit digging by the trustee.

The creditor schedules control who gets notice of your case and notice of the automatic stay.

Notice to all affected assures that anyone with a right to challenge the discharge of your debt to them is bound by the timelines of the Bankruptcy Code.

Creditors who don’t get notice may reopen the bankruptcy case later to assert that their debt isn’t dischargeable.

Omit assets and you may lose them, as case law limits your right to claim an exemption in an asset you didn’t disclose in the first place.

List it or lose it

Leave out a legal right or pending lawsuit and the defendant in that suit can have your lawsuit dismissed.

Then, there’s the matter of perjury:  the law provides for fines and imprisonment for deliberate untruths on the bankruptcy schedules.  Not something you want to expose yourself to.

What the schedules contain

Seen broadly, bankruptcy schedules list the debtor’s assets; debts; projected budget; and recent financial history.

Asset forms

Secured creditor form

Priority & unsecured creditor form

Since 2005, there’s a schedule for the means test.

You file proof of having taken prebankruptcy credit counseling and statement of your intentions with respect to debts secured by personal property, like your car.

Helping you get them right is part of the job of a bankruptcy attorney.

New bankruptcy forms

The courts are rolling out new versions of the bankruptcy forms which claim to be more “modern” and user friendly.

I find them verbose and impossible to scan easily to get the big picture in a bankruptcy filing.

The new forms read like tax forms and they suggest that you could competently file bankruptcy without a lawyer.  My experience is that, since 2005, it is the rare individual who can correctly file out the forms, much less understand the implications of those forms.

Enlist a professional to assess whether bankruptcy is right for you and whether now is the right time, before you file.  Afterward, it may be too late.

More

How to find the right bankruptcy lawyer

Understand exemptions

What debts don’t get wiped out

Image:  weatbix

Get A Deal On Your Car After Bankruptcy

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wheels after bankruptcy

How are you going to keep your car after you file Chapter 7 bankruptcy?

Here in California , little is more essential to holding a job and really getting a fresh start than a car to get to work in.  

While the bankruptcy discharge will relieve you of liability for the loan on the car, the lender’s lien on the car survives the bankruptcy.

OK, let’s think. Who besides you wants the car?

If the car is worth less than you owe on it, the Chapter 7 trustee isn’t interested in it.

So, it’s you vs. the car lender.  What happens to the car after the bankruptcy case?

An underused section of the Bankruptcy Code  allows you to buy your car outright from the lender at its value today.

Your car loan in bankruptcy

So, what can you do about the lien on the car that survives the discharge? The car lender can repossess the car without violating the bankruptcy discharge.

The Bankruptcy Code gives you some choices for the car loan:

  • surrender the car;
  • reaffirm the loan; or
  • redeem the car.

We’re going to talk about redemption, and my recent client who saved more than $11,000 by redeeming the car.

How redemption works

In a nutshell, redemption in bankruptcy allows you to pay the lender the value of the car as of the filing of the case in a single payment, and get clear title.

It’s grounded in the idea that if you surrender the car, it’s only worth what it’s worth in the market to the lender.  Your discharge keeps the lender from looking to you for the difference between the loan balance and the car’s value.

A single payment is required for redemption:  you can’t buy the car back, and make the lender take payments over time.

So the availability of cash can limit the usefulness of redemption.  There are also commercial lenders whose business is financing redemptions.

Clear title versus more debt

The advantages of redemption hit me and my client in the face recently when we reviewed a proposed reaffirmation agreement for her car.

The lender prepared a reaffirmation agreement for her signature with the required disclosures.  Reaffirmation would have effectively waived the discharge as to the car loan.

With reaffirmation, the lender was bound to accept payments despite the bankruptcy.  The debtor became exposed to personal liability for a deficiency judgment should she default in the future.

Not a great deal for the debtor, but sometimes you have to choose between unattractive options.

What grabbed our attention was the gap between the $11,000 value of the car and the $22,000 balance on the loan.

Sign the reaff, and the client would pay twice what the car is worth, plus interest, to keep the car.

We chose to redeem the car instead.

The judge approved our motion to redeem.  Once the order is entered, my client must have $11,000 in hand to get title to the car.

In this case, she could come up with the money necessary.

The unpaid balance of the car loan is gone forever.  She has title to the car.

Fresh start ahead!

More

Reaffirming car loans

House after bankruptcy

Who needs to be paid after you file bankruptcy?

Image courtesy of Peter and Flickr.

California Homestead Works In Other States, Too

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California homestead law drives bankruptcy exemptions even for those who no longer live in California.

Strange, when the homestead statute was state law originally written for Californians.

Two things have expanded its reach:  bankruptcy “reform” and the concept of extraterritoriality.

The third driver, of course, is mobility:  we seem much more likely these days to have moved between states.

I was reminded of the long reach of the homestead last week by a call from a couple in Colorado.

They used to live here,  were filing bankruptcy in Colorado, and wondered if they could use the California homestead to protect their Colorado home.

The answer, on their facts, is YES.

So here’s how that works.

California exemptions for former residents

The 2005 amendments to bankruptcy law tried to limit debtors from moving to a state with more generous exemptions before filing bankruptcy.

Several states, most notably Texas and Florida, have an unlimited exemption for the value of your home. Shack or Taj Mahal, if you live there, it’s protected from creditors.

So the Congressional “fix” was to say that if you hadn’t lived for two years in the state where you filed bankruptcy,  you must use the exemptions from the state in which you lived two years ago.  (It has a few more wrinkles, but broadly, that’s the new law.)

The folks on the phone were California residents two years ago.  They “must” use California exemptions to protect their home in Colorado, where they will file.

Instead of the $75,000 homestead in Colorado, they can claim the $100,000 exemption provided in California law at the time.

Neat.

Homestead beyond California

Extraterritorial is a long word for the idea that the state law in question applies to property outside the territory of the state.

The concept gained importance with the 2005 changes to bankruptcy law.  What if the state you lived in two years ago doesn’t allow extraterritoriality?

Some states hold their exemptions have extraterritorial effect;  other deny extraterritoriality.

North Carolina, for example, limits use of its state exemptions to residents of North Carolina.  See the lawyerly piece by my friend Billy Brewer.

By contrast, California’s exemption laws are available for property  outside the state.  The 9th Circuit case of Arrol, decided long before bankruptcy “reform”, allowed the debtor who had just moved back to Minnesota to claim a homestead the Michigan house in which he lived in a bankruptcy filed in California.

More on where you file and what you claim exempt

Bankruptcy law required that he file in California, having just moved back to Michigan less than six months ago.  The appeals court said that California law, where his case was filed, applied to the home he was living in when he filed, even if it was outside the state of California.

California allowed extraterritorial application of its exemptions.

If Arrol had moved from North Carolina to California, he couldn’t use North Carolina exemptions because they don’t apply to non residents.  The laws of North Carolina aren’t extraterritorial.

In that case, the debtor can use the federal bankruptcy exemptions if the exemptions of the required state aren’t available.

Home truths

The moral of this piece is bankruptcy can be complicated for the well-traveled debtor.

Choose an experienced bankruptcy lawyer; share the tale of your travels; and explore your exemption options.

More

California homestead is a superpower

A homestead isn’t what you think

Secret bankruptcy exemptions

Can A Trust Protect You In Bankruptcy?

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protect assets

Can a trust protect your assets from loss?

According to the lawyer advertising and the self-help books, everyone needs a revocable trust.

The asset protection industry loves irrevocable trusts to get assets out of your name so your creditors can’t reach your wealth.

So, do trusts work in bankruptcy to change the rights of debtors and their creditors?

Not so much.

What’s a revocable trust

A revocable trust is also called a living trust.  It’s created during the lifetime of the person putting their assets in trust.

The settlor, the person creating the trust, can unwind the trust altogether.  Or, the settlor can extract one or more assets from the trust.  It’s revocable.

The appeal of a revocable trust is that assets owned by a trust don’t need to be probated at the settlor’s death.  The terms of the trust determine who gets the trust assets.

I find revocable trusts useful to manage assets of the aging or the incapacitated.

Title to trust assets in a revocable reads:  George Smith, Trustee.  The asset appears to no longer be George’s asset, personally, but the asset of his trust.

Many people would like to think that George’s creditors can’t reach the asset if George doesn’t pay his debts.  Is it so?

Revocable trust and creditors

The very quality that makes a revocable trust appealing, that it can be revoked in whole or in part, is what defeats it as an asset protection tool.

The law says, if the settlor, the person who settles assets on the trustee, can revoke the trust, the settlor is treated as the absolute owner of the assets.

The trust changes nothing as far as the settlor’s exposure to his creditors.

California law puts it this way:

If the settlor retains the power to revoke the trust in whole or in part, the trust property is subject to the claims of creditors of the settlor to the extent of the power of revocation during the lifetime of the settlor.  Ca. Prob. Code § 18200

So when bankruptcy schedules ask for a list of your assets, the property in your revocable trust must be listed.

If the trust is irrevocable

An irrevocable trust is one where the trust can’t be revoked.  Assets that flow into the trust can’t be extracted by the settlor.

With an irrevocable trust, you’ve traded flexibility as to your assets for protection.

So, some see the irrevocable trust as the answer to creditor problems:  put the money in trust, let the trustee pay it out to you, and thumb your nose at creditors.

But there’s this pesky idea called the law against fraudulent transfers.

In this case, the law protects creditors who have a claim at the time the trust is funded.  The theory of law is that you can’t defeat the claims of your creditors by giving your property to a trust without getting back reasonably equivalent value.

If you got nothing for giving away your assets to the trust, it’s a fraudulent transfer.

State law, and bankruptcy law, have rules about how long a fraudulent transfer can be challenged by creditors.

Further, state law and the terms of the trust itself will determine the rights of creditors to monies paid out from an irrevocable trust.

Make sure your expectations about trusts, creditors, and bankruptcy are grounded in law.

More

Asset protection for cheapskates

The dangers of giving

Before you clean your financial house

What you keep through bankruptcy

 

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