If you’ve been reading my stuff, you know that I have a list of what I consider the top seven things you should avoid before filing a bankruptcy, either Chapter 7 or Chapter 13. This is the third in a series and is about item three on my list – making large payments to unsecured creditors.
The bankruptcy code follows the general principal that all your creditors are supposed to be treated equally – damaged equally in proportion to the amount of each debt. To try and level the playing field among the unsecured creditors, a limit is set on how much you can pay each one within the 90 days before the filing of your case. If you have paid a total of over $600 to any one unsecured creditor in the 90 days prior to filing the case, this is considered what they call a “preference.” Having a preference can slow down the administration of your case, not to mention that making those payments is a waste of your money. Save the money to pay your attorney fee and court filing fee.
A preference is considered to be one of your assets, but it’s not one you can claim as exempt. In a Chapter 7 bankruptcy case having a preference means that the trustee can claw the money back from the one creditor and distribute it equally to all the creditors. While this process is going on, your court file remains open and you are not able to start rebuilding your credit. In a Chapter 13 bankruptcy it means you may have to pay extra in your payment plan to make up for what the creditors would have received had it been a Chapter 7. In Chapter 13 they call that the best interests of the creditor rule. You can’t give the unsecured creditors less in a Chapter 13 than they would have received in a Chapter 7. Either way, whether it’s Chapter 7 or Chapter 13, the result is undesirable.
Once a case is filed, my goal is always to get out of the case as quickly as possible. So a preference is usually something I want to avoid. They way to avoid the issue to quit paying the unsecured creditors and wait until you have a 90 day period free of preferences. There are always exceptions. The preference might not be the worst thing in the world. For example, if there is a wage garnishment in progress I might say let’s get the case filed ASAP anyway.
When asked my clients almost always say that they have not paid over $600 to any unsecured creditor in the last 90 days. But then I point out that all you have to be doing is paying over $200 per month, and that will always add up to over $600 in 90 days. At that point a light bulb seems to come on and I learn that there is a preference hiding there somewhere.
Keep an eye out for the next episode – Item Four – Drawing Down your 401K.
This is the second in my series on things to avoid doing before filing a bankruptcy, either Chapter 7 or Chapter 13.
Outright transfers of assets and large gifts are things to be avoided prior to filing any kind of bankruptcy. An example might be transferring a car or a motorcycle to one of your children, or giving someone a large amount of money or a very expensive gift for their wedding. Putting relatively large sums of money in a bank account for a child could be another example. The bankruptcy trustee in a Chapter 7 case may look at transfers like this as an effort to hide assets. It can be considered bankruptcy fraud and be very detrimental to the case. The look back on this under the bankruptcy code is two years, but under Minnesota state law it can go back as far as six years.
529 plans have their own special rules about how much a bankruptcy trustee can claw back. 529 plans are educational savings plans that people set up for their child. They have tax advantages similar to a 401K or IRA. But the bankruptcy trustee in a Chapter 7 can claim anything deposited within a year before the case is filed, and there are limits on how much can be protected for the amounts deposited in the two years before that.
A transfer that can be clawed back in a Chapter 7 case will not be clawed back in a Chapter 13, but the Chapter 13 plan payments will have to be high enough so that the unsecured creditors get at least as much as they would have received had it been a Chapter 7. In other words, your plan payment will probably have to be increased to make up for the fact that the asset is there.
One thing I see people often doing is having their pay check deposited into somebody else’s bank account. Perhaps this is to avoid a creditor who has already cleaned out the debtor’s own bank account. You might or might not have a serious problem with your bankruptcy case if this has been going on, depending on all the circumstances. Best policy is to just to not do it.
I can’t tell you how many times I’ve been told “well I’ll just sell that (boat or motorcycle or whatever) to my brother for a dollar.” That won’t work. Rest assured that this loophole was plugged a very long time ago. That’s not exactly an original idea. When you sell something to someone right before filing a bankruptcy, who you sold it to and for how much has to be disclosed. Your relationship if any with the purchaser also has to be disclosed.
There are various exceptions – loopholes if you prefer – to most of the items I have been talking about here. You need to talk with your lawyer about whether what you did in your circumstances is going to be a problem or not. If you are contemplating bankruptcy, talk with your lawyer before making any significant financial movers. I hate having to say “gosh I wish you had talked with me before doing that.”
It has always seemed to me that most of the things you SHOULD NOT do before filing bankruptcy are things that in ordinary circumstances your mother would say that you SHOULD do. If you are thinking of filing a bankruptcy, it’s time to consult your lawyer and not your mother or friends or relatives. The sooner you consult a lawyer the better. The bankruptcy code is full of hidden traps and gotchas.
This is the first in a series of seven blog posts about things to NOT do if you are considering filing a bankruptcy in Minnesota. This post discusses payment of a debt to an insider – usually that means a close friend or relative. It can also include a business partner or associate.
In a Chapter 7 bankruptcy amounts repaid within a year before the bankruptcy is filed on debt owing to an insider can be clawed back by the trustee. In Chapter 13 bankruptcy you have to pay extra money into your plan to cover what the trustee could have clawed back had it been a Chapter 7. Either way, this is something you want to avoid. There is a fix for the problem, but you might not like it: obtaining another loan from the person you repaid in an amount in excess of the amount you paid.
The last thing you want after your bankruptcy case is filed is for your mother or brother to receive a letter from the trustee demanding return of money you paid them. You get the same result if you pay a debt owing to an insider by giving the insider a benefit indirectly. Here’s a common example of how this can happen. Let’s say you need to buy a car but you can’t get a loan to do so. Your brother does a cash advance on his credit card and loans you the money to buy the car. Every month you make a payment on the credit card that is in your brother’s name. In a Chapter 7 bankruptcy the trustee can go after your brother to recover all the payments you made on that credit card within the year before filing. In a Chapter 13 you may have to pay larger payments to cover for the amount you repaid in your brother’s name.
I always hate it when I learn that my client or potential client has just done something that is really going to make the case difficult. The rule seems to be that they always do it just a few days before coming in to see me. If only they had talked with me before doing that!
If this sounds complicated it is. If you are thinking of bankruptcy it is best if you consult a lawyer before you make any financial moves. I would be glad to discuss the details of your case. Call me at 952-544-6356.