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Avoiding the “Presumption of Fraud” for Recent “Luxury” Purchases and Cash Advances

Jan. 19, 2013

In spite of filing bankruptcy, you could still owe certain debts that you recently incurred. Here’s how to steer clear of this problem.

When you file bankruptcy some kinds of debts are “discharged” (legally written off) and some are not. Those that might not be discharged include debts incurred through fraud or misrepresentation. Within that category are recent cash advances and ‘luxury’ purchases, which the Bankruptcy Code says “are presumed to be nondischargeable.” How does this “presumption” work, and how can you avoid it and discharge all your debts?

The Fraud Exception to Discharging Your Debts

Your debts generally get discharged in bankruptcy. But one of the most basic principles of bankruptcy is that you have to be honest to get its benefits. You can’t purposely cheat a creditor and then write off the debt you owe to it. Specifically, a creditor can challenge your ability to write off a particular debt if it was “obtained by . . . “false pretenses, false representation, or actual fraud . . . .” See Section 523(a)(2) of the Bankruptcy Code.

What’s a “Presumption”?

A presumption of fraud makes it easier for a creditor to make you pay a debt, by excluding that debt from those being discharged.

Here’s how this works. A creditor has to object to the discharge of a debt that it thinks you incurred fraudulently, or else that debt will be still be discharged. Its objection must be in the form of a lawsuit the creditor files at the bankruptcy court. In that lawsuit the creditor normally has to provide evidence to the court proving your alleged fraud or misrepresentation. A presumption that a debt is not dischargeable under certain circumstances makes it much easier for the creditor to win its lawsuit because it can do so without showing any evidence beyond that this set of circumstances applies.

The two sets of circumstances in which a presumption of fraud arises are with “luxury goods or services” and cash advances.

The “Luxury Goods or Services” Presumption

If a consumer buys more than $500 in “luxury goods or services” in the 90 days before filing the bankruptcy, that debt is presumed not to be dischargeable. That means that the creditor doesn’t need to prove through evidence that the debtor did not intend to pay the debt at the time the purchase, which would usually not be an easy thing to prove. The rationale behind this presumption is that there is a good chance that the debtor knew he or she intended to file bankruptcy and not pay the debt at the time of the purchase, and so should be made to pay it.

This only applies to the purchase of “luxury goods or services,” but the definition is broader than you would think. It includes everything except goods or services “reasonably necessary for the support or maintenance of the debtor or a dependent of the debtor.” What does and doesn’t fit within this unclear definition is for the bankruptcy court to decide. A debtor could persuade the court that the goods or services totaling more than $500 were “reasonably necessary,” or that he or she incurred with the intent to pay it.

The Cash Advances Presumption

Similarly, if a consumer incurs a debt of more than $750 through one or more cash advances made in the 70 days before filing the bankruptcy, then creditor does not need to bring evidence proving that the debtor did not intend to pay the debt. And as stated above, the debtor could try to persuade the court that he or she did in fact intend to pay the cash advance debt at the time it was incurred.

A Creditor Can Bring Evidence of Fraud without a Presumption

A presumption helps a creditor in the circumstances where they apply. But if a presumption doesn’t apply—say a “luxury good” was purchased more than 90 days before your bankruptcy case is filed—the creditor could still possibly challenge your ability to discharge that debt. But here the creditor would have to give the court strong evidence that you did not intend to pay the debt, which again is usually not easy to come up with. That’s why creditors are not as likely to challenge purchases and cash advances that were made outside the presumption periods.

Avoiding These Presumptions of Fraud

You can avoid giving a creditor the advantage of these presumptions first by not using any credit and making cash advances in the few months before filing bankruptcy. Or you could just hold off on filing bankruptcy until enough time has passed to get beyond these 70 and 90-day presumption periods.

Remember again that if a creditor thinks it has evidence that you incurred a debt that at that time you did not intend to pay, or that there was some other kind of fraud or misrepresentation, the creditor may still decide to raise the issue without the benefit of a presumption. But these are relatively rare. Avoid filing within the presumption periods and you will significantly decrease the chance that a creditor will challenge the discharge of its debt.