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Recent Credit Card Charges and Cash Advances in Bankruptcy

Recent Credit Card ChargesMost debts are discharged—legally, permanently written off—if you file a consumer bankruptcy case. But there are some exceptions. In today's blog post I address one kind of debt that might not be discharged. These are debts you could continue to owe after your bankruptcy was finished.

WHAT KINDS OF DEBTS ARE NOT DISCHARGED IN BANKRUPTCY?

Broadly speaking, 3 categories of debts may not be discharged.

  1. Special types of debts owed to certain kinds of creditors: Congress has decided some debts should never be discharged or should not be if they meet certain conditions. For example, past-due child or spousal support can never be discharged. And in general an income tax debt can't be discharged if its tax return was due less than 3 years ago or its tax return was filed with the IRS/California Franchise Tax Board less than 2 years ago.
  2. Debts that you voluntarily choose not to discharge: You can formally exclude certain limited kinds of debts from being discharged by "reaffirming" them. If you sign a "reaffirmation agreement" and it's approved, that excludes that debt from discharge. This is mostly done so that you can keep collateral on a debt and not have the creditor repossess or foreclose on it. So, reaffirmations are used mostly with vehicle loans, home mortgages, and sometimes other collateralized debts.
  3. Debts incurred by fraud or misrepresentation: If you acquired a debt by giving false information on the application, or by promising to pay it when you actually didn't intend to do so, the creditor could challenge your ability to discharge the debt. This challenge by the creditor can only be raised for a very limited time and would succeed only under limited circumstances.

Today I'm talking only about this third, fraud category of exceptions to discharge. In fact this blog post is mostly about only a certain subset of allegedly fraud-based debts, those related to credit card purchases and cash advances done during a relatively short time before filing bankruptcy. But first let's look at fraud-based debts more broadly.

WHY IS THERE A FRAUD-OR-MISREPRESENTATION EXCEPTION TO DISCHARGE?

One of the most basic principles of bankruptcy is that you have to be honest to get its benefits. Most debts honestly incurred are discharged. But you generally can't purposely cheat a creditor to get a loan or other credit, and then just write off the resulting debt.

The way the law puts it a creditor can challenge your ability to write off a particular debt if it was "obtained by . . . "false pretenses, false representation, or actual fraud . . . ." See Section 523(a)(2) of the Bankruptcy Code.

HOW DOES THIS LAW APPLY TO CREDIT CARDS AND SIMILAR CONSUMER LINES OF CREDIT?

It applies like any other kind of debt. So for example if a person qualified for a credit card by intentionally greatly inflating her income, the creditor could challenge the discharge of that debt when she filed bankruptcy. And the creditor would likely win that challenge if it can show it would not have extended the credit if she hadn't misrepresented her income.

But beyond that bankruptcy law has some special provisions for consumer debts. Arguably because there are some practical difficulties for credit card and other consumer creditors to prove fraud, the law has some special provisions that create a "presumption of fraud".

WHAT IS A PRESUMPTION OF FRAUD?

A presumption of fraud makes it easier under certain circumstances for a consumer creditor to convince the bankruptcy court that the debt, or a portion of it, should not be discharged. Under only those limited circumstances the court can "presume" that the debtor committed fraud by incurring a debt while not intending to pay it.

The "presumption" is based on the generalization that when a person is on the brink of filing a bankruptcy case he knows that he is going to file that bankruptcy and will not have to pay his debts. So going further into debt at the time when a person does not intend to pay that new debt is seen as fraud.

HOW IS THIS FAIR SINCE THAT GENERALIZATION IS NOT ALWAYS TRUE?

That's right. That IS an overgeneralization. You may use a credit card or even incur a brand new debt with every intention of paying it, but then something happens that convinces you that you need to file bankruptcy. Here's how the "presumption of fraud" works to be fair for debtors.

A creditor has to formally object to the discharge of a debt that it thinks you incurred fraudulently. Otherwise that debt will be discharged. So if a creditor has information that when you incurred the debt you intended to pay it, the creditor may not decide to bring a challenge and the debt is discharged.

If a creditor does want to object, its objection must be in the form of a lawsuit the creditor files at the bankruptcy court. The entire focus of that lawsuit is usually simply on whether or not the debt should be discharged.

Normally In such a lawsuit the creditor has to provide evidence to the court proving your alleged fraud or misrepresentation. But a presumption of fraud makes it much easier for the creditor to win its lawsuit. That's because it can win without showing any evidence of fraud itself; it can win by just showing that certain specific circumstances exist that make fraud more likely.

SO CAN A CREDITOR WIN A FRAUD CASE WITHOUT ACTUALLY SHOWING FRAUD?

Yes, but only if you don't fight back. The presumption is only that: a presumption. You can defeat the presumption with evidence that there was no fraud. That's called rebutting the presumption.

I'll describe the two circumstances in the law where the presumption of fraud can be used by creditors. And in both circumstances I'll show how the presumption can be rebutted so that the debt is discharged after all.

The two circumstances in which a presumption of fraud arises are with 1) "luxury goods or services" and 2) cash advances. Let's look at each of these.

WHAT'S THE "LUXURY GOODS AND SERVICES" PRESUMPTION OF FRAUD?

If a consumer buys more than $650 in "luxury goods or services" in the 90-day period before filing the bankruptcy, that new debt is presumed not to be dischargeable. That means that the creditor doesn't need to prove through direct evidence that you didn't intend to pay the debt for those credit purchases at the time the purchases were made.

Instead the creditor just needs to show that you bought more than $650 in purchases of "luxury goods or services" during the pertinent 90-day period. That's a matter of comparatively simple paperwork for the creditor to show. It's much easier than proving your intent not to repay the debt arising from those purchases.

The idea behind this presumption is that normally people don't go around buying "luxury goods and services" on credit when they are on the brink of filing bankruptcy, unless they intend to discharge that debt. So, the argument goes, people who do this should be made to pay such debts instead of discharging them.

WHAT ARE "LUXURY GOODS AND SERVICES"?

Since this presumption of fraud supposedly only applies to the purchase of "luxury goods or services," it may sound somewhat reasonable.

But Congress made the definition of that phrase much broader than those words would make you think. It includes everything except goods or services "reasonably necessary for the support or maintenance of the debtor or a dependent of the debtor." So anything that isn't truly necessary could be called a "luxury" for the purpose of this presumption.

What does and doesn't fit within this unclear definition is for the bankruptcy court to decide. If you and your attorney persuade the court that the goods or services were "reasonably necessary," then the presumption doesn't even apply.

IF THIS PRESUMPTION DOES APPLY, HOW CAN YOU DEFEAT IT?

You can rebut the presumption simply by convincing the bankruptcy judge that you did intend to repay the debt for the purchases at issue at the time you made the purchases.

You and your attorney can do that directly through your testimony about your intent at the time. However, sometimes more convincing is evidence that would show you weren't planning on filing bankruptcy at that time, but then something happened afterwards that persuaded you to do so.

WHAT IS THE CASH ADVANCES PRESUMPTION OF FRAUD?

Very similar to the "luxury goods and services" presumption, if a consumer incurs a debt of more than $925 through one or more cash advances made in the 70 days before filing the bankruptcy, that new debt is presumed not to be dischargeable. Again, that means the creditor doesn't need to prove through direct evidence that you didn't intend to pay the debt for those cash advance(s) at the time it was or they were made.

Instead the creditor just needs to establish that you made more than $925 in cash advances during the pertinent 70-day period. Again, that's much easier than proving your intent not to repay the debt arising from those cash advances.

This presumption has the same rationale as the "luxury goods and services" one, that normally people don't go around making cash advances when they are on the brink of filing bankruptcy unless they intend to discharge the debt.

IF THIS CASH ADVANCES PRESUMPTION DOES APPLY, HOW CAN YOU DEFEAT IT?

Again, you rebut this presumption by convincing the bankruptcy judge that you intended to repay the debt for the cash advance(s) at the time you made the advance(s). You do so with direct testimony of your intent, and/or indirect evidence showing what happened between the time the cash advance(s) was (were) incurred and when you filed your bankruptcy case which induced you to file.

DO THESE PRESUMPTIONS APPLY TO THE WHOLE DEBT OR ONLY THE AMOUNT(S) INCURRED DURING THE 70/90 DAY PERIOD BEFORE FILING?

These presumptions both only apply to the portions of the debt(s) added during those time periods.

So the presumption of fraud only applies to your credit purchase of "luxury goods and services" totaling more than $650 from any single creditor within 90 days before you file bankruptcy.

And it also applies only to your cash advances totaling more than $925 from any single creditor within 70 days before filing bankruptcy.

SO IF CREDIT WAS INCURRED EARLIER THAN THESE 70/90 DAY PERIODS WILL THE DEBTS BE DISCHARGED?

A discharge of the debt is more likely, but won't necessarily happen.

These two presumptions of fraud do not apply to credit incurred beyond those relatively short 70-day and 90-day-before filing time periods. A presumption helps a creditor only in these timing circumstances. But a creditor may still be able to show a debtor's fraud or misrepresentation beyond those timeframes.

Consider a situation where a presumption of fraud doesn't apply. A "luxury good" was purchased more than 90 days before your bankruptcy case is filed. But the creditor still believes that, because of the amount of the purchase and the debtor's lack of any payments on that purchase, that the debtor had already decided to file bankruptcy at the time the purchase was made. So the creditor could still challenge the discharge that debt. The creditor would simply not have the benefit of the presumption. So it would need to present to the court convincing evidence that the debtor did not intend to pay the debt at the time the purchase was made.

Because this kind of convincing evidence is more difficult to come up with, creditors are not as likely to challenge purchases and cash advances that were made before the 70-day and 90-day presumption periods.

HOW CAN I AVOID GIVING CREDITORS THE ADVANTAGE OF THESE PRESUMPTIONS?

You can avoid giving a creditor these advantages two ways.

First, of course you can avoid using any credit and making cash advances during the pertinent 70-day/90-day periods before filing bankruptcy.

Second, if you've already made purchases or credit advances, you could just hold off on filing bankruptcy until enough time has passed to get beyond these 70 and 90-day presumption periods.

But remember that a creditor doesn't necessarily need a presumption of fraud to challenge the discharge of its debt. If a creditor thinks it has evidence that you incurred a debt without intending to pay it, or that there was some other kind of fraud or misrepresentation, the creditor may still decide to raise the issue. It doesn't necessarily matter when the debt was incurred.

But if you can avoid filing within the presumption periods to improve the odds that a creditor will not challenge the discharge of its debt.

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