Tag Archives: community property

The Bad Side of When Only One Spouse Files Bankruptcy

Single or divorce alone on swingOne spouse, whether married or separated, can file bankruptcy alone, without the consent of the other spouse. Sometimes this is a good thing, because in California, the non-filing spouse can often obtain the benefit of the automatic stay as to themselves or their property, and a community discharge of certain debts, i.e., it’s possible that one spouse filing bankruptcy can discharges liability as both spouses.

However, when mixing California’s community property laws with the bankruptcy code, the non-filing spouse can find himself or herself in great jeopardy by design or accident.

In terms of harm, it helps to understand three concepts that affect the non-filing spouse: (1) the automatic stay; (2) property of estate, and; (3) discharging debts.

The Automatic Stay

The automatic stay is great for creating breathing room. Upon filing a bankruptcy, the automatic stay is triggered instantly. With a handful of exceptions, the stay prohibits numerous forms of creditor activities, such as wage garnishment, bank levies, foreclosures, repossessions and most lawsuits.

But what if you are separated or going through a divorce where you need to divide property or the sale of the home is part of the marital settlement agreement, and escrow is in a week? The bankruptcy just killed the deal because, in part, of the automatic stay. If you are in a bitterly contested divorce and that long awaited (but dreaded) trial is finally going to happen, the automatic stay will mess with that. Child support, alimony and visitation rights are not technically affected by the stay, and the court may proceed, but many family law judges will not proceed for fear of violating the automatic stay.

Property of Estate

Property of the estate is all interests you have in assets. This includes cars, homes, lawsuits, bank accounts, stocks and the list goes on. A few things are excluded like 401k accounts, but property is a very broad concept in bankruptcy.

This is by far the most damaging part of divorce intersecting with bankruptcy proceedings I see. The Bankruptcy Code says that all property of the person filing bankruptcy becomes property of the bankruptcy estate, including community property. Unless there is a nuptial agreement or other means of maintaining property separately, in California, all property acquired during marriage is community property and comes into the bankruptcy estate.

This is particularly dangerous in a Chapter 7. If your assets contain equity that can’t be protected or you engaged in financial transactions that can be attacked, a Chapter 7 trustee may be able to take property that belongs to the non-filing spouse. Chapter 7 trustees can take cars, sell homes and sue family members that were paid back money previously owed to the family members. That’s just a small sampling, as Chapter 7 trustees are granted fairly extraordinary powers in bankruptcy.

When only one spouse files bankruptcy, it is usually with the hope that only the filing spouse suffers a hit to the credit, or because one spouse ran up the majority of the debt, he or she should be the only one to file. While that separate filing may accomplish this, it may drag the other spouse through the mud asset-wise.

Of course, some spouses file bankruptcy during the pendency of a divorce to delay or stall the divorce in some manner. Or the spouse may try to discharge debts as to himself or herself, and leave the non-filing spouse on the hook, or force them into their own bankruptcy. The spiteful use of bankruptcy often harms the person filing bankruptcy. The spouse filing bankruptcy may laugh at sticking the non-filing ex with all the debt, only to have the non-filing ex successfully petition the family court for more support to pay for the increased debt load.

Community Discharge

The community discharge is quite powerful. If both spouses owe a debt, let’s say $25,000 to a credit card, then one spouse filing lets the other spouse enjoy the discharge too (and like everything else in the law, there are exceptions). That is quite a powerful tool. However, the key word is “community.” When you separate or divorce, there is no community anymore.

Now the spouse who never filed could be on the hook for the $25,000. In all practicality, creditors are not usually diligent enough to check to see if the person who filed bankruptcy later divorced. The notable exception to that is exes. Ex-spouses, ex-boyfriends, ex-girlfriends, ex-business partners: those with an axe to grind, who enjoy stalking you and making life miserable are the most likely to know and do something about it. But that is another blog for another day.

In the mean time, tread cautiously, whether you are filing alone with intent to benefit your spouse, or with the intent of harming her. You may find you bit off way more than you can chew.

Bankruptcy Alphabet - M is for Marriage

Marriage is really important in bankruptcy and one of the most complicated and confusing areas of bankruptcy practice.

Can I file bankruptcy without my spouse?

In short, yes. But your spouse’s income, expenses and property need to be accounted for in the bankruptcy filing. In California we have two different ways to exempt and protect your property (that are supplemented by other state and federal protections). The majority of our exemptions are found under CCP 703 and CCP 704. Those are California codes that permit people to protect and keep different types of property, such as your home, bank accounts, retirement or cars. If you file bankruptcy and use CCP 703 exemptions, your non-filing spouse must sign a waiver permitting you to use these exemptions. This can be difficult in circumstances where you are separated, estranged or your spouse is otherwise not cooperative. No spousal waiver is required to use CCP 704.

All community property is included in the bankruptcy.

California follows community property rules. With a few exceptions, that means that all property acquired during the marriage belongs to the community. Even if only one spouse files, all community property goes into the bankruptcy estate. The instant you file bankruptcy, a “bankruptcy estate” is created; all property you have an interest in goes into this estate. In Chapter 7, the trustee controls the bankruptcy estate. That means upon filing, all community property belongs to the trustee, so you need to understand the values and scope of the community property. But by careful planning and wisely using the exemptions mentioned above, the trustee won’t be able to take any of your property.

One of the worst things to witness at the hearings with trustees is a spouse that files bankruptcy on his or her own without understanding community property (among many other things, but that’s another topic). They leave out their spouse’s bank accounts or believe that having property titled in the non-filing spouse’s name only means it can be excluded from the bankruptcy. This can lead to devastating results. Part of your attorney’s job is planning, timing and protecting your property to avoid these problems.

Can creditors reach the non-filing spouse?

Maybe, but in a limited way. There are two liabilities to consider: your personal liability, and liability against your property. The bankruptcy protects all community property acquired after you file bankruptcy (think of future earnings, buying a home etc. as a married couple after bankruptcy is filed). The non-filing spouse, however, remains personally liable.

Does the non-filing spouse have separate property?

Separate property is property acquired before the marriage or certain types of property during the marriage (such as an inheritance). If the non-filing spouse has separate property (for example, a car paid for before your marriage), or acquires separate property after marriage (such as an inheritance or because you separate or divorce), the creditors could reach this property. If the non-filing spouse has no separate property and does not acquire any after the bankruptcy, the creditor could still potentially sue and get a judgment, i.e., personal liability. But if there is no separate property to collect against, there is a judgment only; the creditor can’t take anything from you because future community property is protected as long as you remain married.

Divorce is a real possibility. Should I file before or after the divorce?

If you and your spouse are going through the painful process of separation, but it’s still amicable, you can file together if that is the best solution. This can make the divorce a little easier in some circumstances by eliminating the debts shared by the spouses. Given these economic times, it seems that spouses are often dividing debts instead of assets.

Timing-wise, many attorneys follow a rule that they will not file a bankruptcy for someone in a pending divorce proceeding until there is a marital settlement agreement that defines who gets what. This is because a marital settlement agreement can alter the nature of your debts and/or assets. Regarding debts, perhaps you and your spouse opened a joint credit card that now has a high balance. This is dischargeable in bankruptcy. Suppose, however, that one spouse files and the other spouse is on the hook for the debt. The court can require the spouse that filed bankruptcy to pay off this debt in the form of spousal support. Spousal support/alimony is a domestic support obligation (DSO) and not dischargeable. Ouch.

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Confused? Marriage and bankruptcy gets tricky, so please consult with an attorney and save yourself a lot of time, money and grief.

Image courtesy of duncan.