Helping family members in need is the most instinctual act imaginable. If your grandmother needs a little financial help every month to buy groceries or pay her electric bill, why wouldn’t you help out if you can? Or even if, strictly speaking, you can’t? That is, you may be drowning in debt yourself, but—grandma has to eat, right?
We would all help out, even if it placed a slight hardship upon ourselves.
That’s what family is for.
However, when the hardship we place upon ourselves in the process is not so slight, it can be a problem. This is true on a practical level (“How do I make it work??”)—but it is even more true when our pre-existing hardship is such that we may be considering filing for bankruptcy.
When you file for bankruptcy, an ongoing “obligation” to assist a family member in need can create complications. This is potentially true both for you—and your grandmother.
This Article will discuss the ramifications of “family assistance” in bankruptcy in both a Chapter 7 and Chapter 13 bankruptcy context.
First, however, we lay sound basic groundwork for the discussion.
What Is the Difference Between Chapter 7 and Chapter 13 Bankruptcy?
It is necessary to first briefly describe some key differences between the two primary forms of consumer bankruptcy because each form raises differing complications related to pre- and post-bankruptcy filing “family assistance” payments. Both will deal with pre-filing “family assistance” payments that you make quite differently, as well.
- Chapter 7 in a Nutshell
Chapter 7 bankruptcy is a “liquidation” bankruptcy. That is, it is a bankruptcy process in which your creditors may possibly receive some payment toward the debt that you owe through the seizure and liquidation of your assets—or (importantly here) through the recovery of your funds in other ways.
In a Chapter 7 bankruptcy proceeding, a person known as the Chapter 7 Trustee is assigned to review the value of your assets and to seize and sell any off that are not fully exempted. An asset is exempted (and protected) when its current fair-market value is less than the dollar value cap of an “exemption” assigned to it in your bankruptcy petition schedules.
The exemptions themselves are statutory provisions that allow certain assets up to certain dollar value limits to be removed (exempted) from the “bankruptcy estate” created when you file your Chapter 7. The Chapter 7 Trustee is the trustee of this bankruptcy estate—but not of any property removed from it.
The Chapter 7 Trustee also has the power to “avoid” or unwind transfers of property that occurred prior to the filing of the Chapter 7 case if the transaction appears to be fraudulent.
This is important to understand for purposes of this conversation.
A Chapter 7 bankruptcy otherwise requires no creditor payment and results in a total discharge of debt (although some types of debt, such as child support obligations, are not dischargeable).
- Chapter 13 in a Nutshell
Chapter 13 bankruptcy does not require any asset liquidation. Instead, it is a “reorganization bankruptcy.” This means that you “reorganize” your debt to pay debt that is classified as higher priority than other debt in the US Bankruptcy Code first.
It is a 3-5-year payment plan in which you make a monthly payment to the Chapter 13 Trustee assigned to the case. The Chapter 13 Trustee distributes that payment to your creditors according to their priority level—and to the order in which you and your bankruptcy attorney assign them in the “Chapter 13 payment plan” drafted and filed with the Bankruptcy Court.
Unsecured debt such as credit card debt, back rent, medical bills, and even Michigan state court money judgments (not arising from divorce judgment support obligations or criminal penalties or sanctions—or fraud) are classified as low-priority debts in Chapter 13.
The creditors holding such low priority debts are paid only what is left over from your monthly plan payments after everyone else (including your lawyer) is paid first. Any balance left unpaid to these creditors at the end of the Chapter 13 process is then discharged in full, just as in a Chapter 7 bankruptcy.
Because you are paying your debt—at least partially—in Chapter 13, there is no need for an asset liquidation mechanism. This includes—except in egregious cases—pre-filing transfer avoidance or fraudulent transfer recovery.
If you had engaged in some fraudulent transfer of property or cash prior to filing the case that truly raises eyebrows, the Chapter 13 Trustee would not seek to unwind that transfer herself. Instead, she might have the option of referring the case to the US Trustee for discharge denial or for criminal prosecution—or motion the court to convert the case to Chapter 7 to allow the Chapter 7 Trustee to recover the transferred property.
Note that the amount that you pay each month in a Chapter 13 is the difference between your household net (take-home) pay and your total average monthly necessary household expenses.
Remember the word “necessary.” We will return to it shortly.
Family Assistance and Fraudulent Transfer
You wouldn’t think that sending $200 every month to your grandmother to help pay her electric bill would be considered fraud, right?
Unfortunately, this is a possibility in Chapter 7 bankruptcy.
What Is a Fraudulent Transfer in Bankruptcy?
Unlike under Michigan state law, the US Bankruptcy Code defines “fraud” in such a way that it does not require that you have intended to deceive anybody. That is, it does contain the “intended to defraud anybody” requirement as Michigan law does.
Under the Federal Bankruptcy Code, a fraudulent transfer of property or cash occurs when that transfer has occurred within the 2 years prior to the filing of the bankruptcy case for less than equivalent value and outside of the debtor’s normal course of business.
Italics are used in this definition to draw your intention to the key legal arguments at play here. The question as to the fraudulence of the transfer will be: (1) the timing of the transfer; (2) whether you got anything in return for it and, if so, if it was fair-market value for that property; and (3) whether this sort of transfer is what you do for a living.
An example of a fraudulent transfer could therefore be the titling of a used car worth $1,000 in Blue Book value to your brother-in-law for $1 six months prior to the filing of your bankruptcy case.
A similar, non-fraudulent transfer would be the sale of a used car worth $1,000 to somebody you never met six months prior to the filing of your bankruptcy case—conducted because you make your living selling used cars that you salvage and repair yourself for just that purpose.
So how about that $200 you send your grandmother every month? Did she give you anything for it (say, $200 worth of knitted mittens)? Do you run a charitable giving organization for mitten-knitting elderly people? Did any of those months fall into the prior 2 years?
You see the issue.
You will be required to disclose transfers of property or cash, as well as gifts and charitable donations, in the Statement of Financial Affairs portion of your bankruptcy petition—under penalty of perjury.
Chapter 7 and Fraudulent Transfers
So, what happens when you need the debt relief that bankruptcy offers but you can’t change the past? You simply have been helping your family?
First, perjury is not an option. Bankruptcy Fraud is a Federal felony carrying the potential for a 5-year prison sentence. No debt relief is worth that.
So, you go ahead and file—and tell the truth about your financial support for your family member on your Statement of Financial Affairs. What happens next?
The next step is that you may be questioned about this pattern of gift-giving at your 341 Meeting of Creditors by your Chapter 7 Trustee. You will be asked under oath to provide further information as required about what you transferred and paid, to whom, what you received (if anything), and when.
The purpose here is for the Chapter 7 Trustee to create a record of your statements, provided under oath, on a recording from which a transcript can be made—and used against you in any later courtroom proceeding.
The Trustee will then, depending on the facts at hand, make a “business decision” about whether it makes sense to sue your grandmother (or other family member) to retrieve the funds for repayment to your creditors.
It will be all about dollars and sense. The Trustee will incur X amount of his or her own attorney’s fees in the process, potentially, and the Trustee is required—under the rules laid out in the US Trustee’s Manual drafted in Washington, DC—to proceed with the liquidation of assets only where the attempt does not lose money for your creditors.
Whether your grandmother is “collectible” or not will make a difference here. During this decision-marking process, importantly, it will possible to propose to “settle” this claim against your grandmother with the Chapter 7 Trustee so that she isn’t bothered with all of this hullaballoo.
You’ll need to have cash on hand for this offer. And a good, experienced Michigan bankruptcy attorney. See my other blog post discussing Preferential Transfers to Insiders in Bankruptcy.
Otherwise, if you must file bankruptcy and file it now (as opposed to ceasing all family assistance and waiting 2 years to file), Chapter 13 bankruptcy may be a better options.
Chapter 13 Bankruptcy and Fraudulent Transfers
As noted above, Chapter 13 is not a “liquidation” form of bankruptcy. While you will still be required to disclose any assistance payments to family members in your Statement of Financial Affairs, the Chapter 13 Trustee does not have the statutory authority to pursue recovery of such funds.
The Chapter 13 Trustee is tasked differently by the US Bankruptcy Code. This Trustee is empowered only to receive your monthly Chapter 13 plan payment, disburse it to your creditors, to object to the confirmation of your Chapter 13 plan—and, rarely, to object to proofs of claims filed improperly by creditors.
In other words, your grandmother is safe when you file Chapter 13 bankruptcy.
Does that mean that there is no downside to filing Chapter 13 when you have been helping your family financially?
Remembering that your monthly Chapter 13 plan payment is the remainder of your monthly average household “net” income (take-home pay) after your monthly average necessary household expenses are deducted, there is an issue here.
Such family assistance payments will not be considered “necessary” household expenses except under very fact-specific circumstances.
The Chapter 13 Trustee will object to the confirmation (court approval) of your Chapter 13 plan unless you agree to cease such payments and, instead, include that $200 (or whatever amount) in your plan payment.
No one will sue your grandmother, but, in all likelihood, you will not be able to continue providing her any assistance for the next 3-5 years.
Not if you want the debt relief that bankruptcy can provide.
Family Assistance and Gifts in Bankruptcy: The Bottom Line
The bottom line is that there are defenses and arguments and exceptions to all of these family assistance pitfalls.
But you will never know what they are or how to execute them without professional, experienced legal assistance.
Attorney Walter Metzen is a Board Certified Bankruptcy Expert who has successfully assisted thousands of Metro Detroit Chapter 7 and Chapter 13 bankruptcy clients for over 30 years.
If a loved one is relying on you for assistance but you are in need for bankruptcy protection, contact us now to schedule your free initial consultation.