The main definition of insolvency is the condition of having more debts (liabilities) than total assets available to pay them, even if the assets were mortgaged or sold. In other words, one’sliabilities exceed the fair market value of one’s assets. For those who are close to being insolvent a critical issue is making transfers of property without fair consideration for its value thereby causing insolvency.
So let’s say one has a house worth $200,000, a car worth $20,000, a motor cycle valued at $8,000 and a boat at $3,000. The rest of the assets (e.g. household goods and furnishings, clothes, jewelry, etc.) are worth $14,000 fair market replacement value. That makes $245,000 of assets, nearly a quarter of a million dollars. Sounds impressive until we look at the typical debts.
Debt could easily be $180,000 on 1st mortgage and $10,000 on a home equity loan; an underwater $20,000 SUV with a $30,00o loan balance; and $5,000 of secured furniture and appliance loans. That makes $225,000 of debt. Then there is $3,000 credit card and medical debt plus $15,000 in student loans. Added together the debt equals $243,000. In theory this person is not insolvent to the tune of $2,000.
In time it may be a pinch to pay loans as they become due. They seldom seem to reduce much in the face of minimum payments and adjustable rate loans, for example. Eventually payments are missed and creditors attempt to collect. Not a pleasant experience.
For this or other unrelated reasons people sometimes start to transfer their property to children, parents, friends, and partners for little or no consideration. In the example, the unsecured boat ($3K) or motorcycle ($8K) or both ($11K) may be transferred away. Often people believe, wrongly, that they are protecting themselves. While a natural reflexive reaction to debt stress or just an innocent gesture these transactions would render the person insolvent. In the state of Iowa this would be considered a fraudulent transfer if the transfer occurred within the last 5 years (even longer in certain circumstances). If the person files bankruptcy, a federal law, the trustee would look back at least 2 years. In either situation the creditors or trustee could reverse the transaction as fraudulent with unpleasant if not dire consequences.
Moreover, even if one is filing bankruptcy, where in fact one does not have to actually be insolvent due to other property protections called exemptions, such transfers could be reversed as fraudulent because the property’s value was not received.
There are myriad possible examples of how transfers can hurt us. See a lawyer BEFORE you start giving assets away or selling to your kid or brother-in-law for peanuts. Peace of mind should be based on facts and the law.
Attorney Robert Liptak
Iowa Bankruptcy Attorney