Business Law Bulletin: Helpful hints on how to deal with debtors
Attempting to collect a debt or enforce a money judgment can be a frustrating and expensive experience.
Desperate debtors often utilize varied schemes to keep assets away from creditors, such as placing property in other people’s names, giving assets away to family members, putting assets into revocable trusts, or transferring assets overseas.
Sometimes a debtor will make himself the second signatory on a bank account, with another person as the nominal primary signatory Ð in order to make it difficult for investigators to discover the account. Many of these tactics are improper and can be defeated, but the process can be costly and time-consuming for creditors.
What can you do to protect yourself or your business against such ploys?
First: The best advice Ð sometimes easier said than done Ð is not to let your clients or customers get behind on payments. Delinquent debts are not like fine wines: They do not age well. (The older the debt, the harder it is to collect.) If you cannot collect a debt within a reasonable time, consider whether it is time to send the matter to a collection agency or commence legal action. (Caution: Professional debt collectors and many types of businesses may be subject to federal and state debt collection statutes and regulations. The laws are complex, and beyond the scope of this discussion.)
Second: If your debtor appears to be insolvent or contemplating bankruptcy, you may want to consult a bankruptcy lawyer about how to minimize the chances that any money you collect will ultimately have to be paid over to a bankruptcy trustee.
Third: Consider retaining an investigator to locate a debtor, or his assets. Many investigators will perform a “skip trace” (designed to find current addresses and phone information) for a nominal fee. More intensive investigations Ð for example, to locate assets or transfers Ð can be expensive. While a good investigator can be a valuable resource, keep in mind that private eyes who obtain information in violation of privacy rights and other legal restrictions can get both themselves and their clients into serious legal trouble.
Fourth: Consider asking a court to set aside fraudulent transfers. Many debtors mistakenly think that they can give that house, boat or diamond ring to a son or daughter in order to keep it out of the hands of creditors, but that is generally not permitted. If the recipient has not paid fair value for the asset and the transfer either leaves the transferor insolvent or is calculated to hinder a creditor, it is generally deemed a “fraudulent transfer” which a court can set aside. Similarly, a debtor generally cannot shield his assets by putting them into a trust unless he also gives up any right to revoke the trust.
If a creditor exhausts all reasonable (and lawful) efforts to persuade a debtor to pay his obligation voluntarily, it may be appropriate to file a lawsuit. Once suit is filed, it may be possible Ð depending on the facts Ð to obtain emergency relief, such as appointment of a receiver to run the debtor’s business; an order for attachment of a debtor’s assets; or an injunction against improper transfers.
If a lawsuit is filed and a judgment is obtained, it can be difficult to locate and collect the debtor’s assets. Judgment debtors often go to great lengths to conceal their assets or otherwise make them unavailable to judgment creditors. This can sometimes be done through perfectly legal means. For example, some states (unlike California) do not put limits on the amount of equity in a personal residence (the so-called homestead exemption) that is exempt from execution under a judgment; so a California judgment debtor theoretically could take millions of dollars in cash and use the money to buy a megamansion in one of those other states, and thereby shield the residence from creditors.
But what about the “garden variety” judgment debtor, who simply doesn’t seem to have any assets, or lies about his assets? Assume you have obtained your judgment and have subpoenaed the judgment debtor’s financial records, but he either fails to produce them, claims they have been lost or destroyed, or gives you a false set of records; what can you do?
Generally, you will need a lawyer or investigator, or both, who can develop proof that the missing records exist. This can be done in many ways. In one case, a defendant claimed that he could not locate large quantities of file boxes; but he was involved in a bitter divorce, and his spouse’s attorney found the boxes and produced photographs of them in court. In another case, a court “pierced the corporate veil” and found the individual CEO of a corporation personally liable for his company’s debts, after he failed to produce the company’s general ledger at trial and his bookkeeper testified that “we don’t have anything like that.” If you can show this kind of deception, judges will often threaten individuals with monetary sanctions or even imprisonment for contempt of court if they fail to produce full and complete financial records.
The bottom line: Justice can be achieved in debt collection matters, but it often requires time, money and perseverance.
If you enjoyed Lionel model trains as a child, you may be saddened to learn that Lionel remains in bankruptcy in New York, having filed for Chapter 11 reorganization in 2004. The bankruptcy filing resulted from a nearly $40 million jury verdict against Lionel for allegedly misappropriating locomotive designs from Mike’s Train House.
The Lionel bankruptcy train is approaching some important stations. First, a hearing is scheduled tomorrow morning on Lionel’s motion for a fifth extension of the time period within which Lionel has the exclusive right, under the U.S. Bankruptcy Code, to file a proposed Chapter 11 plan. MTH is opposing Lionel’s motion. If the motion is denied, then creditors may propose their own plans for reorganization or even liquidation of Lionel, which the bankruptcy court might approve even if Lionel objects.
Meanwhile, last December the Sixth Circuit Court of Appeals reversed the judgment in favor of MTH which had forced Lionel into bankruptcy, and ordered a new trial. MTH is asking the bankruptcy court to allow the re-trial to proceed outside of the bankruptcy case, in a federal district court in Michigan. MTH’s request will also be heard tomorrow in the bankruptcy court in New York.
Lionel’s prospects for successful reorganization may be significantly affected by the outcome of these two proceedings tomorrow.
Peter C. Bronson, of Nevada County, is a partner in the Sacramento offices of Kelly Lytton & Vann LLP. His law practice emphasizes creditors’ rights, insolvency, commercial litigation and mediation. Write him at firstname.lastname@example.org. This column is not intended as legal advice in any specific business situation or dispute; specific strategic decisions always depend upon the specific facts.
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