The Legal Play Blog

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Today we will be addressing Section 727 523 of the bankruptcy code and how creditors can deploy these to their advantage.

U.S. bankruptcy law is designed to give honest debtors a chance to start over with a clean financial slate. It’s a merciful and laudable alternative to the debtor’s prisons that once ran rampant in England, but it’s a complex law with many exceptions.

During a Chapter 7 filing, determining which debts are dischargeable and which are not is a major part of the process. It takes about six months for the courts to officially discharge an individual’s debts, and during this time, creditors will have the opportunity to review the debtor’s disclosures and file any motions that will improve their chances of recovering lost assets.

What is a Non-dischargeable Debt in Bankruptcy Law?

The point of filing Chapter 7 bankruptcy is to “discharge” as much debt as possible from the individual’s obligation. In other words, the debtor is no longer legally obligated to pay discharged debts, and creditors are legally barred from pursuing them.

The majority of debts are dischargeable through Chapter 7, but not all of them. These “non-dischargeable” debts cannot be removed from the debtor’s obligation, even with a successful Chapter 7 filing.

As for what debts fall into this non-dischargeable category, the specifics are detailed in Section 523. Further, Section 727 may also be used to deny debt discharge, in general, but there are notable differences between 523 and 727, and these differences are relevant to creditors tied to the case.

What Debts are Exempted from Discharge Under Section 523?

Section 523 references more than a dozen specific instances where a debt is not dischargeable through Chapter 7. Some examples include:

• Tax and customs debts, with some exceptions
• Student loans, with some exceptions
• Consumer debts incurred for luxury goods and services, over a $550 threshold and incurred within 90 days of filing bankruptcy
• Cash advances in excess of $825 taken out within 70 days of filing bankruptcy
• Domestic obligations (child support and alimony)
• Debt incurred as a result of willful and malicious injury or damage
• Debt incurred as a result of causing injury or death with a vehicle, if alcohol or drug intoxication was confirmed as a factor in the accident
• Debt, property, or services acquired as a result of fraud or misrepresentation.

There are additional discharge exceptions, but the above represent the bulk of Section 523 actions.

What is Section 727 and How Does it Affect Debt Discharging During Bankruptcy?

Section 727 also concerns whether debts qualify for discharge or not. The primary difference between Sections 727 and 523 is the scale at which they are applied. Section 523 motions are targeted at a particular instance of debt, while Section 727 motions consider all of the debtor’s debts at once. Put another way, if a Section 727 motion succeeds against a debtor, then all of their debts are not dischargeable through Chapter 7 – effectively eliminating the only reason why an individual would declare bankruptcy to begin with.

Section 727 motions may be filed for many reasons, including:

• Failure to provide tax documentation
• Destruction or concealment of accounting documentation
• Attempts to transfer or conceal property in an attempt to avoid creditors
• Failure to complete a financial management course prior to filing bankruptcy
• Commission of perjury or fraud related to the bankruptcy case\

In general, if the debtor does not act in good faith from the start of the bankruptcy process, Section 727 may be used to invalidate their attempt to discharge debts.

Creditors Can File a 523 or 727 to Claim Losses from a Debtor, but Considerations Apply

Bankruptcy trustees and creditors may file for a 523 or 727 motion if they suspect the debtor does not qualify for debt discharge under those sections. As for which motion to choose – and whether it’s worth filing a motion to begin with – there are some important considerations:

• The creditor has the burden of proof – If the fight over discharging a debt results in a trial, the creditor is responsible for proving the motion. This will necessitate an organized legal offense, with documentation and knowledge of bankruptcy code required. 
• If provable, a 523 motion is usually more beneficial to a creditor – In some cases, either a 727 or 523 motion may be available to creditors. Generally speaking, it’s more beneficial for creditors to demonstrate a 523, if possible.Here’s why – if a 727 is granted and all the debtor’s obligations aren’t discharged, the debtor may have a crowd of other creditors to deal with. You’ll be competing with them for whatever recompense the debtor can afford.

  As a 523 motion only addresses a particular debt, creditors can work to only have their debt barred from discharge. If the debtor has fewer creditors to deal with, they’ll be more likely to resolve their remaining debts in full. That’s good news for any creditor left standing after the bankruptcy process is complete.

   

• The debtor’s circumstances are also relevant to the decision – Filing a 523 or 727 is an investment – in time, money, and mental bandwidth. In some instances, this investment may not be worth it to the creditor. For example, if the debtor is unlikely to financially recover and be able to afford their non-discharged debts, there may be little reason for a creditor to pursue action.Of course, it can be difficult for creditors to know what the right decision is in this regard – a common reason for creditors to seek out professional legal assistance. 

Bankruptcy Law is Extremely Complex, So Speak with a Trusted Bankruptcy Attorney First

Bankruptcy is complicated on both sides of the process. From the creditor’s perspective, there’s a brief window to act, organize a legal strategy, and build a case for rejecting a discharge. The surest way to develop an effective response is with an experienced bankruptcy attorney’s assistance.

Bankruptcy experts help their clients weigh all potential options and determine which is most likely to render success. A bankruptcy attorney will also ensure their client acts in a timely fashion and acquires the documentation needed to demonstrate a 727 or 523 motion.

The U.S. bankruptcy process serves a noble purpose for individuals, but there are, of course, bad actors who leverage the system to their benefit. With proper legal maneuvering, however, creditors can hold debtors accountable – and potentially gain back their losses in the process.

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If an estate owner dies intestate (legalese for dying without a will), the state’s intestate succession laws determine who the beneficiaries are, and what they are entitled to receive. This is also the case in Texas, which has its own intestate succession order. Further, because Texas is a community property state, there are additional provisions dictating how a decedent’s property is to be divided among beneficiaries.

However, the state’s intestate succession order may not be considered ideal. If this is the case, it’s essential for the estate owner to author a will prior to death. Wills are used to name beneficiaries and allocate assets to those beneficiaries as the estate owner sees fit. In effect, they replace the state’s judgment regarding who receives what.

With a will, the estate owner can ensure their loved ones are sufficiently provided for, and that difficult decisions regarding property division are answered.

What Assets are Passed Through the Intestate Succession Process?

The assets that pass through intestate succession are the same assets that pass through probate. Probate is the court-mandated and guided process during which an estate’s assets are gathered, inventoried, and allocated to beneficiaries. Probate assets are a matter of public record, and it can take months (even years) before everything is resolved through the court. As such, estate planning attorneys will frequently develop trusts and other instruments that allow the estate’s assets to pass outside of probate and directly to beneficiaries.

Non-probate assets – and therefore assets not affected by intestate succession – include the following:

• Any property placed in a trust
• Life insurance policies
• Retirement investment policies, such as 401(k)s and IRAs
• Payable-on-death or joint owned bank or brokerage accounts
• Any property that is jointly owned, including vehicles and real estate

Assets that cannot be placed in one of the above categories will be subject to intestate succession.

Intestate Succession in Texas – Who Gets a Share of the Decedent’s Property?

Let’s say an estate owner dies without a will in Texas. What happens then? The Texas succession laws take over. This law determines who the estate’s beneficiaries will be – and what share each beneficiary is entitled to.

In Texas, this is what the succession order looks like:

• If there is a surviving spouse, but no children, parents, or siblings – The spouse inherits everything.
  
• If there are children, but no surviving spouse – The children inherit everything.
• If there are surviving parents, but no spouse, children, or siblings – The parents inherit everything.
• If there are surviving siblings, but no spouse, children, or parents – The siblings inherit everything.

If there are multiple children or siblings, they receive equal shares of the decedent’s estate. That may spark some spirited conversations about who receives what, but the above scenarios are fairly simple. It gets more complicated when there is a surviving spouse (or more than one), children, grandchildren, parents, and other relatives all involved in succession.

Here are what those scenarios look like, from a succession standpoint:

• If there is a surviving spouse and children, and the children are also the children of the surviving spouse – The surviving spouse inherits all community property and 1/3 of the decedent’s personal property. The spouse also retains the right to use any shared real property (the family home, most notably) for the remainder of their life, or until they move out of the property or abandon it. The children get everything else.
• If there is a surviving spouse and children, but the children are not the children of the surviving spouse – The surviving spouse inherits 1/2 of all community property and 1/3 of the decedent’s personal property. They also retain the right to use any shared real property for life. The children get everything else, including the other half of the decedent’s community property.
• If there is a surviving spouse and parents – The surviving spouse inherits all community property and the decedent’s personal property. They also receive 1/2 of the decedent’s real property. The parents get everything else.
• If there is a surviving spouse and parents – The surviving spouse inherits all community property and all of the decedent’s personal property. They also receive half of the decedent’s real property. The parents get everything else.
• If there is no surviving spouse, but a surviving parent and siblings – The parent receives 1/2 of the decedent’s personal property, and the siblings receive the rest.
• If there is a surviving spouse and siblings, but no parents – The surviving spouse receives all community property and all of the decedent’s personal property. They also receive 1/2 of the decedent’s real property. The siblings get everything else.

What If There Isn’t a Surviving Close Relative?

If the estate owner dies intestate and has no living close relative, the decedent’s property may be claimed by the state to use as it sees fit. This is only the case if an heir cannot be identified through genealogical research. As you might expect, though, states differ greatly in how much effort they’ll put forth in tracking down beneficiaries.

However, Texas stands out in this regard. While some states won’t track a decedent’s genealogy beyond cousins, Texas courts tend to recognize very distant relatives when naming beneficiaries. These could be heirs completely unknown to the decedent, which may influence estate planning. Again, a will can be used to halt this process and dictate how the estate’s assets will be distributed – which may be to close friends, charity, or other institutions, as the estate owner sees fit.

How Is Community Property Handled During Intestate Succession?

As a community property state, Texas courts consider timing when determining whether an asset is owned by a single spouse, or jointly owned by both. As already detailed, community property is categorized differently during intestate succession.

The question is, what qualifies as community property? It comes down to timing.

Any assets owned by one of the spouses prior to marriage retains sole ownership over those assets following marriage. If the asset is acquired following marriage (even if both spouses are not named on the title, in some cases), it’s considered community property and belongs to both spouses.

Assets governed by community property laws include:

• A primary residence and any other real property
• Vehicles, including boats and aircraft
• Personal and household items, like clothing, furniture, and jewelry
• Life insurance policies
• Retirement and employment benefits, including pensions
• Bank and brokerage accounts

Because Texas is a community property state, the above assets are largely passed on to the spouse, as described above. In addition to pre-marriage property, the only exceptions to the state’s community property provisions are gifts, inheritances, and certain funds awarded from legal judgments, such as personal injury awards.

Community property provisions can be nullified through a prenuptial or postnuptial agreement. In effect, such an agreement can be used to define who owns what assets, and any assets defined as personal property in this way will not be considered community property for the purposes of intestate succession.

Wills Overrule Intestate Succession

If an estate owner dies without a will, the situation can quickly escalate into an expensive, drawn out, and often emotionally charged process. We’ve seen it happen plenty of times – family members that get along just fine are suddenly embroiled in arguments over inheritance rights.

If you own significant assets, this all-too-common outcome can be avoided by authoring a will. Fortunately, it’s not difficult to put a will together, but it may be difficult to ensure everything is covered by your will. This is where an estate planning attorney can help. An experienced attorney can identify the best estate planning tools to ensure your assets are handled the way you want them to be handled – without the confusion and conflict that often accompanies estate divisions.

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Prenuptial, postnuptial and partition agreements refer to the same concept, which is defining whose assets belong to whom inside the marriage, and how they will be divided up in the event of a death or divorce.

Many people are familiar with prenup and postnup agreements as a way to protect assets during a divorce. Collectively known as partition agreements, they are used to divide a community estate into separate estates for a married couple. It is not a romantic thought when entering into a marriage, and this is a reason why many couples avoid the topic altogether. However, prenups and postnups do not have to carry a negative connotation, and they can be used to proactively defend the relationship from future potential financial stressors.

When are Prenups and Postnups Typically Needed?

There are two notable differences between prenups and postnups. One is the timing – prenuptial agreements are developed prior to marriage, while postnuptial agreements come after both sides have said “I do.” In many cases, couples choose postnups for time or planning reasons.

The other difference is how these documents are executed. A prenuptial agreement is made official upon signing the marriage license. A postnuptial agreement will be closely reviewed by the court before it is executed in order to verify that the postnup is enforceable.

Whether the partition agreement comes before or after marriage, there are several reasons why the agreement may be recommended:

• One (or both) spouses are bringing a lot of assets to the marriage – If significant assets are coming along with marriage, then partition agreements can be used to specify what belongs to whom beforehand. This is what most people associate prenups and postnups with, as an effective way to protect assets from divorce or asset division following death.
• One (or both) spouses have children from a previous marriage – By the time someone is into their second, third (or beyond) marriage, they may have children present from a previous relationship. If this is the case, partition agreements can be used to ensure each child receives the assets they are promised. In Texas, and other community property states, community property and the deceased spouse’s personal property are passed to the surviving spouse. However, this may not be considered ideal if a spouse wishes certain assets to go a child from a previous marriage. Partition agreements can overrule the community property provisions in this regard and ensure everyone receives what is intended.
• One (or both) spouses want to make special divorce provisions – Prenups and postnups can also be used to overrule laws related to alimony, seeking to change the amount of alimony given, or to eliminate it outright. This can be used by both spouses to their advantage, as alimony can be set beyond what’s required by law.

How Community Property Laws Influence Prenups, Postnups and Partition Agreements

A handful of states in the U.S. are community property states. — this includes Texas. In community property states, any income or debts collected during the marriage are split evenly between spouses. Any assets owned prior to marriage remain solely owned by that spouse. This may include the following:

• Residences and real estate, including investment real estate
• Vehicles
• Household goods, including furniture, clothing and appliances
• Valuables, including jewelry and cash
• Securities, including stocks and bonds
• Retirement accounts
• Life insurance
• Ownership in a business

Of note in community property states is that while spouses retain sole ownership of the above if they brought them into the marriage, any income or debts incurred as a result of the above assets are shared between spouses. For example, if a spouse earns investment income on their stock portfolio that they had prior to marriage, that income is considered joint property.

Some couples enter into partition agreements to alter this arrangement. In effect, prenups and postnups can be used to overrule Texas’ community property laws, regarding who gets what in and out of the marriage, should death or divorce occur.

Additional Benefits to Consider with Prenups or Postnups

Prenups and postnups are often thought of as sowing doubt into the marriage before it begins. However, nuptial agreements can be positive for a relationship if the right perspective is taken. For instance, here are a few ways that prenups and postnups can set a new marriage up for success:

• They resolve challenging questions when both spouses are committed to a future long-term relationship – It’s natural that both parties would rather not deal with uncomfortable questions arising from potential divorce or death scenarios, especially if your life together is just beginning, but it’s precisely when both people are invested in each other and the relationship that the time to hash out a partition agreement makes sense. If each person can communicate their way through the process, then if the worst does come to pass and divorce occurs, it could save an ugly, stressful battle over who receives what. The partition agreement has already set the terms in stone.
• They ensure all children involved are taken care of – Prenups and postnups ensure that all assets that will be used to provide for children are properly allocated and protected. This peace of mind can be worth it for a relationship’s stability. Please note that partition agreements cannot be used to determine child support, custody, or visitation of children of the marriage, in the event of divorce. Those aspects will have to be determined by a court of competent jurisdiction and any agreements made regarding those issues may be completely nullified.
• They are valuable estate planning tools – While prenups and postnups do not replace a will, they can be used to articulate the decedent’s wishes and reinforce a will’s aims. If there are questions regarding inheritance and beneficiaries, partition agreements can be used to guide asset disbursement to family and loved ones.
• They can be used to protect both spouses – Prenups and postnups are usually thought of as a way to protect the wealthier spouse, but that doesn’t have to be the case. If a spouse is entering the marriage with minimal assets, they may also negotiate favorable terms in the partition agreement. For example, in exchange for one spouse receiving strong asset protection in the event of divorce, the other may argue for regular payments (not necessarily alimony) should divorce be executed.

Tax Laws Can Complicate Partition Agreements, so Consult with a Trusted Houston Tax Attorney First

Prenuptial and postnuptial agreements are complicated enough before considering the tax ramifications. Add taxes into the mix and it may be impossible to easily put together an agreement without a tax attorney’s help.

Using the community property example from above, a couple may agree to separate income earned by income-earning assets brought into the marriage. However, the couple’s tax filing status will factor into this. If both spouses file separately, they will need to calculate their earned income based on what their assets are earning (as well as wages and other sources). Failing to do so may invalidate the partition agreement.

This is one example, but there are many more. Given the complex intersection between partition agreements and tax law, many tax attorneys also specialize in putting together prenups and postnups, where they can bring their tax-specific knowledge to bear.

If you’re ready to tie the knot – or already have – working with a reputable Houston tax and estate planning attorney will ensure your partition agreement is executable down to the last detail.