Lucas Albrecht was underwater and heading toward bankruptcy. But he lived in a Raleigh home worth $420,000 with his domestic partner, Kirsten Moore. The home would have been off-limits if they held the property as tenants by the entirety. Unfortunately for him, they held the property as joint tenants, making his half of the equity fair game for his creditors. So, acting on the advice of counsel (and maybe a romantic urge) Albrecht and Moore got married. The next day, they re-deeded the property from joint tenancy to tenancy by the entirety. A few weeks later, Albrecht filed Chapter 7.
The plan made sense. Under North Carolina law, property held by a married couple as tenants by the entirety is protected from the individual debts of either spouse. As joint tenants before the marriage, Albrecht’s half-interest was exposed. As tenants by the entirety after the wedding, it was not. Except it was. Once in bankruptcy, the Chapter 7 Trustee sought to void the transaction. The United States Bankruptcy Court for the Eastern District of North Carolina sided with the Trustee, finding the re-deeding was both a constructively fraudulent transfer and an actually fraudulent transfer. The Court unwound the transaction and returned the equity to the bankruptcy estate for distribution to creditors.
Was There a Transfer?
Albrecht and Moore’s first argument was that nothing was transferred because the grantors and grantees on the deed were the same, and the property was the same. The court gave this argument short shrift. Under North Carolina law, a joint tenancy allows each owner to freely sell or encumber his or her interest without the other’s consent. A tenancy by the entirety does not — both spouses must agree before the property can be alienated. Albrecht’s rights were materially reduced by the re-deeding, not just re-labeled. And the rights of his individual creditors — who could have reached his joint tenancy interest before the deed — were extinguished. The dual reduction of the debtor’s and creditor’s rights constituted a transfer under the Bankruptcy Code.
Was There a Constructive Fraudulent Transfer?
Having established that a transfer occurred, the court turned to whether it was fraudulent. The Bankruptcy Code recognizes two types of fraudulent transfers – constructive and actual. Constructive fraud does not require proof of bad intent. It only requires that an insolvent debtor transferred property for less than reasonably equivalent value — the debtor gave more than he got.
Albrecht and Moore argued that the re-deeding was an equal exchange — he gave a joint tenancy interest and received a tenancy by the entirety interest of the same value. What he gave, he also got back.
In rejecting this argument, the court pointed out that the question of reasonably equivalent value is measured from the perspective of creditors and the bankruptcy estate, not the debtor personally. The test is whether the debtor’s unsecured creditors were worse off after the transfer than before. Here, they were. Before the deed, they could have reached Albrecht’s half of the home. After, it became untouchable.
In many constructive fraud cases, “reasonably equivalent value” can be subject to dispute, since value generally does not have to be a one-for-one exchange. This case was easy because Moore gave, and the estate received, nothing of value, making the re-deeding constructively fraudulent as a matter of law.
Was There an Actual Fraudulent Transfer?
The court also found actual fraudulent intent — that Albrecht acted to hinder, delay, or defraud creditors. Because debtors rarely confess to this intent, courts rely on a laundry list of factors known as badges of fraud.
Many badges of fraud were present:
- The transfer was to an insider (a spouse, married just one day before)
- The debtor retained possession and control of the property after the transfer
- The transfer represented substantially all of the debtor’s non-exempt assets
- The debtor was insolvent at the time of the transfer
- The debtor received less than reasonably equivalent value.
These factors created a presumption of fraudulent intent, shifting the burden to Albrecht and Moore to provide a legitimate reason for the transaction. They could not. They argued that they acted on advice of counsel and did not conceal the transfer. The court found this unpersuasive. Relying on a lawyer’s advice does not cleanse a transfer made to make an otherwise exposed asset unavailable to creditors.
The Limits of Marital and Estate Planning
Individuals contemplating bankruptcy can engage in pre-bankruptcy planning – within limits. Albrecht’s actions went beyond fair play and were designed to deny his bankruptcy estate (and creditors) of its one meaningful asset.
If you are a lender or special assets officer, this decision is noteworthy for several reasons. First, in Chapter 7, if you are an unsecured creditor, the Trustee is working for you. He or she will scrutinize transactions – particularly real property transfers – that occur in the shadow of bankruptcy. Depending on the case, the Trustee’s “look-back” period can range from two to 10 years. Trustees are natural allies and you can — and should — bring suspicious transactions to their attention.
Second, when it comes to reasonably equivalent value, the relevant question is not whether the debtor received something of equal value — it is whether the unsecured creditors and the estate were made worse off by the transaction. A transfer that leaves the debtor no poorer but leaves the estate with nothing to distribute is exactly the type of transaction avoidance law is designed to reach. In more complicated scenarios, remember to focus on what the estate should have received in exchange for the transfer.
Third, because smoking-gun emails like “Let’s do this to stick it to my creditors” are rare, badges of fraud matter. No single badge is decisive, but the presence of multiple badges — particularly transfers to insiders, right before filing, of substantially all assets, for less than fair value — creates a presumption of fraud that a debtor must rebut with a legitimate business reason.
In the end, the newlyweds were able to have and to hold each other by the decree of the officiant, but they could not have and hold the Raleigh house as tenants by the entirety by the order of the bankruptcy court.
