There are two ways that bankruptcy impacts an estate plan – 1) when someone files bankruptcy and passes away while the proceedings are still in progress, and 2) when someone inherits assets while in the middle of filing for bankruptcy. The type of bankruptcy filed – Chapter 7 or Chapter 13 – determines how the bankruptcy issues intersect the estate planning issues. Bankruptcy is governed by federal laws and is both a financial and legal term used to describe the process where either an individual or a business petitions the United States Bankruptcy Court to erase debt. When the court determines the petitioner’s debts exceed all the assets, the court rules that the petitioner is insolvent. The petitioner then either liquidates assets to pay a portion of the debts or enters into a 3-5 year repayment plan.
Let’s first take a look at the two different types of bankruptcy. To qualify for Chapter 7 bankruptcy your income cannot exceed the Maryland's median income requirements for a household of your size. Keep in mind that even with Chapter 7 bankruptcy, not all debt gets wiped out. Some non-dischargeable debts include income taxes, child and spousal support obligations and student loans. With Chapter 7, any property you own will be liquidated (except your home and one vehicle) to pay creditors.
If your income exceeds the qualification requirements for Chapter 7 bankruptcy, then you may get some relief by filing a Chapter 13 bankruptcy. This establishes a repayment plan with your creditors over a 3 to 5 year period. The more property you have (real and personal), the higher your monthly payment will be under the repayment plan. After successful completion of your repayment plan, any outstanding balances on your unsecured debts (credit cards, etc.) will be discharged.
If You Die During Your Bankruptcy Proceedings
Now, let’s take a look at how bankruptcy impacts your estate plan. If you were in the middle of bankruptcy when you pass away, your debts must be paid prior to any beneficiaries receiving any inheritances laid out by the terms of your will. If you were in the midst of a Chapter 7 bankruptcy, the executor of your estate will work your bankruptcy trustee to sell any property or other assets and use those proceeds to pay your creditors. If there are any assets left once all the debts are satisfied, then your intended beneficiaries will receive those remaining distributions.
If you die in the middle of a Chapter 13 bankruptcy, your estate administrator and bankruptcy trustee may petition the court for any of the following four actions:
- To dismiss the Chapter 13 case altogether and allow your estate administrator to proceed without interference or complications from the bankruptcy;
- To have the bankruptcy petition discharged due to hardship;
- Convert the Chapter 13 petition into a Chapter 7 petition; or
- Continuing with the Chapter 13 petition and the resulting repayment plan.
These are simply requests made on your behalf. The bankruptcy judge makes the final decision by considering the impact on all parties and chooses the course of action resulting in every party’s best interests.
Your Beneficiary Has Filed Bankruptcy
The other scenario where bankruptcy impacts an estate plan occurs when someone you name in your will has filed bankruptcy within 180 days of your date of death. That beneficiary will be required to disclose the inheritance to his or her bankruptcy trustee. If it is a Chapter 7 bankruptcy, the assets may be liquidated and used to pay your beneficiary’s creditors. If it is a Chapter 13 bankruptcy, the inherited assets will play a factor in the amount of money owed each month according to the repayment plan.
There are steps that can be taken in advance to prevent bankruptcy from disrupting the intentions of your estate plan. Contact the experienced estate planning attorneys at Stouffer Legal to discuss your situation. You can schedule an appointment by calling us at (443) 470-3599, emailing us at office@stoufferlegal.com, or register for an upcoming free webinar using the link below:
https://attendee.gotowebinar.com/register/8446522408312734989
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