Do Bankruptcy and Debt Outlive You?


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Do Bankruptcy and Debt Outlive You?

Have you ever stopped to consider what would happen if you died bankrupt?  Obtain a general understanding of the different situations and how you may avoid placing an unnecessary burden on family and friends. 

Like most of us, at some point, you will give serious consideration to making end-of-life arrangements.

When you prepare your Will, for instance, you will probably appoint an Executor to manage the affairs of your estate. The Executor’s job is to identify and value your assets and sell them (if required), pay the debts of the deceased person and the expenses incurred by the Executor, then make a distribution to your beneficiaries in accordance with your Will.

Seems straightforward.   But have you ever stopped to consider what would happen if you died bankrupt, or before paying all your debts?

Many people avoid the question; others come to us looking for answers. We believe it’s important you have a general understanding of the situation, as a starting point.

Consider these scenarios:

1. Bankruptcy

If a bankrupt person dies before being discharged from bankruptcy, section 63 of the Bankruptcy Act 1966  (‘the Act’) provides that the administration of the bankrupt estate is to continue, so far as it is capable of being continued, as if the bankrupt person were still alive.

If a bankrupt has been named as a beneficiary in the Will of a living person (the benefactor), and is still bankrupt when the benefactor dies, any property (e.g. house, money) that is part of the bankrupt’s interest in the deceased estate becomes an asset in the beneficiary’s bankrupt estate. If the bequest to the bankrupt is in the form of income (dividends on shares, interest on term deposits, etc.) then, for a certain time period, the amount received by the bankrupt beneficiary during the period of bankruptcy, is added to any normal income when the trustee assesses liability for income contributions.

If the bankrupt is granted a ‘life tenancy’ of a property owned by the benefactor, the right to occupy the property is not an asset in the beneficiary’s bankrupt estate. The rental value of the property, however, is likewise added to any normal income when the trustee assesses liability for income contributions.

A benefactor is able to add a provision to a Will, stating that if the beneficiary is an undischarged bankrupt at the time of the benefactor’s death, then the original beneficiary’s entitlement will go to another beneficiary.

2. Insolvency and the Administration Order

In this scenario, there are three possibilities:

  1. The Executor of a debtor’s deceased estate ascertains that the deceased estate is insolvent, which mean the debts owed by the deceased at the date of death are greater than the assets in the estate. The Executor can make an application to the Court that the deceased estate be administered by a trustee under Part X1 of the Act.
  2. A creditor is owed money by a deceased debtor. The creditor presents a Creditor’s Petition to the Court for an order that the deceased estate be administered by a trustee under Part X1 of the Act.
  3. A creditor is owed money by a debtor. The creditor presents a Creditor’s Petition to the Court, which is an application to have the debtor made bankrupt by way of a Sequestration Order. The debtor dies, before the Court makes a Sequestration Order, the Court can still proceed to make an order that the deceased estate be administered by a trustee under Part X1 of the Act.

In these cases, the Federal Court or Federal Circuit Court can make an order, under Part XI of the Act, that the debtor’s deceased estate be administered by either a Registered Trustee or the Official Trustee, instead of by the Executor. This is generally known as an ‘Administration Order’.

‘Claw-back’ provisions, with certain modifications, apply to Part XI administrations. These enable the trustee to recover preference payments, under-value transfers of property, and transfers of property to defeat creditors carried out by the debtor prior to the death.

The Trustee’s Role

The trustee’s administration of the deceased estate generally involves the following tasks:

  • Investigating the financial affairs of the deceased debtor
  • Obtaining a Grant of Probate, if applicable
  • Identifying the assets that can be sold for the benefit of creditors
  • Selling those assets
  • Taking recovery action in respect of preference payments, under-value transfers and property transfers to defeat creditors (if applicable)
  • Determining the claims of creditors
  • Paying a dividend to the proven creditors

Paying of surplus funds to the Executor for distribution to the named beneficiaries in the Will of the deceased debtor. Clearly, the beneficiaries do not receive anything until such time as the creditors and the trustee’s remuneration and expenses have been paid in full.

What Happens to an Estate under an Administration Order?

The administration of the deceased estate by the trustee is similar to the administration of a bankrupt’s estate, but there are some obvious differences:

  • The income contribution regime does not apply; neither are ‘household property’ and a ‘necessary means of transport’ exempt from property divisible amongst creditors.

For example, if the Will made provision for a specific bequest to a beneficiary of a house or a motor vehicle, the beneficiary would not receive them. The trustee would sell them to obtain                   funds to pay the creditors of the deceased estate.

  • If the deceased debtor had life insurance policy and/or superannuation, the payments from the insurer and/or superannuation fund would not normally be paid to the trustee. This is because the insurance policy would include a provision that, on the death of the insured, the payment would be made to a named beneficiary, such as a spouse, partner or relative. Superannuation includes similar provisions.

And so the questions are answered. Bankruptcy continues beyond the grave, and debt doesn’t die when you do.

You can prevent these problems with careful preparation. Structure separate accounts, and make provision for payment of debt. Stay in control of your financial obligations wherever possible and seek advice when you need it. In that way, you will avoid placing an unnecessary burden on family and friends and leave them the legacy you would wish.

If you would like to speak to someone regarding your particular situation, please call dVT Group on 02 9633 3333 or email mail@dvtgroup.com.au.