Filing for bankruptcy brings a lot of relief to thousands of Minnesotans each year. When a person files a personal chapter 7 bankruptcy case, they are afforded a great deal of protection from their creditors and relief from their debts, most of which are completely wiped out forever when they receive their discharge. Up until when a person files a bankruptcy case, they often continue to attempt to pay their creditors as much as they can. Often, it is only when a person realizes that it is futile to continue to pay their debts, and simultaneously afford to pay their other necessary bills, that a person decides to file bankruptcy and stops paying their creditors.
A well intentioned person struggling to pay their creditors may also be paying back a close friend or family member to whom they owe a legitimate debt for money they borrowed from that person in the past. However, in bankruptcy, repayments of a debt to a friend or family can cause negative consequences for the debtor (what you call someone who files a bankruptcy case) as well as for the close friend family member whom they paid back.
In bankruptcy, all creditors are supposed to be treated equally and fairly. Therefore, when a debtor pays back more to one creditor than they do to other creditors, this can be considered a “preferential payment.” A preferential payment, as the name implies, is a payment that unfairly favors, or prefers one creditor, to other creditors. The bankruptcy code provides the chapter 7 bankruptcy trustee the right to, in a sense, undo a preferential payment made to a creditor before filing bankruptcy, by allowing the trustee the right to go after the creditor to take back the money paid to them by the debtor, which the trustee will then distribute more evenly amongst the debtor’s other creditors.
If the creditor is an “ordinary creditor” such as a credit card company, medical provider, or personal loan lender, for example, and the ordinary creditor receives $600 or more in the 90 day period before the debtor’s bankruptcy case is filed, this may be considered a preferential payment, which the trustee may go after for return of the money and distribute to other creditors. However, if the creditor is an “insider” of the debtor’s, and the insider received $600 or more in the one year period before the debtor’s bankruptcy case was filed, this may also be considered a preferential payment that the trustee can try to recover from the insider for the benefit of the other creditors. Although the bankruptcy code defines and “insider” as a relative of the debtor, the bankruptcy courts have said that an insider can be someone whom the debtor has a close personal relationship, implying that a close friend of the debtor’s may also legally be considered an insider to whom a preferential payment may be made. For this reason, a person considering filing for bankruptcy should be particularly careful when repaying debts owed to a friend, and particularly, to a person related to them by blood or marriage. If a debtor pays such a person a total of $600 or more within the 12 month period before filing their bankruptcy case, they run the risk of the trustee harassing, or even suing, that person for return of the money. In many of these cases, the person filing for bankruptcy will choose to settle with the trustee by paying them themselves instead, to avoid involving or financially harming their friend or family member. For this reason, a person who has repaid a friend or family member before filing a bankruptcy case is best advised to wait until after it has been more than 12 months since the repayment to the friend or family member to file their bankruptcy case. They are also well advised to not pay back their close friend or family member until after their case is filed, since the trustee may only pursue preferential payments that were made before their bankruptcy case was filed. There are also a few legal defenses that may be raised to defeat a trustee’s attempt to avoid (legally undo) a preferential payment, but these require more explanation that is better elaborated upon in other blogs.
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When a person is considering filing for chapter 7 bankruptcy, they are always best served by first consulting with an experienced bankruptcy attorney to ensure they themselves, and their close friends and family members, are best financially protected from their decision to file a bankruptcy case. LifeBack Law Firm now has a new office located at 370 Selby Avenue, Suite 224, St. Paul MN 55102. Come visit us there or online at lifebacklawfirm.com!
