Tuesday, March 5, 2013

Bankruptcy & Litigation Series: #1 Divorce

When a bankruptcy is filed, the automatic stay precludes creditors from proceeding in lawsuits against the debtor. If a bankruptcy is filed during a divorce case, the automatic stay applies to the divorce case as well.

The divorce Judge may proceed on issues of child support, alimony and custody of children, but may not make any decisions relating to the division of assets and debts without the permission of the bankruptcy court, and any decisions made by the divorce Judge are reviewable by the bankruptcy Judge.

Therefore, it is very important to consider the right timing of a bankruptcy and a divorce when a client will likely have to go through both process.

Filing Divorce First: Finishing the divorce action before beginning the bankruptcy filing allows the divorce action to proceed to its natural conclusion without interruption by the bankruptcy court. It is still possible, though, for the Bankruptcy Court to undo the Agreement or Judgment of the Divorce Court if it appears the parties were attempting to defraud creditors (for instance if all of the assets were transferred to the non-debtor spouse rather split equitably). Despite this risk, it is unlikely if the division is equitable that there would be any issue, and both cases would like proceed more smoothly one after the other, rather than simultaneously.

However, the debtor might be bound to make payments in the divorce case which could affect eligibility for bankruptcy, and might have made promises to divide property that is now an issue.  Domestic Relations Orders are non-dischargeable in most cases and therefore the decisions made in a divorce settlement, will have significant impact on what can and can't be discharged in the bankruptcy.  This is even further complicated by joint debts.  It's therefore important to have bankruptcy counsel review a potential divorce settlement prior even if the intention is to complete the divorce case first.

Filing Bankruptcy First: Likewise, there are certain circumstances where it might make more sense to file for bankruptcy prior to filing the divorce. For instance in a case where both spouses had significant debt, they can file as joint debtors so long as they are still married. Even if only one of the parties intended to file, there is a case which suggests that some of the protections for the debtor extend to the non-debtor spouse (protections that might not apply if the parties are already divorced).

The facts of each case will control whether it makes sense to file the bankruptcy or divorce first.  If you are assisting a client with a divorce case but don't have expertise in bankruptcy we recommend reviewing your strategy with an attorney trained in bankruptcy.  The terms of the proposed property settlement or transfers of property under the agreement may be hurtful to your bankruptcy case if your client plans on filing for bankruptcy shortly after the conclusion of the divorce matter. These issues are even more complicated when a Chapter 13 plan is in place, because a divorce can cause problems with making plan payments.  Having an attorney that can explain the bankruptcy consequences of the decisions made during the divorce will be critical in helping your client get a fresh start.

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