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Posted on May 9, 2018 in Divorce

On occasion, one party of the other may file bankruptcy while their dissolution is underway. This can cause some confusion. What happens when one spouse files a Chapter 7 Bankruptcy in Federal Court while your dissolution case is moving forward in the California Court?

2 Different Courts

Bankruptcy proceedings are controlled by federal law, specifically, the Bankruptcy Code. Family law proceedings are heard under state law, primarily, the California Family Code. There are times when these two systems may be at odds with one another, so we need to know which rules have the “right of way” or should have priority over the other.

The Automatic Stay

The first thing that happens, by operation of law when a bankruptcy petition is filed, is an automatic stay is created. 11 USC §362. The automatic stay is an injunction, which serves to protect the debtor (e.g. the person who filed for bankruptcy protection.) The automatic stay will stop creditor actions against the debtor, including:

  • beginning or continuing legal actions against the debtor,
  • actions to obtain the debtor’s property, or
  • actions to create or enforce a lien against the debtor’s property.

 
The automatic stay is very broad, as it applies “against all the world” and violations of the stay can be very costly for the violator. Sommer & McGarity, Collier Family Law and the Bankruptcy Code, sec. 5.03, p. 5-29 (Matthew Bender 2015). The point of the automatic stay is to give the debtor breathing room, as it stops (almost) all collection efforts. It also allows the Trustee to have an unhampered view of and access to the Bankruptcy estate, so the Trustee may administrate and liquidate the assets, if any. You can think of the automatic stay as a big emergency brake, in the car that is the Family Law case.

The automatic stay applies to individuals, corporations, and even state courts. For example, if a California Family Law court makes an order forcing the sale of a community property home, and if one of the parties has filed a bankruptcy petition, this order could be stayed by the Bankruptcy Court. Why?

The Bankruptcy Estate

When a bankruptcy petition is filed, a bankruptcy estate is created, again, by operation of law (e.g. it happens by itself, there are no additional papers or hearings required.) The bankruptcy estate consists of all the property of the debtor, whether community or separate property, and whether or not the debtor has a present interest in the asset. The Trustee has power over this bankruptcy estate, and can liquidate non-exempt assets for the benefit of creditors. The Trustee can also avoid (undo) certain transactions, even if they happened before the bankruptcy petition was filed. The bankruptcy estate exists until the bankruptcy case is closed, with or without discharge, or dismissed.

The Community Property Estate

When someone files a dissolution in California, a community property estate is also formed. The community property estate consists of all the community property of both parties over the course of the marriage. The Court is ultimately responsible to ensure the assets are divided in accordance with California law, and the Court can make orders to preserve the community estate (e.g. ensure the property of the community estate is not wasted.)

That’s all very nice, but what does that mean to me?

If you have a family law case in California, and either party then files bankruptcy, it can cause confusion for the Courts and for both parties. In most cases, the California court will have to give way to the Bankruptcy Court. One reason for this is the Supremacy Clause, which states that federal laws made pursuant to the US Constitution are the supreme laws of the land, and that state law must give way to it, when the laws are in conflict.

One important consideration is: Does the order relate to a Domestic Support Order (DSO)? Domestic support orders are defined as Child, Spousal, or Family support orders. The bankruptcy Court can “look behind” the title of a document to determine, on its own, if it is in the nature of support or not. If so, the automatic stay may not apply. The following requests or orders in Family Law Court are NOT stayed by the automatic stay:

  • orders regarding child custody and visitation,
  • orders to establish or modify a support order (DSO),
  • orders for a dissolution of marriage (status only) except to the extent that the action tries to divide property which belongs to the Bankruptcy Estate,
  • orders to establish paternity (parentage,)
  • orders made under the Domestic Violence Prevention Act.

 
So, there is a very broad, powerful automatic stay, but there are also lots of exceptions, so what do I do? The main point here is, if there is a pending Bankruptcy case with a simultaneous Family Law case, the family court may have to wait for the bankruptcy case to be over, or wait until the automatic stay is lifted, to make order relating to the division of property.

The automatic stay does apply to every order the Family Court might want to make, but certainly for those orders having to do in any way with the community estate, the division of assets and debts, and even awarding of property to one spouse or the other. However, the Family Court can make orders regarding child custody, visitation, child/spousal/family support, for protection against Domestic Violence, and to terminate the marital relationship, even while a bankruptcy case is open and while the automatic stay is in effect.

Bottom line, if this situation applies to you, you need to consult with attorneys who are very knowledgeable about both family law and bankruptcy. You will need a skilled attorney to navigate these situations and help you to make good choices. The repercussions can last a lifetime, so ensure you get educated and protect your rights. It is always wise to consult with an experienced bankruptcy attorney, even if you are not the one who filed for bankruptcy.