FIRST LESSON: “A” is for “Avoidance” and “Abandonment”

DISCLAIMER:  Nothing on this blog is intended to be specific or complete legal advice and is for general informational purposes only. In other words, you are only getting the tip of the iceberg in this blog – call and schedule a consultation with me at (508) 757-7721 ext. 112 if you think what you read here might apply to you and your situation. 

First, know that the bankruptcy law and Webster’s Dictionary have different definitions of “avoidance” and “abandonment”. The two terms also describe very different powers that a trustee in bankruptcy may use in your case.

A trustee’s “avoidance” powers are something that most debtors and creditors want to – well, to be honest, avoid. The Bankruptcy Code gives a trustee the right to bring a lawsuit to:

1.                  Avoid and recover payments a debtor made to any creditor on outstanding debts in the period ninety days prior to the date of the bankruptcy filing. These are called “preferences”, and can be hard for a creditor to fight, although there are some defenses available. A preference in a consumer bankruptcy case must be $600.00 or more (made in a single payment or as a total of multiple payments made during the 90 day period) before a trustee can bring a lawsuit to recover the preference; for businesses, the minimum ante is $5,850.00 or more.. One example for consumers: big paydowns on a credit card debt in the 90 day period, especially if the credit card company has stopped any new charges on the card. Businesses know all too well that money that comes in from a troubled account receivable is money that may just be making a brief visit to their bank accounts. There are defenses a creditor can raise -- but that's a separate post.

2.                  Avoid and recover payments a debtor made to his or her “insiders” on outstanding debt in the period one year prior to the date of the bankruptcy filing. These are called “insider preferences”. Who is an “insider”? The usual suspects are your spouse, your parents, your kids, your brothers or sisters, aunts and uncles, grandparents, your in-laws – pretty much anyone related to you by blood or by marriage. Your good friends and your employer are also possible insiders, depending on the closeness of your relationship with them. If you are in business, insiders include anyone who is your partner or who has a significant investment in your business. If you are a corporation or an LLP, the insider category includes the members, directors, officers, and any person who controls 20% or more of the shares or voting power in the business. 

       One quirk is that, if the payment is made within the year but before the three month period prior to a bankruptcy filing, the trustee has to prove that the debtor was “insolvent” at the time of payment – i.e., that the amount of your debts due and owing exceeded the fair value of your assets. In the ninety day period prior to the bankruptcy filing, you are “presumed” to be insolvent, and the trustee does not have to provide evidence on this issue unless the preference defendant comes up with evidence to the contrary. A typical example of a consumer “insider preference” is repaying Mom and Dad for the loans they gave you to help you get over the hump.

3.                  Avoid and recover transfers of your property made for less than a fair payment for the value of the property, if you were “insolvent” at the time (see definition of “insolvency” above). These are called “fraudulent transfers,” and can be very simple or very complicated to try. Simple cases include transferring your house to your spouse or a relative in a deed that recites “for consideration of less than $100.00” – always a bad idea (even for “estate planning” purposes) and usually can be undone by a trustee, if the trustee proves you were insolvent at the time.  Suppose you weren’t insolvent at the time, but you were expecting a big judgment against you or planned to take on a lot of debt in the near future – this is still a “fraudulent transfer” of the “intentional” variety, because you were deeding over the property with the idea of protecting it from your present and future creditors. And the trustee can still get it back.

4.                  Avoid defective liens on your property. If you have a mortgagee or other lien creditor who failed to cross all the “t”s and dot all the “i”s when that creditor took a lien on your property, the trustee can step into the shoes of an imaginary judgment lien creditor or a bona fide purchaser of your property, avoid the bad lien, and take the place of that creditor in the “priority” of distribution on that property – if the defective mortgage would have been first in line for the proceeds of the property’s sale, the trustee takes the place of that mortgagee. One illustration – your mortgage lender records a mortgage on your property with the wrong description of the property attached – the trustee can pretend that he or she is a judgment lien creditor on your property, get rid of the mortgage, and take the mortgage’s place on the property (leaving your mortgage lender with only a general claim in the case and no lien).

Let’s leave the unpleasant topic of “avoidance” and move on to another subject: “abandonment”. In general, a debtor's bankruptcy estate includes all of his, her or its property of whatever kind, wherever located, in whatever manner the debtor holds it (i.e., in the debtor's own name or through a trust), and whether or not the debtor lists it in the schedule of assets filed with the bankruptcy court. If you are a debtor, listing all of your property in your asset schedules is important for many reasons, not the least of which is that listing the property gives the trustee the opportunity to look over the property and decide whether or not the trustee wants to sell the property. Listing all property owned also allows the debtor to claim “exemptions” in certain property, which will prevent the trustee from selling or taking all of the sale proceeds of that property.

 If the trustee decides that he or she cannot sell certain property, that the property is worthless, or decides that he or she does not want the burden of maintaining and insuring the property, the trustee has two options:

A.                 The trustee can decide to take the property out of the bankruptcy estate immediately, and file a “notice of abandonment” with the bankruptcy court. If enough time passes and there is no objection, the debtor will get back control of the abandoned property; however, the automatic stay also stops protecting the property.

B.                 The trustee can hold onto the property until he or she decides to make a final distribution to your creditors and close the case. The legal effect of closing the case is to abandon all property not otherwise sold or previously abandoned back to the debtor. The closing of the case also ends the automatic stay as to all property abandoned.

Important point to remember: if the debtor doesn’t disclose something he, she or it owns (like a lawsuit for injury) and the trustee closes the case, the property is not really “abandoned” because the trustee never had a chance to decide whether or not to turn that property into cash for creditors. There are many consequences – civil and criminal -- coming to the debtor who hides property from a trustee, but one sure consequence is that a case can be “reopened” to deal with newly discovered property that should have been disclosed when the case was originally open. When in doubt, disclose!

Vocabulary Words and Quick Definitions from an Impudent Lawyer :

“Trustee in Bankruptcy” – All powerful being whose sole purpose is to locate property in your case to turn into cash and pay it out to your creditors.

“Avoidance Power”  --  A trustee’s right to take back what is yours, even though you gave it to someone else. Also, a trustee’s right to jump on any mistake a creditor made in putting a lien on your property, and take advantage of that creditor’s misfortune.

“Preference” – A payment you make with a three month string on it, attached to a trustee’s fishing line.

“Insider” – People you know and love, in whom the trustee takes an unnatural interest.

“Insider Preference” – A payment with a one year string on it, sitting in the pocket of someone you know and love.

“Insolvency” – Owing champagne debt and having only beer money to pay for it.

“Presumption” – A fact known to be absolutely true unless and until it is shown to be completely false.

“Fraudulent Transfer” – Giving someone much, much more than you ever get back from them.

“Intentional Fraudulent Transfer” – Giving someone much, much more than you ever get back from them, and liking it that way.

“Priority” – Your creditors’ grown-up version of “King of the Hill,” using your property as the hill.

“Abandonment” – The trustee’s rejection of unloved property.

“Exemption” – Limited protection for your house, your car, and for any of your property that a trustee probably couldn’t sell anyway.  

©Kevin C. McGee