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Bankruptcy Bankruptcy Horror Stories

Bankruptcy Horror Story #3:
Can a Chapter 7 Trustee Void a Divorce Decree?

The Chapter 7 Trustee does not have the power to void a State Court Divorce Decree or Divorce Settlement Agreement and force a debtor to remarry their ex-spouse. However, the Chapter 7 Trustee has the power to review the assets and liabilities listed in the Divorce Decree and make a subjective determination if the assets and liabilities were divided equally or if not, why did one spouse benefit more than the other spouse in the division of assets and liabilities.

The Chapter 7 Trustee has the power to subjectively review a Divorce Decree if it was finalized within 4 years of one of the spouses filing bankruptcy. How can the Chapter 7 Trustee have the power to review a Divorce Decree, agreed to by two adults and each represented by a divorce attorney? The Trustee has the power based upon the bankruptcy code that allows the Trustee a 4 year window to look back at all of the debtor’s sale or transfer of assets and liabilities. The bankruptcy code basically implies that any sale or transfer of assets and liabilities within 4 years of bankruptcy was done to avoid paying creditors.

Accordingly, the Trustee has the power to review a Divorce Decree and make a unilateral decision if the Agreement is equal and if not, request an explanation from the debtor why the division was not 50/50. I currently have a case, wherein, my client wanted out of his marriage so badly that he agreed to take $150,000 from his ex-spouse even though there was over $600,000 of equity in their property. On the face of the agreement, this obviously is not an equitable distribution of assets. My client’s explanation is that his ex-spouse used her money prior to marriage to put a significant down payment on the property, so she was entitled to the extra $150,000 of equity. The problem is documents cannot be found and he does not talk to his ex-spouse, so the evidence proving the down payment is hard to provide to the Trustee. Rule: Do not rely on the debtor’s account of the facts, but rather make sure there is actual evidence readily available prior to filing the Chapter 7 case, so it can be provided to the Trustee if requested.

What can the Chapter 7 Trustee do if they subjectively decide that the distribution is not equitable? The Trustee can sue the non-debtor’s ex-spouse demanding money to pay off the debtor’s creditors, pay the Trustee’s fees and pay the Trustee’s handpicked lawyers. The ex-spouse would then have to hire an attorney to litigate the matter or make a settlement agreement with the Trustee to pay the Trustee off.

Bottom line: I recommend being very careful filing a Chapter 7 for a client who got divorced within 4 years of filing bankruptcy and there was a property distribution involved. Error on the side of caution, meaning make sure the equity in the property was split 50/50. If not, I suggest filing a Chapter 13 case to avoid a subjective investigation and determination of divorce assets and liabilities by the Chapter 7 Trustee.