Who Gets the Debt?

Who Gets the Debt?

Bankruptcy and Divorce

Divorce can result in contentious fights over child custody, assets, and other emotional issues. But an increasingly common divorce issue in today’s economy is the allocation of marital debt between two spouses who are separating. California divorce laws provide for the allocation of both debt and assets to ensure that creditors’ rights are not impaired by a divorce. Many debtors turn to bankruptcy to help them begin building a fresh financial future – especially after the impact of a costly divorce. Learn more about how bankruptcy affects debt in divorce proceedings.

California Community Property Law

California – along with a handful of other states – has enacted community property laws. Such laws create a “community estate” that is formed upon marriage and dissolved upon divorce. All debts and assets that either spouse accrues during the marriage are presumed to be part of this community estate. During a divorce, the community estate is allocated equitably (though not necessarily equally) between the spouses.

There are exceptions to community property laws, and these can be used to enable a spouse to acquire property or take on debt in his or her own name. Inheritances and gifts are common examples of property which does not automatically become part of the community estate. Similarly, if a spouse purchases real estate or takes on a mortgage in his or her own name, this can overcome the presumption that the property or debt belongs to the community. Often, mortgage companies will require such a married person to take the title as “sole and separate property”, in order to ensure that the property does not become part of the community estate. However: most property and debt accrued during a marriage will ultimately become part of the community estate. This means that it must be allocated to one of the spouses (or apportioned between the spouses) during a divorce.

How Debt is Handled in Bankruptcy

Many debtors seek relief in the bankruptcy courts. Bankruptcy is a legal process by which debt is discharged, and the debtor no longer has any legal obligation to repay the creditor. Many divorcing spouses turn to bankruptcy in order to ease the financial burden of a divorce. The legal process of bankruptcy can complicate, but not stop, the legal process of divorce.

When a bankruptcy is filed, an automatic stay is enacted by the bankruptcy court. This prevents any named creditor from attempting to collect a debt while the bankruptcy case is pending. This also prevents other courts from determining matters related to the listed debt. In a divorce, for example, a family court may be unable to make property rulings and finalize the divorce until a pending bankruptcy petition is finalized by the bankruptcy court. This will not, however, stop the divorce from ultimately being granted. It is also important to know that the automatic stay does not prevent a family court from ordering support payments. The Huffington Post reports that alimony and child support are untouched by bankruptcy.

Divorce will be affected by both the timing and type of bankruptcy which has been filed. If a bankruptcy has been completed (and the debt successfully discharged) prior to a divorce being filed, then the debt no longer exists and does not need to be allocated in a divorce. If one spouse files for bankruptcy after the divorce is final, he or she may have to present the bankruptcy court with the divorce orders showing that the other spouse cannot be held legally responsible for the debt at issue. A Chapter 13 bankruptcy requires debtors to repay part of their debt on an agreed-upon payment plan which has been approved by the bankruptcy court. If debtors fail to do so after a divorce, their debt may not be discharged.

Razai & Nefulda is a legal practice devoted exclusively to family law. Call (714) 663-9900 to schedule a consultation in our Orange County office, or (949) 222-5381 for our Newport Beach office.