Bankruptcy’s Effects on Estate Planning

Bankruptcy might not be top of mind when creating your estate plan, but it’s a crucial consideration. Even though bankruptcy filings have decreased recently, there were still over half a million cases in the recent years. So, what happens to your estate if you’re in bankruptcy when you pass away? And what if a beneficiary is facing bankruptcy? Understanding these potential scenarios is important for a well-rounded estate plan.

What Happens to Your Estate if You’re in Bankruptcy When You Die?

A will lets you direct how your assets are distributed after you pass away. However, if you’re in bankruptcy at the time of your death, your debts generally need to be settled before any inheritance is distributed. For Chapter 7 bankruptcies, the bankruptcy trustee will sell non-exempt property to pay off creditors. The remaining assets, if any, will then be distributed through probate according to your will. In Chapter 13 cases, your bankruptcy plan must be completed, or alternatives like a hardship discharge or conversion to Chapter 7 might be pursued. The court decides the best course of action based on your situation.

Solutions to Consider

  1. Irrevocable Trusts: Consider placing your assets in an irrevocable trust. Once assets are transferred to this trust, they are generally protected from creditors, even if you file for bankruptcy later. This proactive step can ensure that your assets are preserved for your beneficiaries.
  2. Asset Protection Trusts: Some states offer asset protection trusts, which are irrevocable and self-settled. These trusts need careful planning to ensure they provide the protection you seek, especially concerning transfers made close to filing for bankruptcy.

What if a Beneficiary Is in Bankruptcy When You Die?

If a beneficiary is in bankruptcy within 180 days of your death, they must disclose the inheritance to the bankruptcy trustee. In Chapter 7, non-exempt inheritances can be used to pay creditors. In Chapter 13, the inheritance will likely increase the repayment amount under the plan.

Solutions to Protect Your Beneficiaries

  1. Revocable Living Trusts: By transferring your assets to a revocable living trust, you can maintain control during your lifetime, and the assets generally won’t be considered part of the beneficiary’s bankruptcy estate.
  2. Spendthrift Provisions: Including a spendthrift provision in your trust ensures that the trust assets cannot be claimed by the beneficiary’s creditors. This helps protect the inheritance and ensures it is used according to your wishes.
  3. Standalone Retirement Trusts: For retirement accounts, a standalone trust can provide protection from creditors for inherited retirement funds, ensuring that your beneficiaries’ creditors do not have access to these assets.

We Can Help You Plan Ahead

Uncertainty about the future makes it essential to plan wisely. Don’t wait for financial troubles to arise before protecting your hard-earned assets. We can help you create or update an estate plan that shields your property and your loved ones from potential creditor claims.

At Cheever Law, APC, we don’t just draft documents; we ensure you make informed and empowered decisions about life and death for yourself and the people you love, starting with a valuable and educational Life & Legacy Planning Session. This will allow you to get more financially organized and make the best choices for the people you love. If you have already completed your estate plan, we will review that plan at your Life & Legacy Planning Session to ensure that it will work the way you intend and address any holes or gaps that may be present if circumstances have changed since you executed your plan.   

To learn more about our one-of-a-kind systems and services, contact us or schedule a no-obligation 15-minute introductory phone call today.