What Happens to a Trust During Bankruptcy?

Buchalter & Pelphrey Attorneys At Law

If you have an estate plan, including a trust, you may be wondering what happens to your assets during bankruptcy. Bankruptcy is complicated, and it could affect more than you think. Keep reading for more information.

Chapter 7

Chapter 7 bankruptcy or "liquidation" allows you to sell assets and/property to pay off debt. Typically, assets are divided into exempt and nonexempt property. Exempt property is not for sale through Chapter 7 and often includes necessary assets that help you maintain a standard of living.

The liquidation process is managed by a court-appointed trustee who provides oversight and represents the bankruptcy court. They are in charge of assessing and selling nonexempt property to generate money for debt repayment.

Chapter 13

Chapter 13 bankruptcy or "reorganization" allows you to pay off your debts most commonly over three or five years. Instead of selling off assets for cash, the court will allow you to create a repayment plan.

In general, repayment plans should be structured so you can reasonably pay off your debts within the three or five-year period. This means that your plan can't be impossible to follow or unreasonable considering your income.

Because Chapter 13 is better suited to those with some disposable income, the repayment plan should use the disposable income but not to the point that you cannot maintain a standard of living.

Trusts

There are two kinds of trusts: revocable (living) and irrevocable. As the name would suggest, a living trust is drafted when you are alive and provides coverage for funeral costs and probate in the event of your death. These trusts can be modified at any time.

Irrevocable trusts allow you to hand over your assets to a beneficiary who will take over the management of the assets. Without the beneficiary's written permission, these trusts cannot be changed or terminated.

Trusts in Bankruptcy

The outcome of your bankruptcy case depends on the type of bankruptcy you file. If you are concerned about your estate plan and/or trust, the kind of bankruptcy and the category of trust you have may make a difference.

In general, revocable trusts will not protect your assets during bankruptcy. It's a living document, which means the terms are not set in stone, and the bankruptcy court may not recognize them. Whether you file for Chapter 7 or 13, your living trust may be modified to allow more assets to be liquidated during bankruptcy.

On the other hand, irrevocable trusts can provide some protection and are more resistant to the bankruptcy process. Because the beneficiary legally owns your assets, those assets are not considered yours if you file for bankruptcy and cannot be touched. The only exception to this rule is when you create an irrevocable trust when you owe money.

If you draft a trust while in debt, the court can have the power to reverse the trust, which puts the assets back under your control. Once this happens, the court may evaluate them and divide or liquidate those assets as necessary.

Protect Your Trust During Bankruptcy

If you are concerned about the fate of your trust during bankruptcy, consult a legal professional. At Buchalter & Pelphrey Attorneys At Law, we believe that financial freedom is possible through bankruptcy with the right representation. Our team of experienced legal professionals has helped countless clients protect their assets during bankruptcy.

Contact Buchalter & Pelphrey Attorneys At Law today for more information.

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