10th Mar 2015
We will look at the different types of divorce-related debts and see which are dischargeable, the effects of the different chapters (types) of bankruptcy on dischargability, exceptions to the basic rules, and how to protect the non-filing spouse both during the divorce and during the bankruptcy proceedings.
Basic Information About Chapter 7 and Chapter 13
An individual can file for bankruptcy relief under different chapters (types). Although an individual can file under Chapter 11 or Chapter 12 of the Bankruptcy Code, an overwhelming majority of individual debtors file either Chapter 7 or Chapter 13 bankruptcies.
When an individual files a bankruptcy, the most basic reason is to eliminate debts by receiving a discharge. In a Chapter 7, the individual eliminates unsecured debts (such as medical and credit card debt) and keeps property that is exempt. In a Chapter 13, the debtor proposes a plan to pay back certain types of debt over a three to five year period, can catch up delinquent loans on secured property, and can keep non-exempt property. In either a Chapter 7 or 13, the debtor receives an order at the conclusion of a successful case that discharges (eliminates) any remaining debt. However, some debts may be non-dischargeable, and high among the non-dischargeable debts are debts related to divorce.
Domestic Support Obligations
The primary question that needs to be asked when determining whether a divorce-related debt is dischargeable is if the debt is a Domestic Support Obligation (DSO). The Bankruptcy Code defines the domestic support obligation at 11 U.S. Code § 101(14A). The simple version is any child support, alimony, or any other payment that is “in the nature of alimony, maintenance, or support” will be a DSO. The Bankruptcy Court will look to federal law to make this determination, and will look past any labels that may have been used in the divorce agreement or order. The determination is a case-specific determination of whether the intent of the parties or the divorce court was for the obligation to be the nature of support.
Section 523(a)(5) of Title 11 of the US Code states that “A discharge under section 727, 1141, 1228(a), 1228(b), or 1328(b) of this title does not discharge an individual debtor from any debt – (5) for a domestic support obligation.” If a divorce-related obligation is determined to be a DSO, the debt will not be dischargeable in either a Chapter 7 or Chapter 13 Bankruptcy.
Additionally, any outstanding domestic support arrearage will normally be required to be caught up during the Chapter 13 Plan period, and the filing debtor must be current on all DSO payments at the end of the plan period in order to receive a discharge.
Property Settlement Debts
In a Chapter 7, even if a debt is not a DSO it will probably not be dischargeable. Section 523(a)(15) states that a debt is not dischargeable if it is owed to a spouse, former spouse, or child of the debtor, and it is incurred by the debtor 1) in the course of a divorce or separation, 2) in connection with a separation agreement, divorce decree or other order of a court of record, or 3) because of a determination made in accordance with State or territorial law by a governmental unit. This effectively means that any debt that is a divorce-related debt will be non-dischargeable if you file a Chapter 7 Bankruptcy.
Chapter 13 does not have the same limitations as Chapter 7 as Section 523(a)(15) does not apply to a Chapter 13 bankruptcy filing. This means that a property settlement debt will not have priority status in a Chapter 13 Plan, and may be discharged just like any other unsecured debt. Please see below to find out how to protect the non-filing spouse’s property settlement debt in a Chapter 13.
If it is not apparent on the surface as to whether the debt is a DSO or property settlement debt, the court will look to the following factors to determine the type of debt:
1) Whether applicable state law would deem the obligation to be alimony or property settlement;
2) Whether the obligation ends upon the happening of contingencies, such as remarriage;
3) Whether the payments are periodic or a lump sum;
4) Whether the obligation was constructed to reduce the disparities in the parties’ relative earning power;
5) Whether the spouse is directly or indirectly benefitted by the payment; and
6)Whether the parties have minor children whose support is in question.
English v. English (In re English), 99-13129-WSS (Bankr. S.D. Ala. July,2001) (citations omitted)
In short, if you’re thinking about filing a bankruptcy and have divorce-related property-settlement debts, you should seriously consider filing a Chapter 13 instead of a Chapter 7 bankruptcy. Consult a qualified bankruptcy attorney to discuss your options.
Other Divorce-Related Debts
Non-filing Spouse’s Attorney Fees
If the non-filing spouse has had attorney’s fees awarded and the award was based on the non-filing spouse’s need and the debtor spouse’s ability to pay, the fees will be determined to be in the nature of support, and will be non-dischargeable. See In re Strickland, 90 F.3d 444, 447 (11th Cir. 1996).
Guardian ad Litem Fees
Guardian ad litem (GAL) fees that are ordered to be paid by the debtor spouse will be non-dischargeable. This is because the GAL is hired to protect the interest of the minor child, and the interest that they are protecting is the support and maintenance of the child. Thus, the GAL fees are in the nature of support and non-dischargeable pursuant to 11 U.S. Code § 101(14A) and 11 U.S. Code § 523(a)(5).
When an order or agreement contains language that orders Spouse A to hold harmless or indemnify the Spouse B for a debt that Spouse A is to pay, the Court is creating a potentially non-dischargeable debt – the indemnification debt from Spouse A to Spouse B. The dischargeability of this indemnification debt is dependent on the type of underlying debt. If the underlying debt is dischargeable (e.g. a property settlement debt in a Chapter 13 bankruptcy), then the indemnification debt would be dischargeable as well. If the underlying debt is non-dischargeable (any marital debt in a Chapter 7 or a DSO in a Chapter 13), then the indemnification debt would also be non-dischargeable.
Another important exception to discharge pursuant to 11 USC 523 is for a debt obtained through fraudulent means like “false pretenses, a false representation, or actual fraud.” Though, a false statement by debtor about their financial situation is expressly excluded from the exception. As the debtor in Morales v. Giddens found out, false representations to a prior spouse are not excepted and can serve as grounds for deeming a debt non-dischargeable.
The Giddens bankruptcy case arose after Marta Morales and Christopher Giddens divorced in 2008. Like many couples do, Giddens and Morales agreed to enter into a settlement agreement. The agreement was memorialized in a divorce judgment. The agreement awarded Morales a lump sum of more than $150,000 as well as significant amounts of personal property including home furniture and vehicles.
Unfortunately for Morales, Giddens’ word was not his bond and he never paid the sums or property due to her. Instead, Giddens spent years attempting to avoid his divorce obligation. He went so far in this attempt that he landed himself behind bars for contempt of court and his testimony was disregarded by the court. The bankruptcy court went so far as to characterize Giddens as the most unpersuasive witness it had ever seen who was “incapable of telling the truth.”
Eventually but not surprisingly, Giddens decided it was in his best interests to declare bankruptcy. Morales was thus reduced to the status of a creditor. However, she wisely requested that the court declare her debt under the marital settlement agreement and corresponding judgment not dischargeable. Morales advanced a few different arguments under 11 USC 523.
The court denied some of the grounds but ultimately, agreed that Giddens debt was not dischargeable because it was procured through fraud. More specifically, the court found that at the time Giddens entered into the marital settlement agreement, he had no intention of living up to his obligation to pay and transfer property to Morales.
Morales found an unlikely ally in the proceedings, her former husband’s paramour who too had been deceived into loaning money to Giddens. The paramour testified that Giddens has explicitly told her of his attempts to hide assets from his former spouse. Based in large part on this testimony, the court found that Giddens marital settlement agreement was fraudulently obtained (because he never intended to follow through with it) and not subject to discharge at the conclusion of bankruptcy proceedings.
Protecting the Non-Filing Spouse in a Chapter 13
There are several items that should be considered when drafting a divorce agreement or judgment and trying to avoid issues and protect the non-filing spouse in case of a Chapter 13 filing. If your spouse owes you money based on a divorce-related debt, you should contact an attorney that practices in personal bankruptcy to ensure that your rights are protected.
Clearly Label and Describe Debts
First and foremost is to properly label marital debts and clearly state the intention of the parties or the court. I have seen periodic alimony payments prefaced by “[i]n lieu of alimony or support, and as a property settlement” in an agreement drafted by an experienced attorney. Please don’t do this. If you intend for a debt to be for alimony, support, or maintenance, then clearly label and describe it as such. If you intend for a debt to be a property settlement, then clearly label and describe it as such. Any ambiguity will possibly lead to the Bankruptcy Court having to interpret and determine the type of debt and the intention of the parties.
Additionally, make sure that in any award of attorney’s fees it is clearly stated if the award was based on one spouse’s need and the other spouse’s ability to pay.
Hold Harmless / Indemnification Language
You should strongly consider including hold harmless / indemnification language in divorce agreements and orders. If a spouse is obligated to pay a divorce-related debt, the indemnification language would make it near irrefutable that the non-filing spouse has legal standing to challenge the treatment and classification and dischargeability of a debt included in the filing spouse’s bankruptcy.
A typical hold harmless clause would be “Spouse A is responsible for the payment in full of the debt owed to XYZ Corp. in the approximate amount of $99,000.00, and shall hold harmless and indemnify Spouse B for said debt. The parties’ intention is that the payment of this debt is for maintenance and support of Spouse B.”
Another way to protect a client in a divorce agreement or order is to reserve the issue of alimony for failure to abide by the orders of the court, including payment of the debts.
You may be able to obtain a lien against the property of the filing spouse that is non-avoidable if the lien is placed on a property interest that is created at the same time as the award of the lien. Typically, a judgment lien may be avoided under 11 U.S.C. § 522(f) if the lien impairs the exemptions of the debtor on existing property. In Farrey v. Sanderfoot, 500 U.S. 291; 111 S.Ct. 1825; 114 L.Ed. 3d 337 (1991), the Wisconsin court extinguished the joint tenancy of the marital home and awarded a fee simple interest in the marital home to Sanderfoot. The court also awarded a lien to Farrey in the same Order. The U.S. Supreme Court found that to avoid a lien under § 522(f), a debtor must have an interest in the property at the time of the creation of the lien on that interest. Because the same decree that gave the entire property to Sanderfoot simultaneously created the lien in favor of Farrey, the lien did not attach to a preexisting interest of the husband. As such, the debtor was not able to avoid the lien via § 522(f).
Objecting to Confirmation / Motion to Dismiss / Proof of Claim
In a Chapter 13, the debtor must propose a plan and the plan must be confirmed by order of the Court. The plan must propose to pay back any DSO arrearage in full and must list the DSO as a priority unsecured debt (if it is unsecured). If the debtor spouse fails to properly list or account for the debts owed to the non-filing spouse, then the non-filing spouse should file an objection to the confirmation of the plan.
Additionally, if the sole purpose of the filing of the bankruptcy was to frustrate the collection of the amounts owed to the non-filing spouse, then a Motion to Dismiss for a bad-faith filing should be considered. See In re Ellis, 406 B.R. 736 (Bankr. E.D. Va. 2009)
Lastly, the non-filing spouse should file a proper proof of claim to ensure that they are paid and have not waived any claim to any amounts that they are owed.
Have a Question About Child Support, Alimony and Bankruptcy?
If you’re interested in learning more about discharging your divorce-related debt or have other questions about bankruptcy options, contact the bankruptcy law attorney at the Semmes Law Firm and let us guide the way.