One of the most common mistakes my clients make is repaying debts to friends and family before filing their bankruptcy case. In many cases this leads to extremely undesirable results.
Do Not Repay Friends or Relatives Before Bankruptcy
The basic law as stated in the bankruptcy code (and in many state laws as well) is that anything repaid to a relative or other “insider” within twelve (12) months prior to filing a bankruptcy case can be recovered by the Trustee in that case.
The Trustee can (and, depending on the amounts involved, will) sue that relative to recover the money or property repaid to them during that period.
This is known in legal parlance as a “preferential transfer” and the bankruptcy statute is 11 U.S.C. 547.
The law is the same with respect to any other non-relative creditor, except that for them the lookback period is only 90 days prior to filing the bankruptcy case, so it’s usually easy to wait the 90 days before filing. But obviously much harder if a relative has been recently repaid.
There is nothing that prevents the repayment of ANY debt AFTER the bankruptcy case is completed, so if you want to repay anyone, just do it after the bankruptcy case is completed, then there’s no problems. However, I suspect many of you will be reading this blog or obtaining your legal advice after you’ve already repaid them.
Fraudulent Transfers in California
Another related issue, which will not be covered here, is simply transferring assets or money to someone prior to filing a bankruptcy case. In California, any such transfers done without receiving equivalent value in return is considered a “fraudulent transfer” and is recoverable for up to 7 years following the transfer.