The stress that goes along with financial trouble can lead people to make perfectly-understandable payment decisions that can backfire if the person who pays ends up filing a bankruptcy case.
Here’s a common scenario: someone with debt problems needs to make significant payments to keep his creditors pacified. Unfortunately, the credit score isn’t good (and it’s trending in the wrong direction) so a bank loan is out of the question. Relatives or friends might be able to help, though, so our person with financial problems reaches out and asks to borrow money with a promise of prompt repayment once our person in back on his or her feet financially.
So the friend or relative lends the money with that understanding. And when a tax refund comes in, the borrower repays the friendly lender in full. Unfortunately, the borrower isn’t paying anyone else and this short-term loan does not prove to be enough to solve the financial problem. The borrower ends up filing a bankruptcy case anyway, a few months after the private loan was repaid.
This scenario is perfectly understandable. Our borrower needed money and the banks weren’t going to lend. So the borrower went to a private lender with whom the borrower had a relationship. And when some money came the borrower’s way that could pay a little to all creditors or pay the friendly, didn’t-have-to-do-it-but-did private lender, paying the private lender at the expense of all other creditors is almost the most natural thing to do.
The problem is that the bankruptcy code steps in if similarly-situated creditors are dealt with differently by a debtor in the time immediately before a bankruptcy case is filed.
in this scenario, the repayment made by the borrower is call a preferential payment. A preferential payment is a payment made by a bankruptcy debtor in the amount of $600 or more to a third-party creditor within the 90 days immediately before the bankruptcy filing or a payment of $600 or more to an “insider” (generally, a relative or a close friend) within one year before a bankruptcy filing. And chapter 7 bankruptcy trustees can recover that payment from the person who received it, in order to pay all creditors on a pro-rata basis. So the very understandable repayment to a relative in the scenario above can lead to a bankruptcy trustee suing the relative to recover the money. Not the expected or desired outcome.
There are other examples in which the bankruptcy code runs counter to human nature. So anyone thinking about fixing a bankruptcy case is well-served to speak with an experienced bankruptcy attorney – such as the attorneys at Kain + Henehan to make sure that there are no surprises in store in the event a bankruptcy is filed. Contact us for a free consultation to see where you’re at. Find us at www.kainhenehan.com today!