Inheritance spent, bankruptcy looming

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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Dear To Her Credit,
My mother passed on Jan. 6, 2013. She left me $36,000 of life insurance. Now, two years later, I need to file for bankruptcy. I haven't paid toward any credit card bills since 2013. Do I have to disclose where my inheritance money went?  -- Diana


Dear Diana,
You generally don't have to disclose to the bankruptcy court where you spent money you received two years ago. However, I'll admit I'm a bit curious about what you did with it, especially if you don't want to tell anyone. When a person deep in debt receives a substantial amount of money, one of the most logical things to do with the money is to pay down debt.

I have heard the argument that, when someone receives an inheritance from a parent, the parent "wouldn't have wanted the money just to go to credit card debt."  I have a problem with that. Credit card debt is not money a person decides to spend when they pay the credit card bill. Credit card debt represents money already spent. Whatever a person bought with the credit cards, that's what they already promised to pay, whether with future income or financial gifts they might receive.

Of course, I don't know your whole story. Hospitalization, divorce or other life crises can turn everything upside down. Whatever happened, it's done and the money is gone; $36,000 sounds like a lot of money when it comes in one check, but it can go fast.

In any case, Boston bankruptcy attorney Theodore Connolly doesn't think your inheritance will be an issue for your bankruptcy. You won't even have to disclose it or list your inheritance on your bankruptcy schedules or statement of financial affairs, assuming you spent the money and you don't own any asset you purchased with it.

Connolly says, "The bankruptcy trustee would not then know about it or ask any questions about it at her meeting of creditors. Even if it did somehow come up, such as an over-aggressive credit card lender who wants to ask questions, I don't think the trustee would bat an eye at someone wasting $36,000 over two years. The trustee has heard many worse stories of people wasting big sums of money."

If you bought an asset with the money, that's a different story. Certain assets, such as vehicles, will be listed on your bankruptcy statements. In that case, state law determines how many assets you are allowed to keep in bankruptcy.

If you used your inheritance to buy a car, and the car is paid for, you should be able to keep it if it's below your state's exemption amount. If you're making payments on a car, you may be able to make a lump-sum payment to keep the car, or reaffirm a new payment schedule with the lender.

Some people don't want to tell where money went before bankruptcy because they are trying to hide the money by giving it to someone else to hold. For example, I knew someone who transferred title of a motorcycle to a relative before he filed for bankruptcy, with the understanding that he'd get the motorcycle back afterward. A scheme like this seems easy at the time, but don't try it. If you must file for bankruptcy, be scrupulously honest about everything you report. It's the best way to truly get a fresh start, and to begin rebuilding your financial life.

See related: Be careful with inheritance, spending, before bankruptcy filing

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Updated: 10-16-2018