Filing for bankruptcy doesn’t guarantee that all your debt will be erased or "discharged." Certain kinds of debts, called nondischargeable debts, remain your responsibility even after bankruptcy. Debts resulting from fraud fall into this category.
However, before a debt can be declared nondischargeable in bankruptcy due to fraud, a creditor must ask a court for a fraud determination. If the creditor doesn’t obtain a fraud judgment, the debt will be eliminated.
What Is Fraud?
Fraud can arise in many different contexts when someone lies or manipulates someone else for gain. For instance, suppose you aren’t completely honest about your income when you apply for a credit card. Or maybe you hid money from your business partner. Or perhaps when you closed your restaurant, you sold off all the tables, commercial ovens, and the like. Then, instead of dividing the proceeds fairly between the landlord, the guy who sold you wholesale food, and the business’s other creditors, you pocketed the money. All these situations involve deception that might be found fraudulent.
What Is Bankruptcy Fraud?
In bankruptcy, fraud usually occurs at the expense of a creditor, and it usually involves a filer’s act or failure to act during the bankruptcy case. However, bankruptcy fraud can and often begins before the bankruptcy filing.
For instance, someone might inflate income on a credit application before running up the card and wiping out the balance in bankruptcy. A “bust-out” business bankruptcy scheme involves acquiring a business, selling off the assets, and stiffing creditors, before filing for bankruptcy without disclosing the previously sold assets.
Types of Bankruptcy Fraud
Bankruptcy fraud comes in four basic forms:
- concealing property
- giving false information
- filing multiple bankruptcy cases, and
- trustee-related fraud.
Concealing Property
Concealment is by far the most common type of bankruptcy fraud. It typically happens when a bankruptcy filer hides valuable assets and fails to list the hidden property in the bankruptcy schedules, the official forms you file to start your bankruptcy.
Examples of fraudulent concealment would include:
- hiding expensive jewelry or artwork with friends or family
- placing cash or property in an undisclosed safe deposit box, or
- keeping assets at home without telling anybody that they exist.
Find out what property you can keep using bankruptcy exemptions.
Providing False Information
Everyone who files a bankruptcy case must list income, assets, and liabilities in the proper schedule—and the information must be complete and accurate. Giving misleading or incomplete information about yourself, your property, or your debts is a type of fraud involving false information.
Filing a bankruptcy under a false name or social security number to conceal misconduct would constitute fraud.
Filing Multiple Bankruptcy Cases
Multiple bankruptcy filings can be fraudulent if you intend to deceive creditors about your identity or assets. For instance, when someone files cases in multiple states to confuse the court and creditors or repeatedly files and dismisses bankruptcy cases to avoid home foreclosure, that person could be found to have committed fraud.
But all consecutive filings aren’t fraudulent. Sometimes, good reasons to file more than one case exist.
Fraudulent Acts by Bankruptcy Trustees
Bankruptcy filers aren’t the only participants that can commit fraud. Bankruptcy trustees, usually private attorneys or accountants appointed in Chapter 7 cases, sometimes abuse their positions by taking money from a property sale for personal use or accepting a bribe from a bankruptcy filer to look the other way when that person hides an asset.
A Creditor Must Have a Fraud Judgment
A creditor’s claim that you committed fraud doesn’t do anything on its own. A creditor must file a lawsuit and get a fraud judgment against you. Creditors can do so in a couple of ways.
Fraud Lawsuit Filed in State Court Before Bankruptcy
Sometimes, a creditor files a civil lawsuit in state court, and the complaint (the first legal paper filed in a lawsuit) alleges fraud before you even file for bankruptcy. Being served with a complaint often starts people thinking about bankruptcy. Here are the two types of judgment creditors can get:
- Default judgment. If you fail to respond within the required time, the court will grant a judgment by default.
- Trial judgment. A creditor receives a trial judgment by winning at trial.
The debt becomes nondischargeable once a creditor has a fraud judgment against you. This potential outcome makes it essential to speak with a debt relief attorney as soon as you’re served with a lawsuit. Quick action allows you and your attorney time to take steps to prevent the issuance of a judgment if the complaint contains a fraud allegation (this is what you’ll want to check).
Adversary Proceeding Filed in Bankruptcy Court
A creditor who doesn’t already have a fraud judgment against you can file an adversary proceeding—a lawsuit in bankruptcy court—within 60 days of the first meeting of creditors. If the creditor doesn’t file the proceeding on time, the debt remains dischargeable and eventually goes away.
However, the debt becoming dischargeable assumes that you properly listed the creditor in your bankruptcy petition. If you didn’t, the omitted creditor could file a fraud lawsuit against you even after your bankruptcy case is over.
Proving Fraud at Trial
Proving fraud at trial isn’t easy. Your creditor must prove that:
- you knowingly made a fraudulent representation (you lied or were misleading about something, like the amount of your income or what you did with company profits)
- the creditor relied on the misrepresentation (they believed your misrepresentation), and
- the creditor lost money as a result.
Of course, most people won’t admit that they meant to commit fraud, so fraud is typically proven by actions such as:
- moving money in a suspicious way
- filing documents containing contradictory information with the court
- failing to disclose a lottery prize, or
- allowing creditors to rely on knowingly false facts, such as outdated financial information.
How to Avoid Bankruptcy Fraud
Disclose, disclose, disclose. The bankruptcy process depends on full and accurate disclosure by all participants to run correctly. You shouldn’t have a problem if you list all the assets you own, debts you owe, and recent transactions you’ve engaged in.
Here are a few tips:
- You’re in charge of what you report to the court—don’t forget that accuracy matters.
- Carefully review all the information on your bankruptcy petition before signing it.
- Remember that attorneys can make mistakes—check their work.
- Circumvent potential problems by explaining anything you think the trustee or court might question or misunderstand.
Of course, people can make honest mistakes. If that happens to you, promptly admit any error, apologize to all affected persons, and make the necessary corrections.
Bankruptcy Fraud Consequences
Bankruptcy fraud is a felony that can result in fines of up to $250,000 and imprisonment for up to twenty years. Government watchdog agencies don’t have the budgets to review every case, so the penalties are severe to deter fraud.
How to Report Bankruptcy Fraud
If you suspect that someone involved in a bankruptcy case has committed fraud, you’ll want to report it immediately to the U.S. Trustee, especially if there’s a chance someone might accuse you of participating in it. The U.S. Trustee will get the information to the right enforcement agency, such as the U.S. Attorney, the Securities and Exchange Commission, or the Internal Revenue Service. You can visit the U.S. Trustee Program’s website for contact information.
Meet With an Attorney
Fraud matters are serious. A bankruptcy attorney can review your case and help you determine your best course of action. And hiring a lawyer is likelyn't as pricey as you might think. Learn how much it costs to hire a bankruptcy attorney.