Bankruptcy is a powerful tool that can once and for all eliminate your debt problems. And while bankruptcy is a lot less painful than most imagine, there are certain pitfalls that can make the process a whole lot more complicated. In this post I am going to discuss 13 pitfalls of bankruptcy – most of which can be avoided with a little planning.
Here we go…
#1 – Money in Your Bank Account
On the day that your bankruptcy case is filed Arizona exemption law only allows you to have $300 total among all of your checking/saving accounts ($600 for married couples). If you have more than $300/$600 among your bank accounts on the day your bankruptcy is filed then you will be required to turn over those excess funds to your bankruptcy trustee who will then distribute the money to your creditors.
It is important to understand that this only applies to the money in your bank account on the day your case is filed. After the bankruptcy is filed you can then continue to use your case as you did prior to your bankruptcy filing.
With a little planning you can avoid having to turn any additional funds over to the bankruptcy trustee. Here are the Arizona Consumer Law Group we help clients plan out when their case will be filed and avoid filing when there are large sums of money in the account, for example on pay day.
Pro Tip: It is important to understand that you cannot simply withdraw money from your account, file your bankruptcy, and then re-deposit the money back into your bank account after your case is filed. The $300/$600 limit applies to total cash on hand, whether it is in your bank account or at home under the mattress. If you have more than the exempt limit it is important to work with your bankruptcy lawyer to plan how those funds can be spent down prior to your filing.
#2 – Cash Advances on Your Credit Card
Once you make the decision to file for bankruptcy you should stop using your credit cards. If you take out a cash advance on your credit card within seventy (70) days prior to the filing of your bankruptcy the law imposes a presumption that the debt associated with the withdrawal does not go away.
For example, if you take a cash advance of $1,000 on your credit card thirty (30) days prior to the filing of your bankruptcy there is a presumption that the $1,000 cash advance will not be eliminated with your other debts in your bankruptcy case.
However, even though I don’t recommend you take a cash advance it is also important to note that the credit card company would be required to come into your bankruptcy case and file paperwork with the court requesting that an order be entered stating that the $1,000 was not eliminated in your bankruptcy.
If the credit card company doesn’t do this, the debt goes away with all of the others.
#3 – Luxury Purchases
The Bankruptcy Code also states that if you use your credit cards to purchase “luxury items” within ninety (90) days of your bankruptcy filing that there is a presumption that these debts do not go away. What does the bankruptcy court consider a luxury item? The Bankruptcy Code doesn’t tell us exactly what constitutes a luxury item, but courts have rendered decisions that state that things like groceries and gas for your car are not luxury items and would be eliminated just like any other debt.
Also, like the example above on cash advances the credit card company must come into your bankruptcy and make an appearance and file a formal objection to those specific charges. If they don’t do that the debts are eliminated.
#4 – Payments to Friends and Family within 1 Year Prior to Your Bankruptcy Filing
I have found that when people file for bankruptcy they often feel terrible that they aren’t able to pay back all of their debts – especially when the person they owe is a close friend or family member. Because of this I am often asked if it is okay to pay the family member or friend (also known as an “insider” in the bankruptcy world) before the bankruptcy is filed. That way you don’t have to feel like an idiot at next year’s Thanksgiving dinner because you included the debt to your brother in your bankruptcy case.
The problem is, if you owe money to an “insider” and make payments on the debt in the year leading up to your bankruptcy filing, those payments are considered a “preference” and can be recovered by the bankruptcy trustee.
For example, let’s say you owe your brother $10,000 and you have been religiously making monthly payments to your brother of $300 for the last year. Because you are related your brother is considered an “insider” and all of the payments you made on the debt you owe your brother can be recovered by the bankruptcy trustee. They can literally ask your brother to turn all of that money over to the trustee and then the trustee will take the funds and disburse them to your creditors.
What if your brother won’t turn over the money? They sue him – making that next family reunion super awkward.
Most bankruptcy trustees in Arizona will give you an opportunity to pay the money to the trustee so that they don’t have to bother your brother in this example, however the better route to go is if you know you may need to file for bankruptcy to stop making payments to any insider.
#5 – Payments to Unsecured Creditors within 90 Days Prior to Your Bankruptcy Filing
Similar to the rule above, if you pay an unsecured creditor within the 90 days prior to the filing of your bankruptcy case the bankruptcy trustee can contact the creditor and ask for the money back. Then, once they have the money, they will distribute it out to creditors evenly.
For example, let’s say that within 90 days prior to filing for bankruptcy you pay a photographer for the wedding pictures they took of your wedding. The bankruptcy trustee can go and demand that those funds be paid back to the bankruptcy estate and then distributed to all of your creditors.
For many people this is not as awkward as the recovery of money paid to an insider as you don’t have the relationship to worry about with a general creditor that you have with your family members or friends. However, if you want to continue to do business with the photographer mentioned above, you would need to figure out a way to get this amount paid so that they don’t have to hand over the money you paid them.
#6 – Sale of Property for Less than Market Value
Sometimes people think they can game the system by transferring their assets out of their name prior to the filing of their bankruptcy. But…it isn’t that easy. Millions of people have filed for bankruptcy and the courts and bankruptcy trustees know all the tricks. And the law prevents you from transferring your assets out of your name and then filing for bankruptcy (at least it prevents you from getting away with it).
If you sell something prior to the filing of your bankruptcy case you must sell it for approximately what it is worth. For example, let’s say you have a boat that is worth about $5,000 and want to sell it prior to filing for bankruptcy. If you were to sell it in a legitimate sale for $4,800 and title actually transferred then there wouldn’t be a problem with you filing for bankruptcy.
However, if you sold that same boat for $200 – far less than what it is worth – then the bankruptcy trustee could go back and void that sale, get the boat back, sell it for what it is worth, and give that money to your creditors.
If you are thinking of filing for bankruptcy and are needing to sell something, ask your lawyer first, and then make sure you sell it for what it is worth and that money actually changes hands.
#7 – Non-Homestead Real Estate
In Arizona the homestead exemption protects up to $150,000 in equity in your home. However, if you have a cabin, condo, or some other sort of real estate in your name, and if that property has any equity in it, then there is no homestead exemption and the bankruptcy trustee will step in and sell the property, paying off any liens on the property and then taking the money and paying it out to your other creditors.
If you have real estate that is not your personal residence, and you have equity in it, then you may want to look at a chapter 13 bankruptcy and for sure discuss this situation with your lawyer.
#8 – Real Estate Outside the State of Arizona
As referenced above, the homestead exemption in Arizona is $150,000. In order for your home to be protected under the homestead exemption you must utilize the property as your home and the property must be located in the state of Arizona. If you own a cabin in southern Utah or a condo on the beach in California you will not have any homestead protection in those properties and would lose them in a bankruptcy.
#9 – HOA Fees Incurred After the Filing of the Bankruptcy Case
In Arizona homeowner’s associations have a huge amount of power (too much if you ask me). If you do not pay your HOA assessments after your bankruptcy case is filed those charges do not go away and your HOA will be able to pursue you – and in most cases lien your home – if you don’t get them paid.
Pro Tip: HOA fees that you have prior to your bankruptcy will be eliminated unless the HOA has a lien on your property. If the HOA has secured a lien against your home then the debt is considered secured and will not be eliminated in your bankruptcy case.
#10 – Inheritance Within 6 Months After Filing for Bankruptcy
In a chapter 7 bankruptcy the income you receive after your case is filed is largely irrelevant to the bankruptcy court. However, if you become entitled to an inheritance within 180 days (approximately 6 months) after your bankruptcy case is filed, you must notified your lawyer and the bankruptcy trustee and your inheritance can then be seized to pay your creditors.
It is important to understand that the law states that if you become entitled to an inheritance within 180 days, not that you have received an inheritance within 180 days. This means that if you know you are listed in someone’s will and will receive an inheritance upon their death, and then they do die, you become entitled to the inheritance upon their death, even though you won’t receive the inherited property until later.
#11 – Personal Injury Claims
If prior to the filing of your bankruptcy you are injured and become entitled to a settlement or payout due to your injuries, those funds can be seized by your bankruptcy trustee if they are received after your bankruptcy case is filed.
It is important to let your bankruptcy lawyer know if you have been in an accident or expect some type of settlement or payout so that your lawyer can properly advise you as to when your bankruptcy case should be filed. Often it is better to wait until the personal injury claim has been settled and paid before jumping into a bankruptcy case.
#12 – Tax Refunds
If you file a chapter 7 bankruptcy you will likely lose part or all of your tax refund. If you file a chapter 13 bankruptcy there is a good chance you will lose your tax refunds for the years your case is pending (usually 5 years).
Chapter 7 & Tax Refunds – How much you will lose of your tax refund if you file for chapter 7 bankruptcy will depend on what time of year you file your case. Here are a few guidelines on what you can expect if you file your bankruptcy during the following months:
- January – April: If you file bankruptcy during the first part of the year it is best if you file your tax return first, obtain your refund, and then use it prior to filing your bankruptcy case. Talk with your lawyer about appropriate things you can spend it on. If you file for bankruptcy, and then receive your tax refund you will be required to turn over the entire refund for distribution to your creditors.
- May – December: If you file your bankruptcy after April and anytime up through December you will be required to turn over a portion of the tax refund you receive the following year. The amount you pay will be based upon the month of the year you file in. For example, if you file for bankruptcy in July, then the following year you would be required to pay 7/12 (or about 58%) of your tax refund to your creditors – this is because you filed in the seventh month (July) of the year. Here is a simple charge to give you an estimate of how much of your tax refund you will have to turn over based upon the month you file your bankruptcy case:
|Bankruptcy Filing Month||Approx. % of Tax Refund to Be Turned Over|
Chapter 13 & Tax Refunds – A chapter 13 bankruptcy is a different beast altogether. The typical chapter 13 case last 3 to 5 years in length. During that time period the bankruptcy trustee is going to give you two options when it comes to tax refunds. First, you can adjust your with holdings on your paycheck so that you keep more of your pay and thus reduce your chances of getting a large tax refund (click HERE to find out how to find out what your tax with holdings should be). If you change your withholdings you shouldn’t have to turn over tax refunds you receive.
An alternative is to keep your withholdings where they are and then if you get a tax refund each year you can turn it over to the chapter 13 trustee for distribution to your creditors.
#13 – Wages that are Earned, But Not Paid Prior to Bankruptcy
This last one is a sneaky way some bankruptcy trustees try and come after additional money for your creditors. If you have earned pay but don’t receive it until after your chapter 7 bankruptcy case has been filed, some bankruptcy trustees in Arizona will make a demand that you turn over 25% of those funds received after your bankruptcy case was filed.
This one is a little confusing, so let me provide you with an example – let’s say you had done a job before you filed for bankruptcy and had earned your pay in full. Let’s say the agreed upon wage was $1,000. However, your employer doesn’t pay you the $1,000 for a couple of weeks l – after you have filed for bankruptcy. Typically money you are paid after filing for bankruptcy is not part of your case and the trustee can’t come after it.
However, the trustees in Arizona make the argument that if you earned the money before you filed, but weren’t paid until after filing, then they can still come after it because it was technically earned prior to the filing of your bankruptcy case.
It is important to note that 75% of wages in Arizona are exempt. This means that even if the trustee is coming after earned but unpaid wages, the trustee can only come after 25% of those wages.
The most common scenario I run into with this one is with real estate agents. Typical scenario goes like this – real estate agent has done everything necessary to complete the sale of a home but the commission hasn’t been paid yet because the house hasn’t closed yet. In a scenario like that the bankruptcy trustee would be able to make a claim to 25% of the commission for distribution to your creditors.
The best way to work around this is if you have a large commission check coming or paycheck, then it may be best to wait until the commission is paid and spent prior to filing for bankruptcy.
Be Careful Out There!
The point of this article is to help you avoid some of the grief that can come along with a consumer bankruptcy case. Many (if not all) of these pitfalls can be avoided with a little planning and the help of a good bankruptcy lawyer. The problems often hit the unweary the hardest resulting in a really painful bankruptcy experience.
If you are in need of help filing for bankruptcy give us a call. I offer a free consultation and am happy to walk you through the bankruptcy process and go over your options – John Skiba, Arizona Consumer Law Group, (480) 420-4028.