Once a bankruptcy case is filed, a trustee is selected to administer the debtor’s estate. One of the options available to a bankruptcy trustee is the authority to set aside or “avoid” transfers of a debtor’s assets that the trustee determines unfairly placed the asset beyond the reach of creditors. Transferring an asset to a third-party for the purpose of hiding it from creditors constitutes a “fraudulent conveyance.”

There are two common types of fraudulent transfers which can be avoided by a bankruptcy trustee. The first involves intent to defraud creditors by hiding the asset while maintaining control over the asset. This can occur with the transfer of assets to a corporation or trust, or to a party with whom the debtor has a special relationship. In the event the trustee suspects such a fraudulent transfer, it is up to the trustee to prove the transfer was made within one year before the date of filing and that the transfer was made with the intent to defraud a creditor which is made on a case by case basis. The second type of fraudulent conveyance involves the sale of an asset for grossly inadequate consideration. In order to prove this type of fraud, the trustee does not need to prove intent, just that the asset was transferred for less than its actual value. Once again, this determination is made on a case by case basis by a bankruptcy judge as the actual value of assets can vary greatly from state to state.

If a trustee is successful in convincing the court that a transfer was fraudulent, the trustee can recover the property, or the value of the property to pay creditors. This rule comes with a few exceptions. Where the asset is purchased by a “bona fide purchaser,” a purchaser who obtains an asset in good faith without notice of the rights of others, the transfer will stand. Bankruptcy courts will also make an exception where the asset has been greatly improved by the purchaser. In those cases, the purchaser may be allowed to retain the asset or obtain a lien on the property in the amount of the improvements. As with any fraudulent transfer or suspected fraudulent transfer, the details will be determined on a case by case basis and the debtor will be afforded several opportunities to dispute that the transfer was fraudulent.

If you have transferred any significant assets within one year of the time you are considering filing for bankruptcy protection, you should consult with a bankruptcy attorney to discuss your options. Some preplanning may help you avoid a fight with a trustee over whether a transfer was fraudulent.

- Richard V. Stokan, Jr.