DO NOT get caught up in a “fraudulent transfer” by making this simple mistake. It’s easier than you might think to do so, because it doesn’t necessarily take fraudulent intent.
Most Often, It’s Not a Good Idea
Simply put, if you’re thinking about selling or giving away anything of value when you’re considering filing a bankruptcy case in the future, don’t do it without talking first to a knowledgeable bankruptcy attorney. It can sometimes cause serious problems.
If you’ve already sold or gave away something, tell your attorney about it at the beginning of your initial meeting with her. It may or may not be a problem.
Let us explain.
What Are You Selling or Giving Away, and Why?
If want to dispose of some of your assets so that they won’t get caught up in your upcoming bankruptcy case, you’re likely asking for trouble. This is “fraudulent transfer.”
You may have heard that you can only keep certain property and possessions when you file bankruptcy, and that if you own something that’s not protected you can have it taken from you and sold to pay your creditors. So, for example, not wanting that to happen you give your valuable gun collection to your brother, or sell a classic car for a lot less than it’s worth to your best friend’s sister.
Well, the law is a step ahead of you. Actually about 400 years ahead of you! That’s how long the law of “fraudulent transfers” has been around.
What if You Make a “Fraudulent Transfer”?
Basically, dumping an asset before filing bankruptcy to prevent it from being taken from you would very likely backfire. If you give away that asset, or sell it for less than fair market value, your bankruptcy trustee can in many circumstances reverse (“avoid”) that gift or sale as a “fraudulent transfer.” If so, the trustee would take back possession of the asset, sell it, and pay the proceeds to your creditors. So instead of preventing the asset from getting caught up in your bankruptcy case, you’d have the opposite result.
Plus you would be penalized even further: to the extent that asset HAD been entitled to any protection in the form of any property “exemption” had you NOT transferred the asset, as a sort of punishment for trying to hide that asset you would lose your right to any such protection you would have otherwise had.
What Are the Elements of a “Fraudulent Transfer”?
If within the 2 years before filing bankruptcy you transfer an asset “with actual intent to hinder, delay, or defraud” any creditor, that transfer can be undone (again, “avoided”) by the bankruptcy trustee. This “actual intent” basically means that you gave away or sold the asset with the intent of keeping it—and keeping its value—away from your creditors.
But if two conditions are met, a “fraudulent transfer” does not actually need to be fraudulent, as odd as that may sound. You do not need the “actual intent” to hurt any creditor to have a “fraudulent transfer” IF:
- In making the transfer you “receive less than a reasonably equivalent value” in return; that is, you get paid less than what you sold (or gave away) was worth; AND
- You were insolvent at that time; that is, you owed more in debts than you owned in assets, either just before or just after making the transfer.
Since most people are insolvent for quite a while before filing bankruptcy, the “less than a reasonably equivalent value” condition is often the most important one. So a key way to avoid a “fraudulent transfer” is simply not to sell anything unless you are receiving reasonably close to what it’s worth in return.
So if you have a garage sale and sell stuff for whatever people are willing to pay for it, or similarly sell other stuff on eBay or Craigslist at a sensible price, those sales would NOT be subject to being “avoided” by a trustee, assuming you got “reasonably equivalent value” for whatever you sold.
Giving Away Worthless Stuff
If after your garage sale you donated everything that didn’t sell to Goodwill or some other charity, that donation would not be a fraudulent transfer. That’s because although the stuff you donated had SOME value and you got paid nothing for it, in practical terms it wasn’t worth any money, or at least not enough for anybody to care anything about it. You DID get “a reasonably equivalent value”—nothing—for stuff that was worth essentially nothing.
It’s OK to sell (transfer) your stuff in the two years (sometimes longer) before filing bankruptcy as long as:
1. you get paid a reasonable amount (of money or other assets) for it, or
2. it does not have any practical financial value.
Otherwise, the transfer could be “avoided” by your bankruptcy trustee once you file your bankruptcy case, meaning whoever received the property may have to give it back.