An entire blog could be devoted to the intersection of Bankruptcy and divorce, but for this post we will look at what happens when a divorce decree (or final settlement agreement) requires that one of the spouses transfer his or her interest in real property to the other spouse, but before the actual transfer is executed and recorded in the county real estate records one of the (now former) spouses files a Bankruptcy petition. I have had two recent cases in which this scenario came up. Keep in mind, this is a cautionary example rather than a detailed treatise.
As an example, assume that Husband and Wife are co-owners of the marital residence, and the Decree requires that the Husband transfer his one-half, undivided interest in the property to the Wife within “xx days” of the date of the entry of the Decree. However, before the Husband transfers his interest and a deed is recorded, he files a Chapter 7 Bankruptcy case. The Trustee, in the position of bona fide purchaser for value, without notice of the Wife’s interest in the property via the Decree, takes priority. If there is sufficient equity in the property, the Trustee will probably sell it for the benefit of creditors or settle with the Wife for the estate’s interest in the equity. In our example, if the property is sold, the Wife would be paid the proceeds for her one-half interest and half of the proceeds would be property of the estate. If the Husband was the sole owner of the residence before the Bankruptcy was filed, the estate may get all the proceeds and the Wife could lose what she believed was solely her home.
In In re Brannon, 584 B.R. 417 (Bankr. N.D. Ga. 2018), the Divorce Decree provided: “The marital home … is hereby awarded to the Husband … free and clear of any claim by the Wife.” While the Decree contemplated a conveyance of Wife’s one-half interest to Husband, she did not convey her interest to Husband before she filed a Chapter 7 Bankruptcy petition. The trustee filed a complaint to avoid any transfer of the debtor’s interest in the real property to the extent the divorce decree may have operated as a transfer of any interest of the debtor. In granting summary judgment to the trustee, Judge Hagenau held that any transfer of the debtor’s real property interest in the divorce decree was avoidable by the trustee pursuant to 11 U.S.C. §544(a)(3). Neither the Decree nor a lis pendens were recorded in the real estate records to give notice to the trustee of any interest of the debtor’s former spouse. Judge Hagenau rejected the argument of the Husband that he was the sole owner of the property pursuant to the Decree, finding that “even after a divorce court awards property to a spouse, that spouse’s rights may be preempted by a trustee in bankruptcy” (citing 1–7 Collier Family Law and the Bankruptcy Code P 7.06 (2017)). After noting that the Court had not previously considered the exact issue, and reviewing decisions of other jurisdictions, Judge Hagenau held that the “Chapter 7 trustee’s strong arm power defeats any unrecorded equitable interest in real estate the debtor’s spouse had prior to divorce.” The Decree was not recorded in the real property records, no lis pendens was filed and Husband did not identify any statute to indicate the Decree created any trust enforceable against a hypothetical lien holder. On the petition date, anyone who checked the Debtor/Wife’s title in the Property would have found the Wife holding title to the Property with Husband. There was no actual and no constructive notice to the trustee of Husband’s rights in the Decree.
The takeaway (mainly for domestic lawyers) is to make sure that any transfers of real property be fully executed AND RECORDED as soon as possible after the entry of the final decree. In a perfect world, it would be recorded contemporaneously with the entry of the Decree. At the very least, the spouse who is receiving the interest in the property should file a lis pendens or other notice, with a copy of the decree, in the county real estate records to give notice to the world. I recently reviewed a settlement agreement that gave the parties ten years to sell, refinance or convey to the other party their respective interests in two co-owned properties. Hopefully they both will file appropriate notices in the real estate records.
Scott Riddle’s practice focuses on bankruptcy and reorganization. Scott has represented businesses and other parties in Bankruptcy cases for over 30 years. You can contact Scott at 404-815-0164 or scott@scottriddlelaw.com. For more information, click here.