Don’t tidy up your financial affairs before consulting a bankruptcy lawyer.
Your current mess may present opportunities to plan your bankruptcy for a better outcome.
You may waste money or lose bankruptcy options when you make last minute changes to your situation without understanding how that situation plays out in bankruptcy.
You’ll have the widest set of options for a fresh start if your lawyer sees the situation as it is today.
What looks to you like complexity and disorder may look to your bankruptcy lawyer as opportunity and advantage.
The high cost of financial housecleaning
My heart sinks when a new client tells me that they’ve just paid off the loan their parents made them before seeing me.
Or borrowed against their retirement to fund debt management.
Or paid off the taxes so that all the remaining debt is credit cards.
For different reasons in each instance, those actions complicate a bankruptcy or squander assets that could have been saved in bankruptcy.
Payments to family
Paying off a loan from family seems instinctive.
We want to take care of those closest to us. Sometimes, paying off help from family is driven by the desire to hide a bankruptcy from them. Sometimes, it’s the desire to make sure they get whatever assets you have before you submit to the scrutiny of a bankruptcy trustee.
But more likely, paying off a debt to an insider (that’s bankruptcy lingo for close relatives, real or business related) hurts more than helps. The bankruptcy trustee in a Chapter 7 can sue insiders who get paid during the 12 months before the bankruptcy filing to recover the money.
The theory of recovering preferences is to make a fair distribution of your assets to all creditors, not just the ones you favor.
Often, the exemptions that are available in bankruptcy will allow you to keep more money than you expect. You can repay that debt to Mom after the filing, when it has no adverse consequences to Mom. The California grubstake (or wild card exemption) protects about $28,000 in any kind of property, in addition to other exemptions for specific kinds of property.
So, hold on to your checkbook, until we’ve talked.
Settlements before bankruptcy are wasted
The saddest thing I’ve seen recently was the family that soldiered through a five year debt settlement program before we met. They had paid tens of thousands of dollars to creditors, but didn’t realize that not all their debts were included in the plan.
We had to file bankruptcy for them despite their heroic efforts to pay their debts. They got no credit or advantage from the money they spent retiring credit cards while their property taxes and student loan debts fell into default.
The better situations are when clients ask if they should accept a settlement offer from a collector before filing. There, at least, I get to ask what benefit they get from paying that money, money that could otherwise go to funding an IRA or paying down student loans?
In general, your bankruptcy is no simpler or cheaper or less damaging if you have a few creditors as opposed to many creditors. If the situation requires bankruptcy, reducing the number of creditors or amount of the debt doesn’t benefit you at all.
Tax debt has its uses
While it isn’t generally thought to be a good thing to owe money to the tax collector, it may be an asset if your income is above the median for your state.
The means test is a formula that is supposed to weed out those families who make too much money to file Chapter 7. One of the ironies is that one of the allowed deductions in figuring whether you have too much income to file Chapter 7 is that you can deduct taxes you owe from the income.
It’s the same with mortgage arrearages and property taxes on your home.
These debts are useful deductions in getting a client into the bankruptcy chapter of their choice.
Pay it off before we meet and I have fewer tools to shape the means test.
Put down that broom
So, resist the temptation to clean up your finances before you meet with a bankruptcy lawyer. Don’t sweep debts under the carpet or out the door before you understand the bigger picture.
Make any advantageous changes in consultation with your lawyer.
Image courtesy of Flickr and Spengy.