Filing for bankruptcy threatens inheritance

To Her Credit columnist Sally Herigstad
Sally Herigstad is a certified public accountant and the author of "Help! I Can't Pay My Bills: Surviving a Financial Crisis" (St. Martin's Press, 2006). She writes "To Her Credit," a weekly reader Q&A column about issues involving women, credit and debt, for, and also wrote for MSN Money, and, and has guested on Martha Stewart Radio and other programs.

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Question for the expert

Dear To Her Credit,
My father passed away in 2006. Before he died, he was involved in several class action lawsuits against companies that helped contribute to his mesothelioma. He was a mechanic, so it could be companies that manufactured parts or products for the industry that caused cancer. He died before we ever saw any money.

The settlements are split six ways between my mom and us kids. I never know when we will get money, and the amounts have been anywhere between $100 and $4,000. We haven't received one in about eight months. I do know of one coming in the next five months, and it's for $3,000. My dad set up the payments in a "successor payment plan."

I am thinking about filing for Chapter 7 bankruptcy to clear about $14,000 in debt. Can the bankruptcy court take my settlement payments as I receive them? Is there a time period that money received would be untouchable?  These settlements could go on for years.

I obviously want to follow the law, but I would also like to keep the settlement cash because I consider it my inheritance from my father as he did not have any life insurance. Thanks for your help! -- Amy

Answer for the expert

Dear Amy,
You are correct. The bankruptcy trustee will, in all likelihood, take your settlement proceeds to help pay off your creditors if you file for bankruptcy. They won't just take the $3,000 from your next payment, either.

Attorney Charles R. Gallagher III of St. Petersburg, Fla., says, "One's bankruptcy estate consists of everything they had at the time of filing as well as anything that follows from prefiling events. In this case, if she was entitled to such lawsuit payments before she filed and was awarded damages afterward (maybe even after the case was discharged), then the award will be part of her bankruptcy estate and the U.S. trustee would be entitled to marshal these assets for the purposes of satisfying the debts of the debtor."

In other words, the entire settlement amount is part of what you own right now regardless of when you receive it -- just like your total debts are what you owe right now, regardless of when you pay them. In bankruptcy, what you own (with certain exceptions) is used to satisfy the claims of the people to whom you owe money.

It would be the same if you had received an inheritance from your father before you filed for bankruptcy. The fact that assets came from an inheritance does not protect them from creditors.

Let's look at your situation as it is now, assuming you do not file for bankruptcy. You owe $14,000. Using the Federal Reserve's numbers, the average U.S. household with credit card debt owed nearly $15,000. The amount you owe is not pretty, but it's not out of the ordinary, nor is it insurmountable.

If you get $3,000 per year from your father's settlement, you can use it to pay down your debts and get a fresh start financially. Or, if you want to save the money from your dad, you can find a way to make extra income for a few years to pay off the debt. Either way, you stay in control, you decide who gets paid first and when, and you have the satisfaction of knowing you did the right thing and conquered your debt.

On the other hand, if you file for bankruptcy, what happens? First, you're going to spend your $3,000 on filing for bankruptcy. You may see lower prices advertised, but there are always more court costs and fees. Then, you have the hassle of filing for bankruptcy. It's no walk in the park. You lose control over where your money goes and when; the courts decide all that. You may have to go to court and face your creditors or their representatives. (I accompanied a friend to bankruptcy court once, an experience I wouldn't like to repeat!) The bankruptcy trustee makes sure all future payments from your dad's court case go to pay your current debts. You won't be much, if any, further ahead financially, and you'll have a bankruptcy on your record.

A reputable attorney may not even take your case. Gallagher says, "We would never counsel a client to file bankruptcy under these circumstances. We feel bankruptcy is really appropriate where a client has profound and significant debt beyond any repayment potential -- for example, catastrophic medical care expenses without insurance or significant debt as a result of divorce."

You have other options besides bankruptcy. Work out a plan to get out of debt by paying it off. You can do it. Good luck, and take care of your credit!

See related: Explore all options before declaring bankruptcy, Is bankruptcy right for you? Our 7-point checklist will tell you, Sometimes bankruptcy is the ONLY way out, Will cash gifts, inheritance go to creditors after bankruptcy?

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Updated: 12-11-2018