Increasingly when couples come to me today seeking to mediate their New Mexico divorce, it quickly becomes apparent that they need to consider bankruptcy. Although an attorney, I do not do bankruptcies, so I generally insist that they take a time out from the process (a few days or weeks) to confer with or consider conferring with a bankruptcy attorney. In New Mexico, the State Bar generally conducts a Consumer Debt/Bankruptcy Workshop every 4th Wednesday of each month, at 6:00 p.m., at the State Bar offices at 5121 Masthead NE, Albuquerque. (To sign up, call 505.797.6094.)
Here's is a very brief and superficial overview of bankruptcy, and bankruptcy issues arising in divorce.
Overview of Bankruptcy Generally
There are three basic types of bankruptcy:
- Chapter 7, liquidation;
- Chapter 13, individual reorganization; and
- Chapter 11, reorganization which is usually used by businesses so will not be discussed further here.
Under Chapter 7, the debtor's non-exempt assets are used to pay off all or a portion of his or her debts. Chapter 7 debtors are usually able to keep or "exempt" certain property, which may include a house, car, or household or household items depending on individual circumstances. Ultimately, a debtor may end up having no non-exempt assets, and all eligible debt is simply discharged. (Consult a bankruptcy attorney for more information on exemptions and debt not eligible for discharge, such as student loans.)
The entire process for Chapter 7 discharge usually takes between 90 and 150 days from date of fling to closing the matter, depending on whether there are any non-exempt assets for the trustee to sell/administer.
Under Chapter 13, debtors whose incomes are above their state's median income (based on family size), and who can repay at least $6,000 of their debt over five years, are no longer eligible to have their debts wiped out, under the 2005 Bankruptcy Abuse Prevention and Consumer Protection Act ("BAPCPA," or "Bad Crappa" as I understand it is sometimes called). Instead their debt will be reorganized into a 3-5 year payment plan, and they will be able to keep their property. To determine if at least $6,000 of debt can be paid off over 5 years, the debtor is subject to a "means test," in which the debtor's "current monthly income" is reduced by a set of deductions specifically allowed by the IRS. (Consult a bankruptcy attorney for more information on median income and means testing)
Chapter 13 reorganization usually takes 90 to 120 days from filing to confirmation of the reorganization plan, then the additional years of repayment.
Under both Chapter 7 and Chapter 13, debtors are usually required to complete an approved credit counseling course before being permitted to file for bankruptcy. See 11 USC 109(h).
Bankruptcy Implications for Divorce
If you are dealing with (or are) a divorcing couple with considerable debt, who should consider bankruptcy, there are a number of legal issues of which you should aware.
First, be aware that folks cannot file a joint bankruptcy after divorce, notwithstanding the community nature of the debt. Additionally, the amount of income will be based on what it was six months prior to filing, rather than the date of filing. This means that if bankruptcy is not addressed until after the divorce, each couple would need to file individually, doubling the cost of the bankruptcy, and if divorce results in a drop in income (community income) the parties may also want to wait six months or more after divorce.
Second, if only one spouse files divorce, the debt is discharged (or reorganized) only as to that spouse--even if the parties were married at the time of divorce. Because of the joint and severable nature of community debt, this means creditors will still be able to go after the non-discharged spouse.
Third, if parties have a bankruptcy pending at the time divorce is filed or pending, the bankruptcy stay does not affect most divorce matters--except property (debt and asset) division. This means that the parties can go forward with any allocation of spousal and child support, but they cannot divide the assets/liabilities unless you. That will be done by the bankruptcy court UNLESS the parties (in the case of joint bankruptcy) or the non-bankruptcy party (in the case of individual bankruptcy) file a motion "for cause" asking the bankruptcy court to life the stay. This may denied, in which case the state court will not have jurisdiction to divide the community property until after bankruptcy.
Fourth, child support and spousal support are non-dischargeable in any bankruptcy proceeding. This means that if the parties go through bankruptcy after divorce, those settlement agreements will not be disturbed. Additionally, these obligations have priority over all other creditors, and failure to pay child support "post-petition" is a grounds for dismissal of a bankruptcy
Fifth, the property listed in a marital settlement agreement (MSA) cannot be discharged in a Chapter 7 bankruptcy, although it may be subject to reorganization under Chapter 13.
Sixth, settlements made prior to bankruptcy--for example, and agreement to release spousal alimony for a lump sum payment--might be subject to the prohibition against preferential payments, and therefore subject to retrieval by the bankruptcy court or trustee.
Seventh, ratifying debt as "personal" versus "community" in a divorce action may be disregarded by the bankruptcy court, since there is a high presumption that debt arising during marriage is community property. Thus, at the least, there would be a high risk of costly ancillary litigation.
Eighth, no agreement "in the nature of support" can be discharged, under any Chapter. This will include child support and alimony obligations, as well as Guardian ad Litem (GAL) and attorney fees necessary to obtain these obligations. It may also include some property division matters, to the extent they are "in the nature of support." However, it will be up to the determination of the bankruptcy court, not based on the parties' declarations. (Note, penalties for late payment of alimony or child support are not generally held to be "in the nature of support.")
Based on all of these factors, one Albuquerque, N.M. area practitioner (Dave Reynolds) has stated that he "can't imagine a case where it isn't better to file bankruptcy first," and then divorce. Either the parties will be able to discharge all debt, or they will be able to reorganize everything and then know what they have to work with upon divorce and distribution of property. If for whatever reason the parties cannot postpone divorce until they file bankruptcy, Thirteenth Judicial District Judge John Davis of New Mexico recommends that they simply leave all debts out of the MSA and state that they intend to file bankruptcy.
There are other items that also may not be dischargeable in bankruptcy:
- tax debt from prior years;
- student loan debt, unless debtor is under "undue hardship" (Note: this is supposedly a very difficult standard to meet); or
- debt to former spouse or child(ren).
You should also consult a bankruptcy attorney concerning implications of bankruptcy on divorce, and other items that may not be dischargeable in bankruptcy.
After consulting with a bankruptcy attorney, please contact Pilar Vaile, P.C. at (505) 247-0802, or info@pilarvailepc.com if you are ready to proceed with divorce mediation.
