People do dumb things when under pressure.
One of the dumbest things a person can do during the bankruptcy process is to conceal assets. The truth is that with proper advice and planning, a debtor will never lose anything in bankruptcy, unless it’s the debtor’s choice and in his or her best interest. The problem arises when the debtor panics and does not disclose property to the bankruptcy court, the trustee, or even his own attorney.
There are two well-known penalties for hiding property during a bankruptcy case. First, the Bankruptcy Code allows a court to deny the debtor’s discharge based on the debtor’s misconduct during the case. Second, the debtor may be criminally charged with bankruptcy fraud. But there are some lesser-known penalties to consider.
Loss of Exemption
Some courts have barred a claim of exemption when the debtor intentionally concealed or failed to disclose bankruptcy estate property. These courts find that the debtor must have engaged in bad faith by not disclosing the asset. The Bankruptcy Code does not specifically allow the court to deny exemption based upon the debtor’s bad faith conduct, but these courts hold that the power is granted generally by Section 105(a).
May Lose Right to Amend
Courts are very liberal in allowing a debtor to amend bankruptcy schedules to include “forgotten” property – unless there is evidence of bad faith or prejudice to a creditor. Bad faith is found when the debtor has knowledge of the undisclosed property or has motive for concealing. Prejudice to a creditor is determined by the circumstances and has been found when:
- a debtor exhibits “inordinate delay” in amending his exemption schedules;
- the late amendment harms the litigation posture of the creditors;
- permitting the debtor’s amendment will delay the administration of the bankruptcy estate and distribution to creditors; or
- creditors have already received distributions from the estate.
Cannot Claim Ownership Later
Under principles of judicial estoppel, a debtor may be barred from asserting an ownership interest in property when he disclaims the interest in a prior legal case. This often arises when a debtor has a potential (or pending) personal injury lawsuit and “forgets” to include the case in a prior bankruptcy case. Courts have consistently found that the debtor loses standing to prosecute the claim for failing to identify a legal property interest in the bankruptcy case. Some courts have found that a debtor who fails to claim ownership in a bankruptcy case may not claim ownership of the property in a subsequent bankruptcy case. That means that the debtor may not use exemptions to protect the property in another bankruptcy.
No Longer Property of the Debtor
Omitted property in a Chapter 7 case can cause an on-going ownership problem for the debtor. When a debtor files Chapter 7 bankruptcy, all of the debtor’s property becomes property of a bankruptcy estate. If the debtor receives a discharge, the abandonment provisions of Section 554 apply. Scheduled property is either abandoned by the trustee back to the debtor during the case, or is abandoned back to the debtor when the case is closed. Unscheduled property is not abandoned and remains property of the estate (indefinitely!). See Section 554(d); see also See Pace v. Battley (In re Pace), 146 B.R. 562 (9th Cir. BAP 1992), aff’d, 17 F.3d 395, (9th Cir.1994) (unscheduled property remains in estate after case is closed).
The omitted property issue identified above is different for Chapter 13 cases. As in a Chapter 7 case, all of the debtor’s property becomes part of the bankruptcy estate at filing. After acquired property also becomes part of the estate. However, upon confirmation of the plan, all property of the estate (scheduled or unscheduled) reverts to the debtor.
Obviously, the better practice is to disclose all property. There is nothing magical about how the debtor uses the Official Bankruptcy Forms to disclose property, so long as there is enough information to adequately inform the reader (and the trustee) on notice of the property, its estimated value, and the situation.