When an individual files bankruptcy, the trustee assigned to his/her case will examine payments made to creditors before a case was filed. If the payments to an individual’s creditors meet certain requirements, they are considered preferential payments.
If an individual filing bankruptcy has made preference payments, the trustee administering the case may go after the creditor to whom the payment was made and force the creditor to give the trustee the amount of the payment. The trustee will then take the payment and distribute amongst all of the debtor’s creditors.
Under § 547(b) of the Bankruptcy Code, a “preference” is any transfer made by the debtor that meets the following criteria: (1) the transfer is to or for the benefit of a creditor, (2) the transfer is for or on account of a prior debt owed by the debtor before said transfer was made, (3) the transfer was made while the debtor was insolvent, (4) the transfer was made either 90 days before filing the bankruptcy petition, or one year before the filing of the bankruptcy if the payment was made to an insider, and (5) the transfer enables the creditor to receive more than the creditor would have received either under a Chapter 7 case or if the transfer had not been made at all.
Preferences are most commonly problematic within the context of payments to friends or family. If a transfer is made to a non-insider, the debtor typically is concerned less about the effect on the creditor.
When the preference payment has been made to a friend or family member, there are several ways to handle the situation.
Sometimes a debtor will wait until the preference period has run out before filing their bankruptcy. For example, if a debtor repaid his/her mother in September of 2009, he/she may wish to wait to file his/her case until it has been after a year since the payment was made. If the debtor waits for the preference period to run out, then there will not be an issue in his/her case regarding the payment.
It should be noted that the debtor will want to make certain of when the payment was made. A miscalculation of one day can make the difference in whether a payment is a preference or not.
If the debtor absolutely cannot wait, another option would be to file a Chapter 13 case. Under Chapter 13, as long as the total amount paid by the debtor over the course of the Chapter 13 plan is at least as much as the debtor transferred, then no additional funds need to be paid, and the trustee will not pursue the matter with the transferee.
If a Chapter 13 is not an option, then the trustee who is assigned to the Chapter 7 Bankruptcy will attempt to retrieve the funds. Sometimes the trustee will allow the debtor to stand in the shoes of the individual to whom the preferential payment was made and allow the debtor to pay back the preference on the behalf of the transferee. Most trustees will allow the debtor about five months to pay the preference amount.