January 19, 2016

One part of the bankruptcy process is to determine whether you have made any payments to creditors that qualify as a “preference.” It is human nature to prefer to pay a family member whom you owe money to or a favorite creditor prior to paying an unrelated or unknown creditor. In bankruptcy, the word preference is used to describe what is often an innocent payment of one creditor over others.

Preference liability analyzes payments which occur before the bankruptcy petition is filed. Two rules apply in determining the “reach back” period of time for the preference. If the creditor is an “insider,” as defined in the bankruptcy code, then the preference period is one year before the petition filing. If the creditor is not an “insider,” then the preference period is limited to the 90 days before the bankruptcy petition is filed.

 

The statutory definition of “insider” is not exclusive and as such is not defined by the bankruptcy code. However the code defines certain relationships that give rise to “insider” status. In general, “insiders” are those who have a sufficiently close relationship with the debtor that their conduct is scrutinized more closely than those dealing with a debtor at arm’s length. For individual debtors the statutory definition of an “insider” includes the debtor’s relatives relationships such as parent child, siblings, grandparent grandchild, and aunt uncle, nephew, niece including step or adoptive relationships.

Payments to those individuals are analyzed going back one year. Payments to general unrelated creditors are analyzed going back 90 days.

This disclosure is absolutely important. Your attorney can help you determine when it is appropriate to file bankruptcy given potential preferences. Again, full disclosure is important and your attorney will be knowledgeable in how to address the preference.

Most often most preferences are not an issue, however, when they are an issue often the debtor can pay the Trustee the amount of the preference at a negotiated settlement over some period of time so that the Trustee will not go after the relative who may have received the preference payment. Don’t worry we are here to educate you and guide you through this process.

The primary underlying principle supporting the return of preferential payments is the fair and equitable treatment of all unsecured creditors. Requiring the return of payments made is intended to redistribute the bankruptcy estate assets equally among all unsecured creditors. The creditor that receives the greatest payment proportionally than others is required to disgorge so that all may share equally. Generally, unsecured creditors who return preferential payments have claims against the bankruptcy estate for the amounts they returned. Therefore, a creditor who repays the preference will hopefully recover at least a part of what they returned by participating in a pro rata distribution with other unsecured creditors.

Finally, while all of this may seem confusing it is quite easy for your attorney to negotiate and resolve as long as full disclosure has occurred. Don’t hesitate to talk to your attorney about these issues so that you are getting the proper advice and protection through the bankruptcy process.

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