One of the most common questions asked of a bankruptcy attorney is “what if I [fill in the blank] with this asset? Will I be able to keep it then?” As a general rule, when preparing to file for bankruptcy protection or initiating any legal proceeding for that matter, if it does not pass the smell test, it will not work in court. Moreover, given the number of bankruptcy filings in recent years, whatever new strategy you suggest has probably already been tried.

One of the most common attempts to skirt the bankruptcy rules is transferring assets. Debtors considering such a transfer, however, should be aware that a bankruptcy Trustee has the authority to undo any transfers of property if the transfer occurred within a year of the bankruptcy filing. In addition to undoing the transfer, the bankruptcy court can also deny a discharge and charge the debtor with criminal penalties, if the court determined the debtor intentionally concealed or destroyed or records, or knowingly and fraudulently made false statements on the bankruptcy petition. The method for transferring the asset does not affect the trustee’s ability to recover the asset.

I was recently presented with the question of whether property could be transferred to an irrevocable trust. My initial reaction was the transfer could be reversed by a bankruptcy trustee for the same reason the sale of property can be undone. The idea just did not pass the smell test. After some double checking my initial reaction was confirmed. In Fink v. Graven Auction Co. (In re Estate of Graven), 64 F.3d 453, 454 (8th Cir. Mo. 1995), prior to filing for bankruptcy, the debtors, husband and wife, transferred their assets to two companies controlled by the husband for little or no consideration. The assets were subsequently transferred to an irrevocable trust in the husband’s name. Not surprisingly, the bankruptcy trustee filed an adversary proceeding seeking return of the fraudulently transferred. Ruling in favor of the trustee, the bankruptcy court ordered the return of the assets. The court reached a similar decision in In re Nemeroff, 74 B.R. 30 (E.D. La. 1987), holding that the creation of irrevocable trusts and the resulting transfers of property by the debtors was made with actual intent to hinder, delay, or defraud creditors and were thus avoidable under 11 U.S.C. § 548(a).

The moral of the story is regardless of the methodology, transfers of assets for the purpose of skirting bankruptcy disclosures is always done at the debtor’s peril. If discovered, the best case scenario is that the transfer is avoided. In the worst case scenario, your discharge could be denied and you could face criminal charges for attempting to perpetrate a fraud on the court.

- Richard V. Stokan, Jr.