A debtor facing creditors can take steps to protect assets prior to filing for bankruptcy. The primary way to legally protect assets is to convert assets that are not exempt into exempt assets. For example, conversion of a nonexempt retirement account into an exempt one could shield your assets from creditors.
Legislative Support for Prebankruptcy Planning - Jurisdictional Split
The federal Bankruptcy laws and most state laws allow for the conversion of nonexempt assets to exempt assets. This is not considered fraudulent but merely an allowance for debtors to take full advantage of existing exemption guidelines. The legislation allows for this conversion even if it is done in contemplation of filing for bankruptcy and/or with the intention of placing assets beyond the reach of creditors.
However, some states have placed state level restrictions on these transfers and the courts have ruled that transfers on the eve of bankruptcy are fraudulent transfers.
While most federal courts have held that the federal bankruptcy law preempts any state restrictions, the decisions have not been uniform. Furthermore, there is a split in decisions on whether the federal law preempts state restrictions in state courts.
How Is the Propriety of Prebankruptcy Planning Assessed?
In evaluating whether a prebankruptcy transfer is allowable or fraudulent, the courts generally consider whether the debtor/transferor:
- retained possession or control of the property transferred after the transfer
- concealed the transfer or obligation
- absconded, or
- removed or concealed assets
What Are the Penalties for Improper Prebankruptcy Planning?
The courts can impose one of several penalties if there is improper prebankruptcy planning:
- Complete denial of bankruptcy discharge
- Denial of exemption either on the state or federal level
- Dismissal of bankruptcy petition
Do I Need a Bankruptcy Attorney?
The interpretation of laws allowing prebankruptcy planning varies significantly depending upon the jurisdiction. If you are contemplating a transfer of assets to protect your property while facing debt or bankruptcy, consulting an experienced bankruptcy attorney can help you determine what is allowable in your particular jurisdiction.