Can I Transfer Assets Prior to Bankruptcy?

When it comes to reporting asset transfers before bankruptcy proceedings, filers often think they only need to disclose assets transferred fraudulently. This is not so. The bankruptcy rule against fraudulent transfers is a rule of disclosure, not intent.

Bankruptcy filers may have sold a piece of real property or traded in a car (both of which are generally above board), but if it occurred within two years of filing, they must disclose it. For legal advice on your situation, consult with a local bankruptcy lawyer.

Why People Consider Transferring Assets

Many people consider transferring their assets before filing for bankruptcy because they are stressed and scared. They fear losing their property and assets to pay off creditors.

Sometimes, creditors will pressure the debtor by issuing threats of wage garnishment and bank levies. The debtor may seek to avoid these actions by transferring accounts or ownership interests.

A bankruptcy can impact more than the debtor. To protect family members and business partners, a debtor may try to arrange property transfers. There is a misconception that gifts or transfers valued below fair market value are undetectable.

Sometimes, debtors attempt to simplify their finances by offloading unused or older assets, such as real estate or vehicles. They then use this money to repay friends and family members before filing for bankruptcy. In some situations, the debtor doesn’t realize that their financial decisions have bankruptcy implications.

What Is a Fraudulent Transfer in Bankruptcy?

When filing for bankruptcy, the filer must disclose to the bankruptcy court and appointed trustee whether they have sold, traded, or otherwise transferred property to anyone within the previous two-year period — not including any transfer made in the ordinary course of their business or financial affairs.

In New York State, for example, state law permits a six-year look-back period for asset transfers. The trustee is looking for fraudulent conveyances under the bankruptcy code, which come in two forms:

1. Actual fraud. Where a filer made such a transfer with the intent to hinder, delay, or defraud a creditor.
2. Constructive fraud. Where a filer received less than fair market value in exchange, and the exchange occurred when the filer was insolvent (or caused their insolvency).

When evaluating a debtor’s actions, the court will infer intent by looking for the “badges of fraud,” such as:

• Relationship to transferee
• Unusual timing
• Lack of documentation
• Retention of use after transfer

Full disclosure of their actions to the court may help demonstrate a lack of intent to defraud. If the fraud is of a criminal nature, criminal charges may be brought against the debtor.

How Courts Evaluate if Bankruptcy Fraud Has Occurred

The court deems a behavior fraudulent when it is intended to delay the bankruptcy process or conceal asset ownership. For example, debtors can’t:

• Move all of their assets to friends and relatives
• Sell their assets for less than fair market value
• Conceal their ownership of real estate by removing their name from the titles
• Backdate documents or create sham transactions

In his experience as a bankruptcy lawyer in Maryland, Alan Eisler says fraudulent conveyances are “not uncommon, but it’s something that the attorney needs to investigate with the client. I always remind my clients it’s a rule of disclosure, not intent. They can sell a piece of real estate or trade in a car — all of that is above-board. If it happens within two years, they must disclose it, but a lot of people mistakenly think, ‘Well, I only need to disclose things I’ve transferred fraudulently.’”

Eisler gives the example of a creditor obtaining a judgment solely against a husband. The husband has a bank account in his name only and the creditor wants to garnish the husband’s account. To avoid the creditor, the husband changes title of his sole bank account to a joint account in his and his spouse’s name.

“By transferring title of the bank account from solely the husband’s name to husband and wife, the husband has prevented the judgment creditor from attaching the judgment to the account because money held in a bank account of husband and wife is protected from the creditors of solely one spouse,” Eisler says. “If he hadn’t changed the title to the account, the husband’s sole creditors could have garnished that account.”

The Bankruptcy Trustee’s “Look-Back” Period

Under bankruptcy law, the trustee will review the history of the bankruptcy estate. Under federal law, the look-back period is two years. For preferential transfers to insiders, the look-back period is one year. Many state laws allow the trustee to look back even further.

When examining the debtor’s financial history, the trustee will look for property transfers over $600, but this can vary by jurisdiction. They will look for title changes on vehicles, homes, and bank accounts. Large gifts to family members are also looked for. Sales that are below fair market value will incur additional scrutiny.

Consequences of Hiding Assets

The trustee may seek to void the transfer, meaning the trustee will demand that the bankruptcy filer or a third party return the funds. Otherwise, the filer risks denial or cancellation of their bankruptcy petition.

Trustees are paid a nominal fee for each Chapter 7 bankruptcy case they oversee, but the discovery of a fraudulent transfer may allow the trustee to recover additional funds. Chapter 7 bankruptcy trustees earn money by distributing assets, which allows them to charge a commission on assets distributed or sold, or to hire themselves as their own attorneys and charge legal fees.

Fortunately, these matters often settle. Trustees generally want money and would rather settle in most instances than sue, because there is a certainty of recovery. If a filer is caught in a fraudulent transfer of property, however, there are few options for settlement. Under the assets rules, the filer must come up with the money to pay the trustee, or the trustee will recover and liquidate the property.

Legitimate Pre-Bankruptcy Planning vs. Fraud

While the court doesn’t look kindly on debtors attempting to defraud the system, there are allowable transfers as a part of pre-bankruptcy planning.

Debtors may convert nonexempt property into exempt assets. However, they shouldn’t be excessive or try to abuse this allowance. Debtors can continue to purchase necessary household goods and pay their routine living expenses. If they have real estate or other assets they wish to sell, they may do so at fair market value. The sale must be at arm’s length, meaning it is conducted by an independent third party. The sale must also be disclosed in their statement of financial affairs.

It’s allowable to consolidate and reorganize accounts. For example, they can close unused lines of credit. They can bring outstanding accounts to the current status. They may consolidate bank accounts into a single account, provided that the account remains in the original holder’s name.

When To Speak with a Bankruptcy Lawyer

“Make sure you disclose to your attorney all transfers that you’ve made in the two years before filing,” Eisler says. “Clients will want to review with their attorney the circumstances of each transfer, so you go in with open eyes knowing whether you are going to face the issue of the trustee trying to avoid a transaction. You may want to get documentation in advance of your filing or meeting of creditors to justify or substantiate the transfer.”

Proper planning before filing should increase a filer’s chances of a successful bankruptcy filing. That is the value of meeting with an experienced bankruptcy attorney as early in the bankruptcy process as possible to avoid a period of ineligibility.