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Sometimes simpler is not better.  Sometimes cheaper is more expensive in the long run.  Those thoughts occurred to me after meeting with a new client regarding her financial problems.  The client, a 61-year-old single women earning $14 per hour, was struggling to pay $9,000 of credit cards.   Her income had declined after a change in jobs and there was simply not enough money left over to pay the credit cards after paying the mortgage, utilities, the car payment and a home equity loan she obtained to pay off previous credit card balances.

On the surface, this was an easy Chapter 7 case.  I say that because she was well below the Nebraska median income level of $40,429 and she had no unprotected assets.  To file Chapter 7 a person’s income  cannot be too high and they can protect only so many assets.  This client had no problems with either of these issues and I believe most attorneys would have recommended that she file Chapter 7 to alleviate the monthly credit card payments. 

this client did not belong in a Chapter 7 case and the cheapest attorney hired would probably be the most expensive choice in the long run

Some clients may have elected to file their own case based on these factors to save themselves the cost of hiring an attorney, and since this is an easy Chapter 7 the only real difference in the attorney chosen would be the price they would charge.  The only problem with this view is that this client did not belong in a Chapter 7 case and the cheapest attorney hired would probably be the most expensive choice in the long run.

My recommendation is that the client file Chapter 13.  I make this recommendation based on the following facts:

Chapter 13 Lien Stripping: The client owned a home worth $86,000 that was subject to a mortgage loan of $96,000 and a Home Equity Line of Credit (i.e., a second mortgage) of $8,500.  By filing Chapter 13 the client would be able to strip the home equity loan.  Lien Stripping is a procedure to discharge and remove a second mortgage through the bankruptcy process, and that option is not available in Chapter 7.  So, filing Chapter 13 removes an additional $8,500 debt.

Chapter 13 Cramdown: The client owed $18,000 for a truck purchased in 2007, and the value of the truck today was only $12,000.  Chapter 13 allows a debtor to pay only what the vehicle is worth today if the vehicle was purchased more than 910 days (about 2.5 years) prior to the bankruptcy.  In addition, Chapter 13 allows a debtor to pay a lower interest rate on the vehicle loan of 5.25%.  In this case, the monthly bankruptcy payment would be less than what the client was currently paying on the truck loan each month.

As you can see, Chapter 13 saves the client an additional $8,500 on the home equity loan and $6,000 on the vehicle loan plus all the associated interest savings.  Although Chapter 7 is faster (cases are completed in about 90 days) and cheaper in the short run, a 3 to 5 year Chapter 13 is clearly the better option in this case.  Sometimes simpler is not better.  Sometimes cheaper is more expensive in the long run. 

Pretty Girl in CarThe Nebraska Bankruptcy Court has issued a new opinion extending greater protection to vehicles owned by unemployed debtors.  In the case of Angelita Quintero decided on August 22, 2012, the Court expanded the “Tool of the Trade” exemption provided under Neb. Rev. Stat 25-1556(4) which allows up to $2,400 of protection for a vehicle used in a business or used by a debtor to commute to and from work. The Court extended the protection to debtors who are temporarily unemployed and who intend on returning to the workforce.

“In liberally construing the exemption statutes, this court has been receptive to the statutory interpretation that a debtor need not be currently employed in order to claim a tool of the trade exemption in a vehicle, as long as there is evidence the debtor is only temporarily unemployed as of the petition date and intends to resume working.”

In addition to the Tool of the Trade exemption, Nebraska debtors are also able to protect the equity of their vehicle under the “Wildcard” exemption Neb.  Rev. Stat. 25-1552 which protects up to $2,500 of any personal property.  Thus, debtors are able to combine the Wildcard and Tool of the Trade Exemption and protect up to $4,900 of equity in their vehicle. 

The Quintero decision will help many unemployed debtors who were facing the grim prospect of losing their vehicle while searching for a new job.

entrepreneur.jpgI had coffee with a great friend of mine who began his own bankruptcy practice a few years ago.  He explained that he recently acquired a very difficult case involving a debtor with a high paying job and he expected a brutal Chapter 13 confirmation process—i.e, he expected the Trustee to demand a significant monthly payment.  Apparently the debtor had bad luck in a business venture and was now deep in SBA loan debt requiring a bankruptcy despite his job that paid a six-figure salary.  As I continued to question my friend about the nature of his client’s debt, it became clear that the majority of his debt came from the business failure.  The good news for my friend and his client is that there would be no brutal Chapter 13 confirmation hearing.  In fact, there would not even be a Chapter 13 case at all.

One of the greatest loopholes in bankruptcy law allows debtors with high income to qualify for the speedy Chapter 7 discharge even though it is obvious that they have the financial ability to repay some or all of their debt.  Generally speaking, if a debtor has the ability to repay some or all of his debt, then Chapter 7 is not allowed and a debtor must commit to repaying a portion of the debt in a 3 to 5 year Chapter 13 payment plan.  However, if a majority of the debt is not consumer debt a person is allowed to file Chapter 7 regardless of their income or ability to repay debt. 

Bankruptcy Code section 707(b) provides the general rule:

“After notice and a hearing, the court, on its own motion or on a motion by the United States trustee, trustee (or bankruptcy administrator, if any), or any party in interest, may dismiss a case filed by an individual debtor under this chapter whose debts are primarily consumer debts, or, with the debtor’s consent, convert such a case to a case under chapter 11 or 13 of this title, if it finds that the granting of relief would be an abuse of the provisions of this chapter.”

Omaha millionaire Ted Baer was allowed to complete a Chapter 7 case despite objections filed by a creditor and a monthly budget that allowed $4,580 for retirement savings, $2,000 of food expenses and $1,500 per month for vehicle payments on monthly income of $20,065.  Why?  Because most of his debts were business related.

In the case of Dr. Steven Lapke, (Case number 07-81140) the Nebraska Bankruptcy court stated the following:

“For purposes of § 707(b), a debtor’s debts are primarily consumer debts if more than half of the dollar amount owed is on consumer debts. In re Coleman, 231 B.R. 760, 761 (Bankr. D. Neb.1999); In re Shelley, 231 B.R. 317, 319 (Bankr. D. Neb. 1999); accord Price v. U.S. Trustee (In rePrice), 353 F.3d 1135, 1139 (9th Cir. 2004); In re Booth, 858 F.2d 1051, 1055 (5th Cir. 1988); In re Beacher, 358 B.R. 917, 920 (Bankr. S.D. Tex. 2007); In re Snyder, 332 B.R. 641, 643 (Bankr.M.D. Fla. 2005); In re Praleikas, 248 B.R. 140, 144 (Bankr. W.D. Mo. 2000). This calculation is to be made as of the date of bankruptcy filing. In re Penny, 297 B.R. 737, 739 (Bankr. C.D. Ill. 2003).”

Debts normally classified as “consumer” debts include credit card debt, medical bills, student loans, home mortgages and auto loans.

Bankruptcy attorneys frequently assume the nonconsumer debt exception only applies to business debts, however it also includes tax debts, personal injury claims and other tort debts.  If credit cards were used primarily to fund business operations, that too may be deemed a nonconsumer business debt.  Some debtors have argued that student loan debts are not consumer debts but have received little success. 

If the majority of debts are not consumer debts, it is important that the bankruptcy schedules reflect this fact.  The list of debts in such a case should specifically state whether each debt is a consumer or nonconsumer debt, and it is helpful to provide the U.S. Trustee with a worksheet that totals each type of debt.

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Contrary to popular belief, a taxpayer may discharge income taxes in bankruptcy as long as the bankruptcy is not filed too soon after the tax return is filed.  As a general rule, you can discharge income taxes that become due more than 3 years before filing bankruptcy, as long as it has been at least 2 years since you filed the tax return and more than 240 days since the taxes were assessed.

Bankruptcy is a game of timing.  File a case one day too soon and the taxes are not discharged.  File a day later and all of the tax is discharged.  A wise bankruptcy attorney and an educated client will want to verify the assessment date of the income taxes owed by obtaining an Account Transcript for each year taxes are owed.  IRS Form 4506 provides a taxpayer with a free copy of their account transcripts.

To discharge income taxes in bankruptcy, a few rules need to be observed:

  1. Only income taxes and taxes on gross receipts may be discharged.  Payroll taxes are not dischargeable in bankruptcy.
  2. No Substitute Returns: The taxpayer must actually file the return to discharge the tax.  If the IRS files the return (sometimes called a SFR or “substitute for return”), the tax is not dischargeable.
  3. Three-Year Rule: The taxes must have been due more than three years prior to filing bankruptcy.
  4. Two-Year Rule: The tax return must have been filed more than two years before filing bankruptcy.  So, if you filed a return a few years after it was due, the return must be on file with the IRS for at least two years before it can be discharged.
  5. 240-Day Rule:  The taxes must have been assessed more than 240 days prior to filing bankruptcy.  This rule comes into play when the IRS audits a tax return and assesses additional taxes or penalties.  So, if the IRS audits your return filed 5 years ago and assesses new taxes and penalties, you must wait another 240 days to file the bankruptcy.
  6. Fraud & Tax Evasion: If a taxpayer may not discharge taxes when they commit tax fraud or if they willfully evade taxes.
  7. Offer in Compromise:  If a taxpayer files an Offer in Compromise before the time rules above have expired, the above timelines are extended by the time an Offer in Compromise is pending plus 30 days.
  8. Tax Liens:  As a general rule, bankruptcy cancels debts and not liens.  So, even though a tax may be old enough to discharge, the tax lien will remain on the taxpayer’s property despite receiving a bankruptcy discharge.  In Chapter 7 cases, the mixture of tax liens and assets with equity—regardless of whether an exemption law normally protects the asset—becomes lethal with the application of Bankruptcy Code Section 724(b).   The IRS is not subject to state exemption laws, and Section 724(b) gives the Chapter 7 Trustee special powers to liquidate assets if a tax lien is present.

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In every state there exists a list of property that is protected from creditor garnishments and property seizures.  We call these laws Exemptions.  In theory, these laws are designed to prevent creditors from taking away everything a person owns, but in practice few debtors know how to assert their exemption rights and they often lose every dollar they own when creditors garnish their bank accounts.

Nebraska law provides a fairly decent list of exempt property, but the court procedure to claim exemptions is confusing to the average judgment debtor.  I have actually consulted with a former county prosecutor who lost his home because he did not know how to claim the Homestead exemption.  The required court forms that are supposed to be mailed to a judgment debtor when a garnishment is issued are vague and confusing. The forms do a poor job of explaining the procedure and provide no guidance to claim exemptions.  Senior citizens frequently lose their Social Security benefits—a protected asset under federal law—because they simply do not know how to object to the garnishment.  New federal regulations have curbed that practice, but the problem still exists.

I estimate that 99% of all Nebraska bank account garnishments could be stopped if a person properly claimed their exemption rights.   Nebraska Statute 25-1552 protects up to $2,500 of any personal property, including bank deposits.  Married debtors may protect up to $5,000 in their joint bank accounts. 

This is what must be done to stop a bank account garnishment and most other property seizures as well.

  1. Request a Court Hearing.  Nebraska law requires a judgment debtor to file a written request for a garnishment hearing with the Clerk of the Court within three (3) days after receiving the garnishment notice.  Holy Cow!  Just 3 days for an unrepresented individual to figure out how the request a court hearing?  Yes, that is the rule and it is one of the harshest court rules out there.  The court forms mailed to the judgment debtor should include a form to request the hearing, assuming the creditor was honest enough to send the form. (Depending on a judgment creditor to send out the official forms is akin to asking a fox to guard the chickens, but that is our law.  Hmm . . .  maybe our legislators should rethink that procedure and have the Clerk of the Court mail the notice and allow debtors 30 days to respond.  Just a thought.)
  2. File an Inventory of All Your Property. To assert one’s exemption rights, Nebraska Statute 25-1552 requires a debtor to provide a complete list of all their property, not just the bank account. This includes all real property (homes, land, farms) and personal property (cars, furniture, bank accounts, etc.).
  3. List the Liens Against Property.   If a property item is subject to a creditor lien, such as a home mortgage or auto loan or furniture loan, list the name of the creditor and the amount owed next to each property item. 
  4. Claim the Exemption Law.  A judgment debtor must specify the particular exemption law they are claiming for each property item listed.   There are about a dozen common exemption laws utilized in Nebraska plus a few federal exemption laws that are available as well.  Some exemption laws are specific to certain type of property, such as the Homestead Exemption of 40-101 that protects the equity of a person’s residence, while other exemption laws may be applied to different types of property, such as the “wildcard” exemption of 25-1552. 
  5. Show Up for the Exemption Hearing.  As a general rule, you lose every hearing you fail to attend.  The Clerk of the Court will normally mail a notice of when the court hearing will take place, but it is generally wise to call the Clerk if you do not receive notice of the hearing within 7 days. 

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Recently, a new client filed an emergency bankruptcy petition to stop a trial that was scheduled to take place later that week.  (An emergency petition is a case where the debtor does not file all the asset, debt, income and expense schedules but must later file those missing schedules within 14 days.  When foreclosures and garnishments are pending, sometimes there just is not enough time to file the complete schedules, so an emergency petition is prepared.)  The client was separated from his wife and it appeared that they would both benefit if a joint bankruptcy case was filed.  Unfortunately, he was unable to reach his wife before the trial date, so he filed the bankruptcy case himself.

Can a spouse be added to a bankruptcy case after it is filed?  

Although it is possible to amend a petition to add a spouse, bankruptcy courts will deny such a request unless the petition is amended immediately after the case is filed.  The courts generally decline to allow a spouse to join in a case after a cas is filed since this is often perceived to compromise the rights of creditors.  Other courts have ruled that there is no authority in the Bankruptcy Code to add spouses to the case even in cases where an amended petition is filed immediately.  (See In re Buerman, Case number 03-74382, Western District of Arkansas).

A spouse may file his or her own case and then apply to consolidate two separate bankruptcy cases, but this is rarely done since consolidating cases is not usually advantageous and there are extra court and legal fees to consolidate cases.  Consolidating cases only makes sense if two debtors are in Chapter 13 payment plans involving many joint debts that are better administered in a single case.

The benefits of filing a joint case is that it saves debtors additional filing fees and legal fees since the cost of a joint case is typically no more than filing a single case.   

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Wells Fargo, Regions Bank, US Bank and other lending institutions have recenty entered the payday loan market through a new banking product called Direct Deposit Advances (DDA).   According to professor Alex Mikulich of Loyola University in New Orleans, the banks are offering short-term loans charging interest rates of 365% to bank customers that have paychecks or Social Security benefits directly deposited into their bank account. (Here is the link to professor Mikulich’s article, The Payday Shark in Your Bank Account.)

“DDAs are attractive because banks make them easy to get at a branch an ATM, or over the phone, 24 hours a day, seven days a week. “Ready Advance” is just a click away inside of an online account at Regions. Many borrowers assume they have gotten a low-cost cash advance rather than a loan.  Borrowers may think that the 10% fee on $100 is cheaper than other credit (like 18% on a credit card) but $10 for a $100 loan repaid in ten days, which is a typical bank DDA (payday) loan term, is 365% APR.”

If a bank’s customer takes out a DDA loan, the bank pays itself back when the next Social Security check or paycheck is  directly deposited into the account.  Of course, if there are insufficient funds to repay the loan the customer will incur overdraft fees, thus resulting in additional bank profits.  Loans not repaid within 35 days may result in the bank closing the account.

In the short run bank will make an amazing profit on these new products, but at the cost of losing a substantial number of customers in the long run and creating a hostile collection environment with customers.  The trend of subprime lending that eventually lead to the mortgage meltdown crisis seems to be resuming at an alarming rate.  

One of the first items I address to all new clients is to warn them to change bank accounts if they are contemplating bankruptcy if they owe their bank money.  Banks have the right to freeze a bank account and to transfer all the funds in the account to any unpaid loan or line of credit owed to the bank on the date the bankruptcy is filed.  For this reason, I strongly urge new clients to keep their deposits (checking and savings accounts) and their loans in separate banks if they are filing bankruptcy. In short, if you owe your bank money, get a new account at a different bank.

 

 

92135139.jpg  The date a Chapter 7 petition is filed is generally the cut off date for measuring the property of a debtor, but two major exceptions exist.  Property acquired by bequest, devise or inheritance or marital settlements received within 180 days after the case is filed is also included in the bankruptcy estate. Bankruptcy Code Section 541(a)(5).  In other words, a debtor may lose inheritance or divorce settlements they become entitled to within 180 days after the bankruptcy is filed.

Most debtor attorneys know this rule well since Chapter 7 Trustees remind every debtor at court to report any inheritance they receive within the next 6 month.  However, bankruptcy attorney Kathy Moran reminds us in her excellent Bankruptcy Mastery blog that not all death benefits necessarily constitute “bequest, devise or inheritance” under 541(a)(5)(A). 

A bequest and devise are transfers of property pursuant to a will.  But what if the deceased did not leave a will or if the transfer was pursuant to a nontestamentary transfer such as “payable on death” account or a Living Trust?  To learn that answer, we must define what the term “inheritance” means under 541(a)(5)(A).

The bankruptcy code does not define the word inheritance.  Black’s Law Dictionary defines “inheritance” as property “received from an ancestor under the laws of intestacy,” or as property “that a person receives by bequest or devise.” Black’s 853 (9th ed. 2009).

Recently, the bankruptcy court for the Northern District of Iowa ruled that $21,269 received by a debtor who was named as the payable on death beneficiary of a Certificate of Deposit was not “inheritance” and the debtor was allowed to keep the money.  (In re Kilstrom, 2011 Bankr. Lexis 955).    In another case a California bankruptcy court ruled that benefits received under a Revocable Living Trust were not subject to a claim of the Chapter 7 Trustee. (Zimmermann v. Spencer (In re Spencer), 306 B.R. 328 (2004).)

Given these cases, it is important for attorneys not to automatically assume that every death benefit received within 180 days of filing bankruptcy is property of the bankruptcy estate.  In addition, cases converted to another bankruptcy chapter under Section 348 complicate this analysis significantly.

It is important for a debtor to inform their attorney if they expect to receive inheritance in the near future.  If a debtor’s parents are in poor health, it may be wise for them to speak with their attorney about revising their will. 

There is a limit as to how much property is protected in bankruptcy, and debtors who own a 126216941.jpgsignificant amount of property are frequently tempted to transfer the property out of their name before the case is filed.  Anticipating this temptation, bankruptcy laws give the Chapter 7 Trustee the power to retrieve the transferred property through what are known as fraudulent conveyance laws.  To make matters worse, in most cases I have reviewed involving such transfers, the property would have been protected had it remained in the debtor’s possession. 

What is a Fraudulent Conveyance?

Generally speaking, a Nebraska Chapter 7 Trustee may void transfers of property made within four years of bankruptcy if the property was transferred without receiving something of equal value in exchange.

Bankruptcy Code Sections 544 and 548 provide the rules involving fraudulent transfers, and to succeed in voiding a transfer the Trustee must prove that  “(1) an interest of the debtor in property; (2) was voluntarily or involuntarily transferred; (3) within [four years] of filing bankruptcy; (4) where the debtor received less than reasonably equivalent value; and (5) debtor was insolvent at the time of the transfer or became insolvent as a result thereof. Schnittjer v. Houston (In re Houston), 385 B.R. 268, 272 (Bankr. N.D. Iowa 2008).

New Cases.

Two court rulings impacting Nebraska bankruptcy cases in this area were recently decided.  On November 16, 2007, debtor Mary Joan Lumbar signed a Quitclaim Deed transferring her home to her parents, and then filed a Chapter 7 case on December 24, 2008.  The Minnesota bankruptcy court ruled that even thought the home was transferred for less than fair value, the transfer was protected since had the debtor not transferred the home it would have been protected under the Minnesota homestead exemption.  The Court essentially applied a “no harm, no foul” rule.  However, the Eighth Circuit Bankruptcy Appellate Panel disagreed and stressed the fact that  debtor loses the right to exempt property once it is transferred out of the debtor’s name. Sullivan v. Welsh (In re Lumbar), 457 B.R. 748 (2011).   As a result, a home that would have been protected in the hands of the debtor became unprotected because of an ill-planned transfer.

The second case involved a Nebraska debtor who received a $5,201 tax refund and then paid $1,921.72 to their bank shortly before filing Chapter 7.  In re Anders, 2011 Bankr. LEXIS 5049, Nebraska Case #11-40710 (2011). The Chapter 7 Trustee sought to avoid the payment to the bank, and the debtor objected claiming that the tax refund proceeds were exempt in the hands of the debtor and therefore the payment should not be voidable.  Applying the Sullivan ruling, the Court stated that property ceases to be protected by exemption laws once they leave the debtor’s possession, thus the Trustee was able to recover the payment.  Again, property that would have been protected was lost because it was transferred prior to bankruptcy.

Applying the new rules.

The obvious lesson to be learned in these cases is that a bankruptcy attorney should not only prepare a list of all property currently owned by a debtor, but a list of property that was transferred in the four (4) years prior to bankruptcy.  Question #10 of the Statement of Financial affairs requires a debtor to list all transfers of property made within 2 years, but since the fraudulent conveyance law goes back 2 additional years, a careful attorney should question their client about transfers within the last 4 years.  In addition, if any transfer was made to a Trust controlled by the debtor, the look back period is extended to ten (10) years.