At the time of filing bankruptcy a debtor should be aware of what is considered as fraudulent conveyance. Lack of proper knowledge can result in his asset sale/transfer be considered as fraudulent conveyance and cancelled. In the following sections we will look at the types of fraudulent transfer as per bankruptcy law and situations when an assets transfer is not considered as a deliberate attempt to defraud creditors.

If a debtor transfers his assets to a third party with the intention of preventing creditors from putting a claim over those assets for recovery of debts, then such a transfer is called as fraudulent conveyance.

In bankruptcy law there are two types of fraudulent transfers:

1. Actual fraud

2. Constructive fraud

We now look in detail into transfers which can be considered as actual frauds & constructive frauds.

Actual Fraud:

It is considered that actual fraud has been committed when; asset transfer is done with the intent of defrauding or hindering a creditor & the transfer is done within 1 year before the date bankruptcy petition is filed. However, if any creditor wants to challenge the transfer then he will have to provide proof of intent on debtor’s part to defraud.

To provide clear guidelines, courts have defined specific circumstances, existence of which can indicate that the debtor intended to defraud by transferring his assets –

• Almost all of debtor’s assets are transferred.

• Threatened or actual litigation against debtor.

• Assets are transferred into a newly created corporation.

• Assets are transferred to a person with whom debtor has a special relationship.

Constructive Fraud:

To be considered as constructive fraud, there are also 2 conditions which should be satisfied;

• Debtor is already not in a position to pay his debts when the transfers are made or goes into such state as a result of the transfer and,

• Debtor receives something which is less than reasonably equivalent value in exchange for transferring his assets.

Now one question can arise, is there a situation when a transfer will not be considered as fraudulent?

Generally while deciding if any assets transfer/sale is not fraudulent, courts will always look into all the circumstances surrounding such transaction. Courts generally check –

1. Whether transaction was done in good faith during the ordinary course of business by parties having independent interests,

2. Whether sale of assets was for fair market value,

3. Competitiveness of bids for the asset,

4. Net affect on debtor’s estate with respect to funds that are available to unsecured creditors.

So what happens if the bankruptcy trustee considers any assets transfer as fraudulent?

If it is deemed that any particular assets transfer was fraudulent then trustee can recover that asset or value of that asset and make it part of the bankruptcy estate. Trustee has legal powers to recover the asset from immediate recipient or any other person to whom asset is transferred subsequently.

But there are some exceptions to the rule for recovery of assets from recipients.

• The rules in case of bonafide purchasers are different. A bonafide purchaser is one who acts in good faith to purchase the asset/property without notice of outstanding rights others have on the asset/property. A bona fide purchaser is allowed to retain the property.

• Another exception arises when valuable improvements are made to the property. In such situation, those who make the improvements are given a lien on the property to secure the improvements they have made.

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This entry was posted on Thursday, October 4th, 2007 at 6:59 pm and is filed under Bankruptcy. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.