You may or may not care if the trustee takes an asset from you, you can fight and/or negotiate, or you can benefit from letting it happen.
Here’s the sentence that we’re explaining today:
Usually in a Chapter 7 case the bankruptcy trustee does NOT take anything from you because everything you have is “exempt,” but if he or she does believe something of yours is not exempt and wants to take it to distribute among your creditors, you can object and get a ruling in your favor, or you can pay to keep your property, or you can give it to the trustee to pay a debt that you need and/or want to be paid anyway.
Keeping All You Own Because It’s All Exempt
As we explained in a blog post a week ago, most people who file a Chapter 7 “liquidation” case keep everything they own—nothing is liquidated—because everything they own is protected. Everything is usually exempt. You are allowed to have certain amounts in certain categories of possessions—usually equity in a home and vehicle, a certain amount of household goods and personal possessions, and such—with the possessions of most people who file under Chapter 7 falling within those allowances. In those cases the job of the Chapter 7 trustee is simply to verify on behalf of your creditors that everything you own is exempt or not worth taking from you. (See that blog post of a week for more information on such “no-asset” Chapter 7 cases.)
“Liquidation” and Distribution among Creditors in a Chapter 7 Case
There are two other scenarios.
First, you may file a Chapter 7 case knowing that something isn’t exempt. You are either very willing to part with it or are reluctantly willing to do so because that’s your best option. For example, you may own a boat that you are tired of maintaining and are more than willing to have out of your life. Or you may wish you could keep it but are willing to let it go because you either can’t or chose not to use Chapter 13 to retain the boat. (Note that property exemptions differ from state to state—whether a boat would or would not be exempt depends on the law applicable to Chapter 7 cases filed in your state and perhaps on the value of that boat and on what other assets you own.)
Second, you may file a Chapter 7 case either aware that something you own and want to keep might not be exempt. Or else the bankruptcy trustee may unexpectedly assert an interest in something you thought was exempt. We’ll discuss fighting the trustee in these situations in the next section.
But assuming that you concede that something isn’t exempt, what happens? You give it to the trustee, who sells it, and distributes the proceeds to your creditors, after paying any costs of sale—such as for any advertising, auction fees, and such—and receiving the legally prescribed trustee’s fee.
What’s crucial here is the order in which debts are paid by the trustee. Under bankruptcy law certain categories of debts—called “priority” debts—are paid in full before any other debts are paid anything. And within those categories of priority debts the ones higher on the priority list get paid in full before the lower priority ones get paid anything at all.
For example, child support arrears and recent income taxes are both priority debts, with child support the higher priority between these two categories. So if you owed $2,500 in child support arrears and $3,000 in 2013 income taxes, and the trustee received $5,000 from the sale of your boat (after costs of sales and the trustee fee), the first $2,500 would go to pay off the support arrears, the remaining $2,500 would go to the taxes. That would leave $500 of the taxes not paid, and no money would be left for any of your other creditors.
Fighting the Trustee
Just because the trustee believes that something you own is not protected because it is either completely or partially not covered by the available exemptions, that does not have to be the end of the story. The reality is that the exemption categories are often not clearly described in the applicable law, so whether a possession fits within that exemption can be debatable. The value of the possession may be unclear, putting in dispute whether its value is within or beyond the allowed amount. So the trustee’s opinion about whether some possession fits within the definition of an exemption category or about what it’s worth is just the trustee’s opinion. If your attorney believes you have a good argument to the contrary, it may be worth fighting the trustee, usually by making the argument directly with the trustee or his/her attorney about it. Sometimes, rarely—when the value the possession at issue justifies the effort and cost—it’s worth taking the dispute to the bankruptcy judge for a ruling one way or the other.
Pay the Trustee, Perhaps in Monthly Payments, to Keep Your Asset
You may have a possession that you either concede it’s not exempt or you can’t persuade the trustee that it’s not exempt. Then the trustee will usually agree to not take that possession if you pay the trustee the net amount that the trustee would receive from selling that possession. Often trustees even agree to accept payment through monthly installments, as long as the agreed amount is paid within a relatively short time—usually less than a year or so. After all, Chapter 7 is intended to be a relatively quick “liquidation” procedure.
In the above example of the $5,000 non-exempt boat, if the debtor really wanted to keep the boat and had the means (after writing off all or most of his or her debts) to pay about $500 per month, the trustee would likely agree to let the debtor in effect buy back his or her right to the boat. The trustee gets the $5,000 without having to go through the trouble of taking possession of and selling the boat, and the debtor gets to keep the boat.
One reason trustees are willing to go through the extra steps of negotiating the price and accepting monthly payments from the debtor is because the trustees hold tremendous leverage: if a debtor fails to make the payments, the trustee can and will get the bankruptcy judge to revoke the write-off of debts and to order the debtor to turn over the possession to the trustee. So do not go into such a deal without being very confident that you will be able to pay as agreed.
Letting the Trustee Pay an Important Debt
You would likely be much more willing to have the trustee either take one (or more) of your possessions, and you would be much more willing pay the trustee so that you can keep the possession(s) IF the trustee would pay most of the money to pay a debt or two you wanted or needed to be paid anyway.
Take the examples above of the $5,000 boat either taken and sold by the trustee or paid off in $500 monthly installments by the debtor. If the debtor owed $2,500 in child support arrears and $3,000 in recent income taxes, he or she would know that those debts would not be written off in the Chapter 7 case and would still have to be paid by the debtor. Having those debts be paid first by the bankruptcy trustee out of the $5,000 without any money going to any other debts is a great deal for the debtor. Every dollar of the $5,000 net proceeds from the boat sale or the $5,000 paid to the trustee to keep the boat are put to the best possible use (other than what is paid for the trustee fee): paying debts that you would have to pay out of your own money otherwise.