Bankruptcy Timing and the Holidays: Gift-Giving and "Fraudulent Transfers"

 Posted on December 18, 2015 in Bankruptcy

Gift-giving, or selling for much less than actual value, can cause problems ahead of bankruptcy, but only if it’s a large gift.

“Fraudulent Transfers” Usually Not an Issue

This blog post is about a topic to be aware of but one that’s seldom an issue for consumers or small business owners filing bankruptcy. However, in part because “fraudulent transfers” often involve some version of gift-giving, it’s particularly worth getting an understanding of this during the holiday season.

We’ll briefly explain here what a “fraudulent transfer” is, its two different forms, why neither are a problem for most people, and when you should be concerned.

What’s a “Fraudulent Transfer”?

Basically, it’s a debtor’s giving away (transferring) an asset to avoiding paying creditors the value of that asset.

This legal concept was first addressed more than 400 years ago in English law, which we adopted, so this is an issue that’s been around for a long time.

More precisely, under federal and state fraudulent transfer laws if you give away something (including potentially as a holiday gift), then under certain circumstances your creditors could require the person to whom you gave that gift to surrender it to the creditors.

Legal proceedings to undo fraudulent transfers can happen both in state courts and bankruptcy court. When in a bankruptcy case, a bankruptcy trustee acts on behalf of the creditors to undo the transfer.

The transfer can be an outright gift or it can be a sale in which the asset is sold for much less than its value.

Actual Fraud and Constructive Fraud

Actual fraud happens when a debtor gives a gift or makes a transfer “with actual intent to hinder, delay, or defraud” one or more creditors. (See Section 548(a)(1)(A) of the Bankruptcy Code.)

Constructive fraud happens most often in the consumer context when a debtor gives a gift or makes a transfer receiving “less than a reasonably equivalent value in exchange, in which the debtor “was insolvent on the date that such transfer was made. . . , or became insolvent as a result of such transfer.” (See Section 548(a)(1)(A) of the Bankruptcy Code.) Very importantly, with a constructive fraudulent transfer the debtor does NOT need to intend to defraud anybody, and yet the transfer can be undone if the required circumstances are present.

Why This Is Usually Not a Problem

There are practical reasons why most people don’t have to worry about having engaged in fraudulent transfers before filing bankruptcy.

First, most people simply don’t give away their possessions before filing bankruptcy. They generally need most everything they have. What they do own is usually protected in bankruptcy through property “exemptions,” so there’s usually no motivation to give away anything.

Second, the bankruptcy system doesn’t care about relatively modest gifts, and most people considering bankruptcy don’t have the means to give anything but modest gifts.

By “modest” the bankruptcy system generally means a gift or gifts given over the course of two years to any particular person with a value of more than $600. The Bankruptcy Code does not refer to that threshold amount. But the pertinent official form that you sign “under penalty of perjury” does so.

The Statement of Financial Affairs for Individuals (effective 12/1/15) includes the following question (#13):

Within 2 years before you filed for bankruptcy, did you give any gifts with a total value of more than $600 per person?

The next question (#14) is very similar:

Within 2 years before you filed for bankruptcy, did you give any gifts or contributions with a total value of more than $600 to any charity?

And the third practical reason that there usually isn’t a fraudulent transfer problem is that, given what it costs in attorney fees and other expenses for a bankruptcy trustee to try to undo a gift or transfer, the practical threshold in most cases is likely at least as high as $600 in value of the transferred asset (and likely more) regardless how the questions in the bankruptcy documents are worded.

Accordingly, even when the same form also asks a question about transfers other than gifts which does NOT have a stated dollar threshold, in most cases a trustee would not pursue a transfer unless the anticipated money from undoing the transfer would outweigh the anticipated costs. This question without a threshold dollar amount (#18) asks:

Within 2 years before you filed for bankruptcy, did you sell, trade, or otherwise transfer any property to anyone, other than property transferred in the ordinary course of your business or financial affairs?

Every applicable transfer must be listed here, but again the trustee would generally not do anything about it unless its value made the effort worthwhile. That does depend on the circumstances. For example, if the trustee already had non-exempt assets to liquidate and distribute among the creditors, he or she may be more inclined to pursue a gift or transfer.

Conclusion for the Holidays

The point is that modest gifts and transfers are not the target of this law. So fraudulent transfers are not an issue in most consumer and small business bankruptcy cases.

But if anything you’ve read here raises any concerns whatsoever, be sure to talk to an experienced bankruptcy attorney. Preferably do so before giving away anything of any meaningful value, or selling it for a price less than within a reasonable range of its actual value. Remember that this applies not just to situations in which you are considering selling or giving away assets purposely to prevent them from going to your creditors. It can also apply if you have no such intent.

And if you’ve already given the gift or made the transfer, all the more reason to bring this up with an attorney. There may well be ways to get around the problem even after the gift/transfer has been made.