Can you convert nonexempt assets into exempt assets before filing for bankruptcy?

Learn whether it is permissible to convert nonexempt property into exempt assets before bankruptcy.

by: , Attorney

In general, you can engage in a certain amount of exemption planning (including converting nonexempt property into exempt assets) if it is done in good faith and not with the intent to defraud creditors. Unfortunately, bankruptcy courts have reached inconsistent conclusions as to how much exemption planning is proper. Read on to learn more about when it is appropriate to convert nonexempt assets into exempt ones.

What Is Exemption Planning?

If you can’t exempt all of your property in a Chapter 7, the bankruptcy trustee can sell your nonexempt assets to pay your creditors. But bankruptcy debtors are allowed to make full use of the exemptions available to them.

Exemption planning is the practice of organizing your financial affairs in a way that maximizes your exemptions and allows you to protect the most amount of property in bankruptcy. Converting nonexempt property into exempt assets is a commonly used tool in exemption planning. However, if you engage in excessive exemption planning, it can be considered bankruptcy fraud and result in denial of your discharge (discussed below).

Converting Nonexempt Property into Exempt Assets

As discussed, it is permissible to engage in a reasonable amount of exemption planning prior to filing for bankruptcy. This includes converting some of your nonexempt assets into exempt property. In general, the best way to use up nonexempt assets (such as money in the bank) is to spend them on necessary living expenses such as rent or food.

However, you can also sell nonexempt property to purchase an exempt asset. For example, if you own a boat but don’t have a car, it may be in your best interest to sell your boat and purchase a car because most states have a motor vehicle exemption but don’t offer any protection for boats.

Excessive Exemption Planning Can Be Considered Fraud

If you convert nonexempt assets into exempt ones in bad faith or with the intent to hinder or defraud your creditors, it may be considered bankruptcy fraud. Each bankruptcy jurisdiction has its own opinion on how much exemption planning is permissible. When analyzing whether your actions rise to the level of fraud, courts take into account whether you tried to conceal the transfer or conversion, if it was done immediately prior to the bankruptcy, and how much the nonexempt property was worth.

Improperly converting nonexempt property into exempt assets can get you in trouble and may result in denial of your discharge. If you are considering filing for bankruptcy and you have nonexempt assets, talk to a knowledgeable bankruptcy attorney in your area to discuss your options and learn about the views of your jurisdiction on exemption planning.

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