Before Filing Bankruptcy: What to do, What to Avoid.

Before filing bankruptcy think about taking steps to make sure your case goes smoothly.

If all goes well in a chapter 7 bankruptcy, unsecured debt, including typical credit card debt, goes away in just under 4 months.

Can you keep your favorite credit card?

Are one or two credit card purchases OK before you file bankruptcy?

Can you keep your car in bankruptcy?

These questions and more often pop up for those considering bankruptcy.  Bankruptcy law and “the rules” dictate what can and can’t be done before and during the process. While the rules provide something of a road map they can be a bit confusing.  So first let’s look at some key basics.

Six Things to Do Before Filing Bankruptcy

1. Never buy luxury items or services before filing bankruptcy.  Buying expensive electronics like a new wide screen TV, or taking a dream vacation on credit will get you in trouble.   It can be considered bankruptcy fraud and you may well have to pay it back despite the bankruptcy.
2. Do not transfer property into the names of others.  Deeding real estate to a child, friend or anyone else prior to filing bankruptcy constitutes a major no no.  Not only that, a bankruptcy trustee holds the power to undo the transfer, sell the property and use the money to pay back creditors.  The same principal applies to bank accounts or any money asset.  Sometimes people think transferring money to someone else will protect them.  But transferring money from your bank account to someone else’s constitutes pre-filing fraud.
3. Stop using all credit cards.  Debit cards withdraw or electronically transfer funds directly out of your bank account so they do not pose problems.  At the same time, you cannot use credit cards prior to filing bankruptcy.  People ask me well what about just one, my favorite department store or gas card.  No, they all go.
4. Stop paying credit cards.  First make sure you plan to actually file bankruptcy.  At that point you stop paying credit cards.  All of them.   Paying one, for any reason including that they’re more aggressive than the others, or nicer than the others, causes problems.  Paying one and not others creates what’s called a “preferential payment” and can be reversed by a bankruptcy court.  Pay only bills for necessary items like the mortgage or rent, car payment, your phone and other utilities.
5. Gather all credit card bills and other debts and bring them in to your bankruptcy attorney.
   

   Final Caution Before Filing Bankruptcy:

6. Make sure income taxes are filed.  The discharge of your debts issued through bankruptcy comes from the federal government.  They take income tax scofflaws poorly.  In fact within 30 days after filing, bankruptcy rules require you to submit your last income tax return to the trustee assigned to your case.  Older income tax debt can sometimes be discharged.  But that’s another subject for a different day.

Above all follow your normal financial practices.  Avoid anything outside daily or monthly routine.  Pay normal bills as you would in the ordinary course of your personal business.  The normal mortgage and car payment represent for the most part routine financial payments well within bankruptcy rules.   At the same time, buying a new motorcycle, purchasing an expensive guitar or paying off a family member fall far outside ordinary financial activities.

Normal Course of Personal Finances

What financial transactions go so far outside the ordinary course of one’s usual finances they cause problems in bankruptcy? In an extreme case a married couple paid $65,000 in tuition payments to their daughter’s college over the two years before they filed chapter 7 bankruptcy.  The college and the parents argued the tuition payments represented payments “for value”.  At the same time, the Appeals Court agreed with a bankruptcy trustee who sought to “claw back” those payments for the benefit of creditors.

The concept underlying fraudulent transfer is easily grasped. Where a person cannot reasonably expect to pay his debts in due course, that person’s transfer of his assets to another person, without receiving equivalent value in return, can if done with bad motive be viewed as a dishonest trick that ought to be civilly undone and perhaps criminally punished.

In Re: Palladino, Steven, et. al., 1^st Circuit Court of Appeals.

The parents claimed financial benefit existed in having a self-sufficient daughter in the long run.  But the court disagreed.  The court allowed the bankruptcy trustee to take that money back from the university in a “claw back”.

Keep Track of Finances before Filing Bankruptcy

The case above represents an extreme.  But the lesson learned tells bankruptcy filers to tread carefully before filing. Normal payments for groceries, gas, car payments, and other every day budget items generally raise no eyebrows under bankruptcy rules.

On the other hand if you are even thinking of the possibility of going into bankruptcy, pursue normal usual finances, but be careful.  For example, avoid all credit card use. No, you can’t “save” that one favorite credit card.  Don’t make any financial decisions outside of every day transactions without seeking advice from experienced bankruptcy counsel.

As for keeping or getting rid of the car, we address options in another article.

The Law Offices of Andrew D. Myers represent consumer debtors in Chapter 7 and Chapter 13 bankruptcy filings in New Hampshire and Massachusetts.  Member, National Association of Consumer Bankruptcy Attorneys.

Model Credit: Juliette St. Laurent

Sources:

In Re: Palladino, Steven, et. al., 1st Circuit Court of Appeals, Decided November 12, 2019.

U.S. Bankruptcy Code, Debtor’s Duties, 11 U.S.C. § 521.

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