The case of mismatched law: alimony and bankruptcy

Alimony, or maintenance as it is called here in Kentucky, is an interesting topic because how state law defines and treats alimony does not necessary mesh with the bankruptcy code. In this post, I am talking about when a non-debtor ex-spouse owes the person filing bankruptcy (the debtor) alimony or maintenance (the two terms are interchangeable and I’ll stick with alimony since it is the most recognized). The scenario is a divorced debtor filing a bankruptcy (it can be either a chapter 7 or a chapter 13) because their ex has failed to pay the alimony as ordered as is now in a world of hurt. So, the debtor has to list the alimony owed to him or her because it comes into the bankruptcy estate through 11 USC Sect. 541. There is even a “clawback” provision in 11 USC 541(a)(5)(C) that reaches 180 days beyond the filing date of the petition in cases where a divorce has not yet been finalized.

To be sure, 11 USC Sect. 522(d)(10)(D) appears to exempt alimony (“the right to receive”) so that the debtor gets to hold on to it. However, appearances can be deceiving because the bankruptcy courts do not have to accept the determination of the parties or the state court in deciding if a certain asset is alimony. The debtor may have a court order that calls what the ex owes them alimony and he or she may believe it is alimony, but the bankruptcy court can decide differently. If the bankruptcy court deems the awarded monies to actually be a property settlement, then it is not exempt beyond any available “wild card” exemption from 11 USC 522(d)(5).

The bankruptcy court makes its determination as to whether or not an award of alimony is truly alimony or if it is actually a property settlement mechanism by looking at what actually transpired. There are different aspects that the court may focus on and so it is more likely to be alimony if: 1) it ends at death or remarriage, 2) it can be modified based on need, 3) the debtor did not have property or resources to meet their basic needs, 4) it is subject to the tax treatment for alimony in the tax code (taxable to recipient; deductible by payor), and 5) the payments go directly to the debtor. If, on the other hand, the award of monies was in lieu of other property or debt, then it is unlikely to be deemed alimony. These are not necessarily exclusive factors, but will give an idea of how the courts analyze an alimony claim of exemption. The bottom line is that the court wants to be sure that the monies are actually for the support and sustenance of the recipient. This is consistent with the other items in Sect. 522(d)(10)(D) because each is a replacement for wages.

Be careful entering into a bankruptcy if you are the recipient of alimony or maintenance. When you interview your prospective attorney, but sure they understand the nuance behind the stated words of the law. They need to be able to analyze how likely the court is to see the award as alimony. If the award is sizable, then you can expect to have an objection to the exemption be filed by the trustee. If you win by convincing the court that it is indeed alimony, you will still have to show that all of it is “reasonably necessary” to live on – and that does not mean living in style or luxury.

Yet another reason to consider Chapter 13 over Chapter 7

In either chapter 13 or chapter 7 bankruptcy there is an automatic stay with broad protection that stops creditors from attempting to collect debts. This stay is found in 11 USC Sect. 362 of the bankruptcy code. There is an additional “stay” afforded debtors who file chapter 13 and it is found in 11 USC Sect. 1301.

Upon first glance at Section 1301 it appears to be a protection given to non-filing co-debtors such as mom or dad who co-signed on the car loan. However, the intent is actually to expand the protection given to debtors. In other words, if the provisions are violated, it is the debtor who would file the action against the creditor. The co-debtor can join in that action, but it does not give standing to the co-debtor to pursue the action unilaterally (or at least that is what some courts have decided). See In Re: Marlon Durone Stacker (Bankr. S.D. Ill., 2011). This explains why there is no provision for the awarding of attorney fees for a violation of Section 1301 whereas there is such an award under Section 362.

The idea is that during the protracted chapter 13, a creditor would take action against the co-debtor and in so doing, would coerce the debtor into paying more to that creditor than the plan allowed. Congress wanted to prevent such an end run around the automatic stay by crafting this more limited provision.

Section 1301 is also limited in that if the co-debtor received consideration (something of value) from co-signing on the loan, then then stay does not protect them to that extent. So, if a non-debtor business partner co-signed a loan and the consideration (value) came into the business to both his and the debtor’s benefit, then action against that co-debtor is not prevented. Or, perhaps a friend co-signed a loan for $1,000.00 and received $200.00 of it, then the creditor can pursue him or her for that $200.00, but no more than that. Another limitation is that if the chapter 13 plan only provides for a certain amount of the loan to be repaid, then the amount in excess of the plan is not protected. So, if the plan provides for $9,000.00 of a $10,000.00 debt to be repaid, then the creditor can still pursue the co-signor for the extra $1,000.00.

There are some other, non-enumerated limitations to Section 1301. For example, the creditor may still be able to report a delinquency on the co-debtor’s credit report. One could say that this constitutes a false report because the terms of the agreement have been altered by the chapter 13 plan. But, the plan only altered the relationship between the creditor and the debtor, not the creditor and co-debtor. However, such an action could constitute a violation of both Section 362 and Section 1301 if one can show that there was intentional action by the creditor likely to coerce the debtor into paying beyond the plan. See In re Singley, 233 B.R. 170 (Bankr. S.D. Ga., 1999). If you look at the Singley case, be aware that the court there said the intent of the creditor had to be shown to be one of coercing the collection of the debt, but other courts say the intent only has to be that the act of violation was intended to occur regardless of the result.

Despite the limitations of Section 1301, non-filing co-debtors being protected from lawsuits, garnishments and the like may make the extra work of a chapter 13 worthwhile.

Drive through law

I just read an email advertising a “virtual bankruptcy assistant” service. As part of the ad, they offer an “estimator” that promises to cut initial consultation times down to fifteen (15) minutes (as opposed to the traditional 30 that many offer). I must confess that I am crazy. I use no such service. The only estimator I use in consultations are my brain, a pen, paper and a hand-held calculator. My initial consultations average a little over an hour long.

You want to know the really crazy part? If folks do not need or want to use my services I usually waive any consultation fee. I just believe that people are in the second most stressful legal bind that most will ever encounter when facing bankruptcy (the most stressful is divorce which I handle with just as much care) and so I take time to explain what is involved and how bankruptcy will impact their lives. Then if they do need my help and retain me, I personally go through their documents and petition and makes sure everything is in top-notch shape before filing.

I know, simply crazy. I still believe in excellence.

Judge Joe Lee Bankruptcy Institute

I just finished attending the Judge Joe Lee Bankruptcy Institute here in Lexington, Kentucky. It was great to celebrate Judge Lee’s 50th year as a bankruptcy judge and learn about the major impact one of our local judges has had in shaping bankruptcy law and practice. It was also reaffirming to hear a call to raise the bar in bankruptcy practice by our Chapter 13 trustee, Hon. Beverly Burden. She pointed out how specialized and potentially complicated Chapter 13 bankruptcy practice is and that one must be knowledgeable in the area before taking on these matters. I heartily agree and that is why I take such training opportunities and why I do extensive research in order to become more knowledgeable. The practice of law is much akin to the practice of medicine in that unforeseen events can arise in any case and having a solid knowledge base is essential to react appropriately.