Kentucky Bankruptcy Law

Counsel with Care

The Odd Couple: Life Insurance and Bankruptcy

The bankruptcy code treats life insurance oddly. When one files a Chapter 7 money that a person acquires after the filing date is typically not part of the bankruptcy estate. That is to say that money you earn after filing a Chapter 7 is yours to keep without the need to exempt it. There are a few exceptions to this and proceeds from life insurance a debtor becomes entitled to within 180 days following the filing date comes back into the estate pursuant to 11 U.S.C. Sect. 541(a)(5)(C). The phrase “entitled to” is key. So, if you are a debtor and someone dies on day 179 naming you as the beneficiary in a life insurance policy, those proceeds come into the estate because you become entitled to them at that time.

If you become entitled to life insurance proceeds during within those 180 days, you must file an amended Schedule B pursuant to Bankruptcy Rule 1007(h) showing the proceeds as an asset of the estate. Not all is lost, however, because you can also file an amended Schedule C exempting those proceeds to some extent. Under the federal exemption 11 U.S.C. Sect. 522(d)(11)(C) you get to keep as much of the proceeds as are reasonable and necessary to care for yourself and your dependents. If the proceeds are a small amount, you may be able to keep them all, but if they are a large amount, then you have two options.

One of the options you have if you receive a large amount of life insurance proceeds is to hire an expert to give testimony to the bankruptcy court showing how much is reasonable and necessary. The other option is something that not all bankruptcy attorneys realize they can do and that is amend your exemptions from federal to state. Under Kentucky law, KRS Sect. 304.14-300, the entire proceeds of the life insurance are exempt; 100% rather than “reasonable and necessary”. In choosing this option, you must change all your exemptions to Kentucky and so there may be other assets that end up as non-exempt. For example, a debtor can only claim $5,000.00 of homestead exemption in Kentucky compared to the over $20,000.00 in federal homestead exemption. So, it will be important to weigh out the advantages with your lawyer.

Either option you take, expect a challenge from the trustee. In option 1, the trustee will counter your expert and suggest a much smaller number as “reasonable and necessary”. For option 2, the trustee will argue that you cannot change from federal to state for any number of reasons. I hope to address these reasons for objecting to a switch from federal to state exemptions in a later post. For now, it will suffice to say that a number of jurisdictions have addressed the question of changing from one exemption scheme to another post-filing and no jurisdiction has precluded such an amendment to Schedule C exemptions outright. In other words, all courts addressing the question allow the switch except for when certain circumstances exist and that is what I will expound on in a later installment.

One other matter that is important to address regarding life insurance policies. Cash value policies, such as “universal” or “whole life” policies have to be listed in Schedule B as assets of the estate from the very beginning if you or your joint-debtor spouse owns them. This is because the policies themselves have present day value (the cash value that has accumulated). It is also a good practice to list term life insurance policies even though they do not fit the definition of an asset because they have no present day value. A term life insurance policy only has value when the insured passes away. So, list the policy and depending on your lawyer’s computer program, either assign it a nominal value or a value of zero and apply an appropriate exemption to it. That way, if the tragedy of your joint-debtor spouse dying post-filing occurs, at least there will be one less hook for the trustee to grab onto in arguing against the proceeds being exempted.


May 17, 2011 - Posted by | Bankruptcy, Chapter 7, Exemptions, Property (exempt | , , , , , , , ,

1 Comment »

  1. Every budies need Life Insurance, life insurance give protect financial for us and child

    Comment by life insurance | July 5, 2011 | Reply

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