Divorce: When a Spouse or Former Spouse Files
Bankruptcy
Understanding the Impact of Bankruptcy on Domestic Support Obligations, Property Settlements, and Taxes
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TUESDAY, JULY 20, 2021
Presenting a live 90-minute webinar with interactive Q&A
Martha R. Bagley, Member, Weston Patrick, Boston Eric S. Steiner, Esq., Managing Member, Steiner Law Group, Baltimore
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How Bankruptcy & Divorce
Impact Each Other
PRESENTED BY ERIC S. STEINER, ESQUIRE WWW.BANKRUPTCY.MD
ERIC@STEINERLAWGROUP.COM
Presenter
Eric S. Steiner, Esquire has helped business and consumer clients throughout Maryland discharge millions of dollars of debt. His practice focuses on representing those in financial distress – as both debtors and debtors-in-possession – in pre-bankruptcy and bankruptcy planning, transactions with bankruptcy estates, bankruptcy litigation and bankruptcy fraud, automatic stay and discharge injunction violations. He also advises clients on commercial loan and lease workouts and Article 9 litigation, as well as financing, insurance and contract disputes.
Mr. Steiner takes pride in counselling clients with compassion, empathy and understanding, while acting as a zealous advocate for them during times of difficulty. A sought-after
speaker and writer, he regularly educates audiences on all facets of bankruptcy –
presenting to such audiences as the Maryland Society of Accounting & Tax Professionals, Exit Planning Exchange, the Maryland Association for Justice, the Maryland LGBTQ
Chamber of Commerce and the Collaborative Professionals of Baltimore.
6
Purpose of Bankruptcy
“[Bankruptcy] gives to the honest but unfortunate
debtor…a new opportunity in life and a clear field for
future effort, unhampered by the pressure and
discouragement of preexisting debt.”
Local Loan Co. v. Hunt, 292 U.S. 234, 244 (1934).
7
Creditor Collection Tools
Often, in consumer collection cases, there is little defense to
collection lawsuits as the debtor did not pay and owes the
debt.
Judgment can be obtained in District Court via affidavit
judgment or trial and can be enforced 10 days after entry of
judgment.
Md. Rules 3-306, 3-632.
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Creditor Collection Tools
Creditors have many available options for collecting on a judgment.
A judgment can become a lien on property owned by the debtor.
Certain creditors can create other kinds of liens, such as homeowner’s association liens for unpaid assessments and IRS liens.
Creditors can garnish wages, which is typically 25% of the debtor’s wages after required deductions (taxes, FICA, etc.).
Creditors can garnish funds from bank accounts.
Creditors can bring the debtor into court and ask anything they want about the debtor’s financial affairs, including requesting tax returns and other financial documentation.
Creditors can levy property and have a sheriff auction off property.
Creditors can foreclose on real property.
Creditors can repossess vehicles.
9
Judgment Liens
A judgment lien may either be automatically entered upon the entry of a judgment, or may have to be requested, depending on the court and county.
Circuit Court - A judgment lien becomes a lien on all property in the county in which the lien is entered.
District Court – in most counties the creditor files a request for lien in the Circuit Court.
A judgment lien can be transferred to additional counties.
A judgment can be domesticated in other states.
Judgments are good for 12 years, and can be renewed.
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Example
ABC Creditor files a $75,000 lawsuit against the debtor in the Circuit Court for Baltimore County, and obtains a judgment. The debtor owns a home in Baltimore County with a first mortgage.
The judgment lien attaches to the home after the first mortgage.
Any refinance or sale of the home has to address the judgment lien.
The judgment lien holder can enforce its rights through a foreclosure or sheriff’s sale (more about this later).
11
Homeowner's Association Liens
HOAs’ have special liens that they can record for unpaid HOA
assessments. These liens attach to the home and are only released by the HOA upon payment of the balance owed, plus interest and fees, often including attorney’s fees.
12
Example
Betty doesn’t pay her HOA dues for several years. The HOA sues her a few times, and each year places an additional lien against the home. In total, the HOA has 7 HOA liens and 3 judgment liens against the home, and the home has no equity after the first mortgage.
The HOA then schedules a sheriff's sale to execute on its liens and auction off the property.
Chapter 13 stops the sheriff's sale, and all of these liens can be avoided / stripped.
13
Wage Garnishments
After obtaining a judgment, the creditor requests from the Court for the Clerk of the Court to issue a writ of garnishment, and upon issuance, the writ is served upon the debtor and the debtor’s employer. The debtor’s employer must file an Answer stating whether or not the debtor is
employed, and his/her rate of pay.
The debtor’s employer must then send 25% of the debtor’s wages to the creditor.
14
Bank Account Garnishments
After obtaining a judgment, the creditor requests from the Court for the Clerk of the Court to issue a writ of garnishment other than wages, and upon issuance, the writ is served upon the debtor and various financial institutions. The financial institutions must file an Answer stating whether or not the debtor has any accounts with them, and the balances in the
accounts.
Most banks will automatically freeze bank accounts upon receipt of a writ of garnishment other than wages.
After freezing the account, after applicable time periods have expired, the bank will then disburse the funds to the creditor.
Savvy creditors’ attorney issues writs of garnishment other than wages to all local and national financial institutions in the geographic area to case a wide net.
15
Oral Examination
Upon obtaining a judgment, a creditor can request that the Court order the debtor to appear in court so that the creditor can ask the debtor about his/her finances. A creditor (and its attorneys) can ask anything they want, and this is an informal hearing.
Failure to appear for the hearing could result in a bench warrant being issued for the debtor’s arrest.
The creditor can also demand that the debtor bring financial
documentation, such as tax returns, bank statements, and other reports.
Failure to appear for oral exam results in a show cause.
Failure to appear for a show cause can result in contempt of court and bench warrant.
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Property Levy
A levy is a request by the local sheriff to place a notice on real or personal property, restrict access to the property, or to seize the property.
The sheriff must place a description of the property on a schedule and post the schedule in a prominent place on the property.
The creditor can request that the sheriff either:
Leave the property where it’s found;
Restrict access to the property; or
Remove personal property from the premises.
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Sheriff’s Sale
After a levy is conducted, the creditor can request that the sheriff auction off the property at a sheriff’s sale.
The sheriff must provide notice of the sale, after which the property can be sold.
Sheriff’s sales are typically quicker than foreclosure, and less costly.
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Foreclosure
Foreclosure is the enforcement of a Deed of Trust by a mortgage lender.
Foreclosure does not extinguish personal liability under the Note.
In bankruptcy, the personal liability is discharged, but not the lien which can be enforced under the Deed of Trust post-bankruptcy.
Unless the lien can be stripped in Chapter 13 or Chapter 11.
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Basic Bankruptcy Principles
Debt priority
Secured
Priority Unsecured
General Unsecured
Bankruptcy Estate
Automatic Stay
Bankruptcy Discharge
Chapter 7
Chapter 13
Bankruptcy Exemptions
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Debt Priority
The Bankruptcy Code sorts debt into several different categories.
Secured debt is debt secured by collateral, such as a mortgage or car loan, or various liens, such as HOA and judgment liens.
Priority unsecured debt is debt that receives higher treatment under the Bankruptcy Code, such as certain taxes and child support and alimony arrears.
The various priorities of debt affect whether the debt is discharged in Chapter 7 and Chapter 13, and whether the debt must be paid in a Chapter 13 repayment plan.
21
Domestic Support Obligations(“DSO”) 22
A debt that is owed by “a spouse, former spouse, or child of the
debtor or such child's parent, legal guardian, or responsible
relative; or a governmental unit in the nature of alimony,
maintenance, or support (including assistance provided by a
governmental unit) of such spouse, former spouse, or child of
the debtor or such child's parent, without regard to whether
such debt is expressly so designated…”
11 U.S.C. § 101(14A)
DSO Priority
DSO’s are priority unsecured debt and have
number one priority.
11 U.S.C. § 507(a)(1)(A)
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DSO Priority
Chapter 7
DSO is non-dischargeable
Chapter 13
DSO must be paid in full through the
Chapter 13 plan.
24
Example
John files a Chapter 13 to catch up on $20,000 in
mortgage arrears. He has $50,000 of credit card
debt and is behind on child support for $15,000.
John’s Chapter 13 plan must pay back the mortgage
arrears and the child support arrears in full, while the
credit cards receive little to nothing.
25
Bankruptcy Estate, 11 U.S.C. § 541
“The commencement of a case under section 301, 302, or 303 of
this title creates an estate. Such estate is comprised of all the
following property, wherever located and by whomever held: (1)
Except as provided in subsections (b) and (c)(2) of this section, all
legal or equitable interests of the debtor in property as of the
commencement of the case.”
Simply put, the Bankruptcy Estate includes all assets and claims of
the debtor and may include post-petition income of the debtor in
Chapter 13.
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Example
Debtor John owns 50% of an LLC. The only asset LLC
has is a bank account with $10,000 and the LLC has
liabilities of $8,000.
For bankruptcy purposes, the value of the LLC to the
bankruptcy estate is $1,000, which represents John’s
50% in the balance sheet value of the LLC.
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Example 2
Alex is 2 years into a 3-year Chapter 13 repayment plan to
pay his creditors $300 a month based upon income of
$50,000 a year.
Alex has $40,000 of credit card debt.
Alex lands a job that pays $150,000 a year, and now has
additional disposable income.
Alex’s post-petition wages are property of the bankruptcy
estate, and therefore must be devoted to his Chapter 13
plan.
28
Automatic Stay,11 U.S.C. § 362
Takes effect upon the filing of the bankruptcy.
Prevents all collection activity against the debtor.
See 11 U.S.C. § 362 for list of activities prohibited.
29
Violations of the Automatic Stay
If a creditor violates the automatic stay, the penalties are severe,
including punitive damages and attorney’s fees.
The creditor can be sued in an “Adversary Proceeding,” which is a
separate lawsuit related to the bankruptcy case.
30
Automatic Stay and Divorce Proceedings
These are NOT stayed due to bankruptcy:
Paternity. §362(b)(2)(A)(i);
Establishment/modification of a DSO §362(b) (2)(A)(ii);
Custody/visitation. §362(b)(2)(A)(iii);
Marriage dissolution. §362(b)(2)(A)(iv);
Domestic violence. §362(b)(2)(A)(v);
Collection against of the collection of a domestic support obligation from property that is not property of the estate.
11 U.S.C. § 362(b)(2)(B);
Judicial or administrative withholdings for the payment of a DSO. §362(b)(2)(C);
Fixing of alimony and child support and determination of pendente lite arrearages. Klass v. Klass, 377 Md. 13 (Md.
2003);
Judgment entered against debtor/husband for fees declared payable to guardian ad litem. Id.;
Judgment entered against debtor/husband for fees payable to former wife's attorney. Id.;
Writ of execution against corporate entity owned by debtor (without more to pierce the corporate veil). In re Ojiegbe, 512 B.R. 513 (Bank. D. Md. 2014).
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Automatic Stay and Divorce Proceedings
These ARE stayed due to bankruptcy and are void:
Chapter 13 Debtor’s personal bank accounts even if the garnishment is for a domestic support obligation. In re Ojiegbe, 512 B.R. 513 (Bank. D. Md. 2014);
Certain Civil Contempt Proceedings: “It is also for this reason that we believe that only those civil contempt proceedings that do not in any way affect or touch on the debtor's property are exempt from the stay in § 362(a).” Redmond v. Redmond, 123 Md. App. 405, 423, 718 A.2d 668, 677 (1998).
Failure to answer questions truthfully and failure to turn over documents does not affect the Debtor’s estate;
Contempt for non-payment of support is stayed;
Incarceration of Debtor for punitive purposes does not violate the stay, but coercive contempt did;
Order that Debtor must assume a debt violates the stay.
Judgment granting monetary award to non-debtor spouse. Klass v. Klass, 377 Md. 13, 29 (Md.
2003);
Judgment entering QDRO directing a lump sum distribution to non-debtor spouse from husband's profit-sharing plan. Id.;
Judgment granting non-debtor spouse use and possession of automobile. Id.
32
Relief from the Automatic Stay
A creditor can ask the Bankruptcy Court to lift the automatic stay to continue State court proceedings.
11 U.S.C. § 362 d-f
33
Bankruptcy Discharge – Chapter 7
The Bankruptcy Discharge is a court order that eliminates certain kinds of debts (mostly general unsecured debt) and also acts as an injunction against collection of debts that arose pre-petition.
There are severe penalties for violating the discharge order, including punitive damages and attorneys’ fees.
In an individual Chapter 7 case, the discharge is typically entered at the conclusion of the case, which takes about 4-6 months for a no-asset case.
11 U.S.C. § 727
34
Example
Bob files for Chapter 7 and forgets to list a general unsecured creditor – Big Credit Card, for $10,000, and Bob receives his Chapter 7 discharge.
After the discharge is entered, Big Credit Card sues Bob for $10,000.
The bankruptcy discharge extends to unscheduled general unsecured debt, and therefore Big Credit Card is violating the discharge injunction by collecting on a debt that arose pre-petition.
See In re Stecklow, 144 B.R. 314 (1992)
35
Bankruptcy Discharge – Chapter 13
“[A]s soon as practicable after completion by the
debtor of all payments under the plan…the court
shall grant the debtor a discharge…” 11 U.S.C.
§ 1328(a).
§ 1328(b) allows for a hardship discharge if not all
plan payments have been completed.
High threshold for hardship discharge
36
Bankruptcy Exemptions
Bankruptcy exemptions allow a debtor to protect various kinds of assets from the reach of a trustee and creditors.
Maryland has opted into its own exemption scheme, and some of the most-often used exemptions are:
Retirement account exemption – fully exempt;
$25,150 exemption for the debtor’s owner-occupied residential real property (“homestead exemption”);
$6,000 “wildcard” exemption that can be used on property of any kind;
$5,000 personal property exemption that can be used on any non-real property.
$1,000 for household goods and furnishings and clothing
Exemptions are generally doubled for married spouses filing together.
37
Tenancy by the Entirety Exemption
If property is owned between a husband and wife, it is generally held
as tenancy by the entirety.
Entireties property is fully exempted from debts of ONE spouse, other
than tax debt, and is not protected from joint debts.
11 U.S.C. § 522(3)(B); Sumy v. Schlossberg, 777 F.2d 921, 925 (4th Cir.
1985)
Entireties is severed when the Court enters the divorce decree.
38
Example
Frank and Jill are looking to file bankruptcy
protection. Frank has $150,000 of general unsecured
debt in credit cards, while Jill doesn’t have any debt.
They own a home free and clear as tenants by the
entireties worth $400,000.
Frank can file for Chapter 7 and fully protect the
unencumbered home with the tenancy by the
entirety exemption and discharge his $150,000 of
credit card debt.
39
Example 2
George is looking to eliminate $70,000 of credit card debt and has a
mortgage on his home with a balance of $450,000 and the home is
worth $525,000. He lost a high-paying job over 6 months ago, and now
makes $70,000 a year. He also has $10,000 in his bank account.
This leaves approximately $75,000 of equity in the home, as well as
$10,000 in the bank account that must be protected for Chapter 7 to
make sense for George.
George can file Chapter 7 without worrying about losing his home or
cash. He can use the wildcard and personal property exemptions
(totaling $11,000) to protect his bank account, the homestead
exemption to protect $25,150 of the equity in his home and can also
deduct 10% for costs of sale of the home, which protects $52,500.
40
Chapter 7
Chapter 13
Chapter 11
Different Chapters of
Bankruptcy for
Consumers
41
Chapter 7
Liquidation
Useful for quickly discharging general
unsecured debt
Trustee is appointed to investigate the debtor’s
financials affairs and seize non-exempt assets
Trustee has all the rights that the debtor has, including rights to property
and causes of action, as well as the ability to recover preferences and
insider transfers.
Automatic stay stops creditor activity.
42
Chapter 7 – Trustee Duties
A Chapter 7 trustee is appointed in every Chapter 7 by the DOJ
U.S. Trustee’s Office.
Conduct 341 Meeting.
Provides a roadmap for the trustee about the assets of the
debtor.
Seize and sell assets.
File preference and fraudulent conveyance actions.
Issue reports to the court and creditors.
43
Chapter 7 Means Test
The Means Test analyzes all income, taxable or not, received by the
debtor (and spouse, if applicable), for the 6-month period prior to filing for bankruptcy, and compares it to standard tables:
44
Household Size Median Annual Income
1 $70,789
2 $90,424
3 $106,282
4 $128,272
Additional +$9,000
Chapter 7 Means Test – cont’d
If the debtor is over the Means Test figures, a presumption of abuse of the bankruptcy process arises.
This can be overcome, by taking additional deductions to reduce current monthly income and qualify for a Chapter 7.
Means Test does NOT apply if more than 50% of debt is business debt.
If Means Test cannot be overcome, debtor must file either Chapter 13 or Chapter 11.
The idea is if you earn above a certain income, you should be able to repay part of your debt.
45
Chapter 7 – Dismissal and Conversion
Debtor cannot voluntarily dismiss Chapter 7; but
Chapter 7 can convert to Chapter 13 or Chapter 11.
11 U.S.C. § 706
46
Chapter 7 - No Asset Case
The 341 Meeting of Creditors is typically scheduled a month after the Chapter 7 case is filed with the Court and is usually the only hearing that the debtor has to attend.
Most Chapter 7 cases are considered “no-asset” cases, which means that after the 341 meeting, the Chapter 7 trustee has determined that the
debtor does not have any assets to distribute to creditors.
After the 341 meeting, in no-asset cases, the Trustee files a “Report of No Distribution” with the Court, letting the Court, creditors, and the debtor know that the trustee does not intend to pursue any assets.
60 days after the 341 meeting, deadlines for creditors to file objections expire, and the Court can then enter the Discharge Order.
47
Chapter 7 - Asset Case
After the 341 meeting, the Chapter 7 trustee issues a “Notice of Assets,”
signaling that he/she intends to pursue assets of the debtor.
The Chapter 7 trustee can hire attorneys, accountants, real estate agents, and other professionals to aid in his/her recovery of assets.
The Chapter 7 trustee sets a proof of claim bar date by which creditors who wish to receive a distribution from the bankruptcy estate must file a claim with the Court stating the amount and basis of their claim.
Upon the final disposition of assets, the Chapter 7 trustee files a final report with the Court, and the case can be closed.
48
Example
Nolan lost a job 3 months ago making $200,000 a year and is currently unemployed. He is married with 2 kids under 21 but is separated from his spouse and only one child lives with him. He has non-priority tax debt of
$25,000, credit cards of $50,000, a car loan of $35,000, and a mortgage of
$450,000.
If Nolan filed today, he would not be able to meet the Means Test because his household size is 2, and the yearly median income for his
household size is $90,424, and his income over the past 6 months averages to $100,000. However, if he waits a month, he would be under-median and be able to file Chapter 7.
49
Chapter 13
Adjustment of Debts
for Individuals with
Regular Income
Useful for restructuring secured debt
Trustee is appointed to investigate the debtor’s
financials affairs and ensure the Chapter 13
plan meets the Bankruptcy Code
Debtor proposes 3- to 5- year repayment plan to
pay back some or all debts Automatic stay stops creditor activity.
50
How Does Chapter 13 Work?
File the case.
Upon filing, a Chapter 13 trustee is appointed, and the automatic stay takes effect.
Attend the 341 meeting of creditors.
The bankruptcy clerk schedules a 341 meeting of creditors with the trustee, which is usually the only hearing the debtor must attend.
Negotiate with creditors and adjust secured debt.
Usually through motions filed with the Court and negotiation on the motions.
51
How Does Chapter 13 Work?
Ensure plan meets confirmation requirements.
The bankruptcy clerk schedules a confirmation hearing, which is a hearing on the debtor’s Chapter 13 plan.
In order for the plan to be effective, the Court must sign an order of confirmation.
Make Chapter 13 Plan Payments.
The debtor begins plan payments 30 days after the case is filed.
Receive discharge.
The bankruptcy discharge is entered after the completion of plan payments.
52
When Is Chapter 13 Appropriate?
Chapter 13 has the ability to restructure secured debt.
Strip Liens
Value Collateral
If the debtor does not pass the Chapter 7 Means Test, he/she can still file Chapter 13.
If the debtor has unexempt assets and wants to protect those assets, he/she can file a Chapter 13 as long as the value of the assets is paid into the plan.
This is called the “best interest of creditors test.”
Creditors must receive as much in a Chapter 13 as they would receive in Chapter 7.
Chapter 13 can also be used to pay back priority taxes over 3 to 5 years.
Chapter 13 can be used to stop a foreclosure via the automatic stay and bring arrears current over a 3- to 5-year repayment plan.
53
When Is Chapter 13 Appropriate?
Chapter 13 also provides for a co-debtor stay, which protects a co-debtor from collections as well.
This is useful if a debtor is concerned that a co-signer will be liable for a debt, as co-signer are jointly and severally liable.
Chapter 13 also discharges certain debts that are not discharged in Chapter 7.
Government fines and penalties.
Debts incurred to pay taxes.
Property settlements in divorce cases.
Post-petition HOA fees.
Debts for loans from a retirement plan.
54
Chapter 13 – Proofs of Claim
Creditors who wish to be paid through a Chapter 13 plan must file a Proof of Claim.
In the Proof of Claim, there are various options for priorities of debt, including Domestic Support Obligation.
The Debtor can object to a Proof of Claim, and the Court will hold a hearing regarding the objection.
Fed. R. of Bankr. Proc. 3001.
55
Chapter 13 – Dismissal and Conversion
A debtor can voluntarily dismiss a Chapter 13 case at any time.
A debtor can convert a Chapter 13 to Chapter 7 or Chapter 11.
56
Limitations on Chapter 13
Chapter 13 trustees scrutinize expenses and can object to expenses they deem too high.
Chapter 13 has debt limits:
$419,275 for a debtor’s noncontingent, liquidated unsecured debts.
$1,257,850 for a debtor’s noncontingent, liquidated secured debts.
57
Chapter 13 - Trustee Duties
A Chapter 13 Trustee is appointed in every Chapter 13 by the DOJ U.S.
Trustee’s Office.
There are 3 standing Chapter 13 trustees in Maryland.
Robert Thomas, II
Rebecca Herr
Timothy Branigan
The Chapter 13 trustee conducts the 341 meeting of creditors, can object to the plan of reorganization, and attends the confirmation hearing.
Chapter 13 trustees rarely file preference actions and insider actions.
The Chapter 13 trustee also distributes plan payments to creditors in accordance with the Chapter 13 plan once the plan is confirmed.
58
Chapter 13 - Means Test
The Means Test is used in Chapter 13 to determine how long the plan of reorganization must be.
If the debtor is under-median, he/she can propose a 3-year plan, or anywhere between 3 and 5 years.
If the debtor is above-median, he/she must propose a 5-year plan.
59
Property Settlement versus DSO
Domestic Support Obligations are non-dischargeable in any chapter of bankruptcy, but Property Settlements are dischargeable in a Chapter 13, but not a Chapter 7.
60
Property Settlement versus DSO
“In determining where to draw the line in an agreement [between property settlement and
domestic support obligation], the court looks first to the intention of the parties. If the court's intent can be divined in a divorce or annulment decree, that would likewise be a factor.”
In re Coffman, 52 B.R. 667 (Bankr. D. Md. 1985)
Post-nuptial agreement specified structured payout for marital home in separate paragraph in the divorce agreement than the paragraph for alimony is considered dischargeable property settlement.
Tilley v. Jessee, 789 F.2d 1074 (4th Cir. 1986)
Chapter 7 debtor sought to have payment of $3,000 a month dischargeable as property
settlement because he alleged it was for the wife’s child and not his child and therefore not a child of the debtor. Court held that they were in the nature of alimony because 1) the debtor classified the payments as alimony on his tax returns and they were barred by quasi-estoppel; 2) the payments were structured to the wife regardless of whether the child predeceased the wife;
and 3) the agreement contained separate provisions for the support of the wife’s children.
In re Robb, 23 F.3d 895 (4th Cir. 1994)
61
Hold Harmless and Indemnification Clauses
Courts in the 4th Circuit regularly hold that these are nondischargeable domestic support obligations.
In re Jiminick, 2009 WL 2928238 (Not Reported)
In re Catron, 186 B.R. 197, 205 (Bankr. E.D. Va. 1995)
62
Questions
115 Sudbrook Lane, Suite 206 Baltimore, Maryland 21208 410.670.7060 phone
410.834.1743 fax
eric@steinerlawgroup.com www.bankruptcy.md
@LawSteiner
SteinerLawGroupLLC steiner-law-group
