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Asset Protection & Estate Planning - Why Not Have
* Copyright © 2011 Nelson & Nelson, P.A. The author also acknowledges as a comprehensive source of research materials a treatise entitled Florida Creditors’ Rights Manual published by Lexis Law Publishing. The assistance of Michael Sneeringer to update the 2011 version of this article is acknowledged and appreciated.
Table of Contents
Asset Protection & Estate Planning - Why Not Have Both?
Neither asset protection planning nor estate planning should be viewed as a discipline unto itself. In today’s litigious environment, practitioners should consider combining asset protection planning with each estate plan prepared for a client. After all, if our clients’ assets are lost to a catastrophic judgment, even the most sophisticated estate planning techniques are likely to be worthless. For a summary of some of the potential consequences (i.e., disciplinary actions, damages to creditors, fines and penalties) for failing to integrate asset protection goals with an overall estate plan. See Oshins, Family Wealth Protection and Preservation, 132 No.2 Trusts and Estates 38 (Feb. 1993); Spero, Asset Protection, Warren Gorham Lamont (2001, Supplemented through 2005), Chapter 2. In response to the question as to whether attorneys have a duty to advise clients to engage in asset protection planning, Spero states:
The necessity for asset protection planning has never been stronger. It is evident that liability can arise in many ways. Tax and/or contractual obligations, criminal and/or civil fines or penalties, domestic relations disputes and tort judgments (resulting from negligent or intentional behavior) are several of the most common ways liability may arise. However, what may not be quite so obvious is that liability can be imposed upon someone who did no wrong. These are situations involving either strict or vicarious liability (liability based on the acts of another person). Some of the more common situations that give rise to “fault-free” liability are described below:
A. Automobile Liability.
In Alamo Rent-A-Car, Inc. v. Clay, 586 So. 2d 394 (Fla. 3d DCA 1991), personal injury and wrongful death actions were brought against a car rental company (“Alamo”). The cause of action was predicated on Alamo being liable for the negligence of an individual who rented a car from Alamo. The individual fell asleep at the wheel and drove a car full with passengers into a canal. The Miami-Dade County Circuit Court found that Alamo was liable for the lessee’s negligence. Florida law has determined that an automobile is a “dangerous instrumentality.”
Accordingly, the owner (title-holder) of the car can be vicariously liable for the negligence of the driver (even though the owner was not negligent).
Consequently, under Florida law, anyone who loans his or her car to a relative or friend may be held liable for the negligence of the driver. Is it worth the risk?
Strict liability applies to the owner of the car; it is not limited to cars owned by rental or leasing companies. For example, if John lends his car to his wife, Sally, and Sally negligently hits and injures Doris, the injured party (“Doris”) can assert liability against both Sally (as the negligent driver) and John (as the owner of the car). Since John and Sally are husband and wife, the liability that is imposed upon John (as well as Sally) would allow Doris to reach assets that are held by John and Sally as tenants-by-the-entirety, other than their Florida homestead, which would otherwise be protected if only one spouse was liable.
The 2005 Federal Highway Bill, signed into law by President Bush, included a “tort reform” provision that eliminated vicarious liability laws (such as the strict liability that caused liability in the Alamo case above) that otherwise applied to auto rental and leasing corporations. The federal law preempts state laws that otherwise subjected rental and leasing companies to liability for injuries caused by negligent drivers even if there was no negligence or wrong doing on the part of the vehicle owner. However, the new law does not appear to apply to individual owners of vehicles that let another person use the vehicle (i.e., if there is no lease from a rental or leasing company). Accordingly, it appears that individuals in Florida who loan their auto or other vehicle to a friend continue to be liable for damages caused by the driver while the rental and leasing companies are most likely immune from such liability (assuming they follow certain procedures) after the August 10th enactment of the 2005 Federal Highway Bill.
While individual owners of vehicles still remain liable for damages caused by the driver, Florida law does provide limitations on the liability of individuals who loan their car to other persons. Florida Statute § 324.021(9)(b)(3) limits the liability of owners to $100,000 per person and $50,000 in property damage and $300,000 in bodily injury per incident. This limit, however, is increased up to an additional $500,000 in economic damages if the driver of the vehicle is uninsured or has insurance with a combined property damage and bodily injury limit less than $500,000. In addition, the statute does not limit the liability of owners for his or her personal negligence. Id.
B. Situations Where Liability May Arise.
1. As an owner of real property, including as a landlord, for injuries that occur on the property. This is true even if the owner is merely using the property as an investment.
2. As a homeowner for accidents that occur around the home (including injuries to workmen paid to work on your home).
3. Damages caused by someone for whom the law deems you responsible (e.g., employees, children, subcontractor, joint-tenant and partner).
4. Negligence as an officer or director of a company for improper oversight.
5. Professional malpractice, although mistakes are inevitable, juries often view the professional as the “deep pocket.”
6. Marital dissolution obligations.
7. Environmental “Superfund” and other regulatory obligations.
8. Contractual exposure, such as personal and business loan guaranties.
III. PLAN DEFENSIVELY
A. Limit Exposure.
Among the ways which individuals are limiting their exposure in today’s legal environment are:
1. Foregoing certain real estate and other investments that may not be worth the associated risks.
2. Exercising extra scrutiny in employing associates and employees.
3. Refusing to loan automobiles, boats or other vehicles in light of the Alamo decision, and not titling automobiles or other vehicles in joint names.
4. Structuring investments in such a manner so as to limit exposure.
5. Providing for disclaimers or requirements of indemnification in contracts.
6. Pre and Post Nuptial Agreements.
B. Use Insurance.
Although insurance does not eliminate liability, it does provide a source of funds to satisfy claim and pay for legal defense. Therefore, it is crucial to review insurance coverage to be certain that it is adequate. Personal liability umbrellas are relatively inexpensive and are a must. For a wonderful article discussing the importance of umbrella insurance, see Gail Liberman, The Big Hole In Most Financial Plans, FINANCIAL PLANNING MAGAZINE, May 2002. However, when obtaining liability coverage, policyholders should be aware of exclusions. For example, some policies exclude coverage for sexual harassment claims. Automobile coverage should be reviewed to insure that it is sufficient. Additionally, individuals who are either general partners or joint venturers or who hold property as either joint tenants or as tenants in common must be certain that the property is adequately insured. Accordingly, in order to limit exposure from litigation claims they should consider structuring the ownership of such investments through limited partnerships, corporations or limited liability companies.
Florida law provides many techniques for asset protection planning. Trusts and other business entities created outside the State of Florida also warrant consideration. A summary of many of the most frequently used exemptions and asset protection techniques are described below. While this outline emphasizes Florida exemptions, many of the planning techniques described herein may also apply in other states based upon the laws of such state where the potential debtor is domiciled. There are a number of treatises that summarize exemptions throughout the country. One such summary is included at www.assetprotectionbook.com. It is difficult, however to keep up with this ever evolving area of the law and the asset protection book website states: “We make no guarantees to the accuracy of the information herein and you should not rely on it. Even professionals who use this information must independently verify whether it is correct and current.” Since each state has its own statutes an attorney who has a practice emphasizing estate and asset protection in the state where the potential debtor is domiciled should be consulted.
Many sections of this outline are affected by the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (the “2005 Bankruptcy Act”). The November, 2005 Florida Bar Journal contains a number of articles addressing how the 2005 Bankruptcy Act affects issues such as homestead, domicile and qualified pension and profit sharing plans and IRAs. Several of these articles are included in this outline. See Exhibits A-E.
“It has been said by those who labor in the area, that ‘the leading cause of cerebral herniation among probate lawyers, real estate lawyers, circuit court judges sitting in probate, and appellate judges reviewing their work, is the study of the legal chameleon, also known as homestead.’” Cutler v. Cutler In re: The Estate of Edith Alice Cutler, 32 Fla. L. Weekly D 583 (Fla. 3d DCA Feb. 28, 2007) (citing Brief of Real Property Probate & Trust Law Section of the Florida Bar, as Amicus Curiae, McKean v. Warburton, 919 So. 2d 341 (Fla. 2004).
1. “As the Florida Supreme Court noted in Snyder v. Davis, 699, So. 2d 999, 1001-02 (Fla. 1997), there are three kinds of homestead with one purpose: preserving the family home for its owner and heirs. The first kind…provides homestead with an exemption from taxes. See Art. VII, § 6, Fla. Const. The second protects homestead from forced sale by creditors. Art. X, §4(a)-(b), Fla. Const. The third delineates the restrictions a homestead owner faces when attempting to alienate or devise homestead property. Art. X, § 4(c) Fla. Const.” Cutler, 32 Fla. L. Weekly D 583, *5.
2. Constitutional Protection. Article X, § 4 of the Florida Constitution provides as follows:
These exemptions shall inure to the surviving spouse or heirs of the owner. Similarly, the exemptions shall apply equally to individual creditors and governmental agencies. For example, in Fong v. Town of Bay Harbor Islands, 864 So.2d 76 (Fla. 3d DCA 2003), Defendant successfully appealed the Town’s imposition of a lien on her homestead for failure to pay continuing code violations. The Appellate Court noted that the Article X, Section 4 homestead exemption found in the Florida Constitution “specifically provides, it applies alike to invalidate both a ‘forced sale,’ or as here, the simple imposition of a ‘lien’ on homestead property.”
In Florida, there is no dollar limitation on the homestead exemption, even in the event of a bankruptcy, if the provisions of the 2005 Bankruptcy Act and the following other Florida law requirements are satisfied. For example, a ten million dollar residence on a 1/2 acre ocean-front property could qualify for complete homestead protection under Florida’s Constitution.
3. Constitutional Exceptions. The Florida Constitution provides three exceptions whereby the homestead is subject to a forced sale for:
4. Purpose of the Exemption. Various courts have commented on the purpose of the homestead exemption for asset protection. In Public Health Trust of Dade County v. Lopez, 531 So. 2d 946, 948 (Fla. 1988), aff’d 509 So. 2d 1286 (Fla. 3d DCA 1987), the court stated that the purpose of thehomestead law is to promote the stability and welfare of the state by securing to the householder a home, so that the homeowner … may live beyond the reach of financial misfortune. Similarly, in Orange Brevard Plumbing & Heating Co. v. La Croix, 137 So. 2d 201, 204 (Fla. 1962), the court said that the purpose of the homestead law “is to benefit the debtor by securing his or her homestead beyond all liability from forced sale under process of any court.” Numerous cases have held that the homestead exemption laws should be liberally applied to the end that the family shall have shelter and shall not be reduced to absolute destitution. See also Hospital Affiliates of Florida, Inc. v. McElroy, 393 So. 2d 25 (Fla. 3d DCA 1981), where the court stated that the purpose of the homestead exemption is to protect the family home from forced sale for debts of the owner and head of the family.
5. Case Law Interpreting Homestead Exemption – Qualification Limitations. Essentially, there are three significant limitations to qualify for the homestead exemption that have been further interpreted by the courts. These limitations include an acreage limitation, an ownership limitation and a residency limitation. Of course Florida’s constitutional homestead protection only applies to property located in Florida. In re Sanders, 72 B.R. 124, 125 (Bankr. M.D. Fla. 1987).
a. Acreage Limitation. Florida’s Constitution provides protection from forced sale and liens resulting from judgment, decree or execution. Such protection is limited to the extent of: (i) 160 acres of contiguous land and improvements thereon as to a homestead located outside of a municipality, and (ii) one-half acre of contiguous land as to a homestead located within a municipality. The acreage limitation may not be reduced without the owner’s consent by reason of subsequent inclusion in a municipality. The exemption is limited to the residence of the owner or his family.
The acreage limitation is measured at the time of the petition for bankruptcy, not at the time of the purchase. In In re Mohammed, 376 B.R. 38 (Bankr. S.D. Fla. 2007), the Trustee under Chapter 7 challenged the debtors’ entitlement to homestead exemption on an undeveloped lot adjacent to the debtors’ undisputed homestead.
The two adjacent lots, one of which had their residential home and the other of which they used as their backyard were claimed as the debtor’s homestead property. It was undisputed that the total area of the two lots, located in unincorporated Miami-Dade County, were less then 160 acres and appeared to take up less than one half acre. In determining whether a home, contiguous land, and improvements are entitled to homestead protection, Florida Courts look at two criteria; “(1) how much property is involved, and (2) for what purpose is the property being used.” The Trustee had the burden of proving by a preponderance of the evidence that the claim of exemption was invalid. The Court held that the debtors could claim the adjacent undeveloped lot as part of their homestead because it fell within the allowable acreage limitations and was not used for a business purpose at the time of filing. In addition, the Court held that while the debtors did not purchase the two properties at the same time, the only relevant time for determining the debtors’ entitlement to homestead exemption was the petition date. Thus, the debtors’ were allowed to exempt the entire two lots as their homestead.
In more recent cases, the courts have discussed the apportionment of land when a property exceeds the acreage limitations. In April, 1997, the United States Supreme Court denied certiorari in the case of Englander v. Mills (In re Englander), 95 F.3d 1028 (11th Cir. 1996). The Court of Appeals affirmed the Bankruptcy Court to the extent it ordered the sale of homestead property and an apportionment of the proceeds derived therefrom when the property (i) exceeded the area restrictions of the homestead provision, and (ii) could not be practically or legally subdivided. The debtor in Englander owned a home on approximately one acre within a municipality. The debtors had not only delayed the disclosure procedures of the court, but had also provided an inaccurate size of the homestead property. Moreover, once the debtors admitted the actual size of the land, the debtors claimed a homestead exemption for a portion of the property that surrounded the non-exempt portion, eliminating any reasonable access to the non-exempt portion and rendering it valueless. The court, in reaching its conclusion stated that the debtors had acted in bad faith. Accordingly, it determined that the homestead designation was improper, ordered the sale of the homestead property and an allocation of the proceeds.
Similarly, the court in In re Quraeshi, 289 B.R. 240 (Bankr. S.D. Fla. 2002), ordered the proceeds of a homestead that exceeded the limitations to be allocated between the debtor and the creditor. In that case, the debtor’s homestead was 2.69 acres located within a municipality. Debtor claimed his residence as a homestead exemption. When debtor filed a motion seeking permission to sell the homestead, the Trustee filed an objection to the debtor’s claim of exemption on the grounds that the Florida Constitution, Art. X, Section 4 states that a homestead cannot exceed one-half acre in a municipality. The parties agreed that the residence was indivisible.
The Trustee’s objection was sustained and it was found that ½ acre would equate to 19% of the total acreage, and, thus, the debtor was entitled to 19% of the proceeds. Debtor filed an appeal challenging the Bankruptcy Court’s method by which it calculated the 19%. Debtor alleged he was entitled to 19% of the gross sales price, rather than 19% of the net sale price (i.e., the gross sales price less mortgages, tax liens and the like). The debtor petitioned the court during a Chapter 7 Bankruptcy proceeding to sell his home. The home was sold for $760,000 and after paying off first and second mortgages and closing expenses, $216,000 remained. Debtor’s position was that he should receive 19% of gross proceeds of $760,000, rather than of net proceeds of $216,000.
The Court stated that there was no case law in the Eleventh Circuit or in Florida on point; thus, it would have to examine the plain language of the Florida Constitution. The Court found that the homestead provision “specifically excludes a small number of debts – mortgages, real property taxes, repairs to improve the land – that are connected to the real property. … Based on the language of the homestead provision, it would seem that a debtor’s homestead exemption would extend to a pro rata portion of the net proceeds of a sale of a debtor’s property, based on his acreage share of the property sold, rather than on a pro rata portion of the gross sales price.” As a result, the court determined that the gross sales proceeds had to be used to pay off the excluded liens before any portion of the proceeds could be considered debtor’s homestead. The opinion also stated that a debtor is entitled to claim any contiguous ½ acre portion of the parcel as exempt as long as the remaining portion has legal and practical use. However, it concluded such was not the case.
Observation. This case is the first reported case addressing how assets should be apportioned where the acreage exceeds ½ acre within a municipality and the property cannot be partitioned into a homestead – exempt one-half acre (on which the debtor would presumably continue to reside) and a remaining non-exempt portion. The case not only reduces the amount retained by a debtor as a result of the “net proceeds” allocation, but it also precludes the debtor from taking the position that the value of the actual residence on less than ½ acre can be apportioned to the debtor with the value of the land in excess of ½ acre apportioned on a pro-rata basis. Such an allocation would be far more advantageous to a debtor.
b. Residency Requirement. There have been a number of cases interpreting the residency requirement to obtain the benefit of the homestead exemption. The cases address whether the person claiming the exemption must have legal immigration status and when a person obtains the requisite intent to have a home qualify as his or her homestead. They also address whether the person claiming homestead must live in the residence or whether the fact that the residence is used by the family of the owner is sufficient to qualify for the homestead exemption. The cases also consider abandonment of homestead. For a summary of cases that address whether a person has established Florida Domicile see Jerome L. Wolf, The Importance of Domicile in Asset Preservation Planning, 79 No. 10 FLA. BAR J. 30 (Nov. 2005).
i. Legal Status of Debtor.
(1) In re Cooke, 412 So. 2d 340 (Fla. 1982). In In re Cooke the Florida Supreme Court denied homestead protection to a tourist because it found that a tourist could not legally formulate the requisite intent to make a Florida residence his homestead. Similarly, the court in In re Bermudez, 6 Fla. L. Weekly Fed. B 84 (Bankr. S.D. Fla. Apr. 14, 1992) held that an alien debtor could only satisfy the permanent residency requirement if the debtor had received a permanent visa or “green card.” Accordingly in In re Boone, 134 B.R. 979, 981 (Bankr. M.D. Fla. 1991), the Bankruptcy Court held that a non-citizen of the United States, who had failed to maintain her U.S. visa status and had lost the right to remain in the U.S. at the time she filed for bankruptcy, was not a resident of Florida for purposes of claiming the homestead exemption. In addition, in Dequervain v. Desquin, 927 So. 2d 232 (Fla. 2d DCA 2006), the Court ruled that homeowners who held only temporary visas could not form the requisite intent to become permanent residents required for the homestead exemption. The couple had immigrated to Florida from Switzerland five years prior, had obtained social security numbers and drivers’ licenses, paid federal income tax, had filed a Declaration of Domicile, and their applications for permanent resident status were pending. The Court, however, determined that Florida law did not allow persons with temporary visas to be considered “permanent residents.” Thus, the homestead exemption was not allowed.
(2) Ruff v. Dixson, 153 B.R. 594 (Bankr. M.D. Fla. 1993)(reversed on other grounds). Ruff v. Dixson held prior to a debtor claiming Florida homestead in a bankruptcy proceeding, he must have been a Florida resident or domiciliary for the greater portion of the 180 days preceding the filing of the bankruptcy petition. Note that based upon the 2005 Bankruptcy Act, the 180 day requirement has been replaced with the 730 day and 1215 day requirements described in Exhibit B and Exhibit C to take advantage of Florida’s homestead law.
(3) It should be noted that the courts see a distinction between residence and domicile, thus a debtor may receive the benefit of Florida exemptions without being in an actual Florida residence to satisfy the 180 day (730 days after the 2005 Bankruptcy Act)-requirement. The debtor in In re Dwyer, 305 B.R. 582 (Bankr. M.D. Fla. 2004) was able to claim Florida domicile and thus exempt personal property from his creditors although he was not physically located in Florida for the majority of 180 days preceding the bankruptcy filing as required by the Bankruptcy Code then in effect in order to claim exemptions under state law. The bankruptcy court distinguished between actual residence and domicile in holding that domicile is defined as “the permanent residence of a person or the place to which he intends to return even though he may actually reside elsewhere … his home, as distinguished from a place to which business or please may temporarily call him.” The debtor in this case at all times considered himself to be a Floridian; he was registered to vote in Florida and at all times held a Florida driver’s license without ever obtaining another license in other states where he was employed from time to time.
(4) Morad v. Xifaras, 323 B.R. 818 (B.A.P. 1st Cir. 2005). In Morad v. Xifaras, the court ruled debtor, a Massachusetts attorney who represented the creditor, had not moved to Florida 180 days prior to bankruptcy filing. Note as a result of the 2005 Bankruptcy Act the new time requirement is 730 days. The attorney owed his former client $550,000. The factors referred to in Morad for determining whether Florida domicile was established are as follows:
The Morad opinion states that courts do not simply perform a mathematical test of adding days of physical presence to determine domicile. Rather, domicile means presence plus present interest to remain. When a person has more than one residence, intent is particularly relevant. Intent is established by considering all circumstances, including the conduct and statements of the person whose domicile is questioned.
Although not mentioned in Morad, equally important in Florida is filing a Declaration of Domicile and applying for Florida Homestead at local property assessor’s office. See Exhibit E for a summary of steps to make Florida your Domicile.
(5) In re Schwarz, 362 B.R. 532 (Bankr. S.D. Fla. 2007). In In re Schwarz, the Court determined that the 730 day limitation provided in BAPCPA did not apply to an exemption for tenants by the entirety property for a Florida domiciliary. In this case, the debtor and his wife purchased their home on April 20, 2006 as tenants by the entirety and filed a Chapter 7 petition on July 21, 2006, claiming his current residence as exempt. The residence had a fair market value of $410,000 and a mortgage of $328,000; thus, $82,000 was claimed as exempt. Prior to owning his current home, the debtor owned a home in Miramar and before that, in Montgomery, Maryland, where the debtor had moved from in July of 2002. Because the debtor had not lived in Florida for the 730 days as required under BAPCPA, he was unable to use the Florida homestead exemption. The debtor conceded this fact; however, claimed that his home should be exempt because it was owned with his wife under Florida law as tenants by the entirety. The Court determined that § 522 (b)(3)(B) exempts property if the debtor had “any interest in property immediately before the commencement of the case” that was exempt under applicable nonbankruptcy law. The Court determined; (i) that under Florida common law, tenants by the entirety property was exempt so long as the debt was not a joint debt of the husband and wife, and (ii) there was no fraudulent conveyance into the property. It also stated that, in Florida, real property owned by a Florida-domiciled debtor is exempt from administration regardless of when the debtor became a Florida domiciliary. Because the Court did not place a time limitation in § 522(b)(3)(B) like in the homestead provision and there was no legislative history indicating that Congress intended to have the 730 day limitation apply to this section, the limitation would not apply to tenants by the entirety property. There was no assertion that there was a fraudulent conveyance. Judge John K. Olson stated, “Congress determined to leave wholly intact the preexisting blanket exemption available to debtors who own property in a tenancy by the entireties form if applicable nonbankruptcy law would exempt that property from process.” Thus, the equity in the home was exempt under Florida nonbankruptcy law. It is interesting that the debtor first occupied the residence 5 days after he filed his bankruptcy petition, yet the court looked instead to whether the date of the warranty deed was prior to the bankruptcy petition. In fact, the deed was dated three months prior to the petition filing and the court concluded that debtor held the tenancy by the entireties interest “immediately before the commencement of the case” and therefore satisfied the exempt property provisions under the Bankruptcy Code § 522(b)(3)(B).
(6) In addition, in the January 2007 decision in In re Buonopane, discussed below, the Bankruptcy Court for the Middle District of Florida ruled similarly. NOTE: Both In re Schwartz and In re Buonopane were issued on January 26, 2007.
(7) In re Zolnierowicz, 380 B.R. 84 (Bankr. M.D. Fla. 2007). In In re Zolnierowicz, the Court followed the holding in In re Schwarz, above. In this case, an Illinois debtor moved to a condominium in Florida, which was purchased over ten years prior. The debtor filed for bankruptcy within 730 days of moving into the Florida home. The Court determined that the 730 day requirement was limited only to § 522 (b)(3)(A) of the Bankruptcy Code and that the debtor’s claim of tenants by the entireties exemption, made under § 522(b)(3)(B), was not controlled by the 730 day pre-filing requirement. Citing In re Schwarz, the Court concluded “that Florida Real Property owned by a Florida-domiciled debtor is exempt from administration as property of the estate regardless of when the debtor became a Florida domiciliary if the debtor had, immediately before the commencement of the case, an interest in that property held as tenants by the entireties with a spouse.” Thus, the property, which was owned as tenants by the entireties, was exempt from the claims of the debtor regardless of whether the debtor had satisfied the 730 day requirement.
(8) In re Cauley, 374 B.R. 311 (Bankr. M.D. Fla. 2007). In In re Cauley, the Court extended the tenants by the entireties protection to nonresidents of Florida. In this case, the Court ruled that the debtor’s interest in Florida real estate held as tenants by the entireties was exempt in bankruptcy even if the debtor was not a Florida resident. Debtor and his wife purchased a home in Florida and lived there from April 2005 to July 2005. Debtor filed chapter 7 September 2006 at which time he was living in Delaware; however, because the debtor had not lived in any state for 730 days prior to filing for bankruptcy, he was required to use the exemptions in the state in which he resided for the greater part of 180 days or 6 months prior to the 730 day period before the date of filing chapter 7. Debtor lived in Alabama for this time period and therefore Alabama law was used. The debtor claimed that the Florida real property was exempt because it was held as tenants by the entireties and the Bankruptcy trustee objected, claiming that the tenants by the entirety protection was only valid if the debtor was a resident of Florida. The Court did not find any authority to support the proposition that an individual claiming Florida real property exempt as tenancy by the entireties must be a resident of Florida. It ruled that there was no requirement to be a resident of Florida in order to exempt the property under tenants by the entirety as the property was exempt under nonbankruptcy law. It is important to note that, while the debtor was not a Florida resident, he was able to file a petition for bankruptcy in the state of Florida because “Section 1408 of Chapter 28 of the United States Code provides that a bankruptcy case ‘may be commenced in the district court for the district…in which principal assets of the person that is the subject of the case have been located for the one hundred and eighty days immediately preceding the commencement…[of the case].” In this case, because venue was not raised by the Trustee and because venue is presumed proper unless objected to in a bankruptcy case, the Court declined to address this issue.
(9) In re Jevne, 387 B.R. 301 (Bankr. S.D. Fla 2008). In In re Jevne, the debtors, were domiciled in Rhode Island from September 1994 to July 6, 2006. In June of 2006, the debtors bought a home in Florida and subsequently moved there. In October of 2007, the debtors filed for Bankruptcy, listing the Florida property at $292,500, claiming the property as exempt under Rhode Island homestead law, which provides for a $300,000 exemption. Because the debtors had not resided in Florida for the 730 day pre-filing period, they could not utilize Florida’s exemptions. (see 11 U.S.C. § 522(b)(3)(A)). Under the BAPCPA, if the debtor is not located at a single location for 730 days, the debtor’s state where he or she was domiciled for the longest portion of the 180 days prior to the 730 day period (in the debtor’s case here, Rhode Island) would provide the applicable state exemption law. In addition, BAPCPA does not amend the previous requirements for venue in bankruptcy cases, leaving the determination of venue to the debtor’s place of residence for the 180 day period prior to filing bankruptcy (in this case, Florida). Thus, the Florida Court was asked to interpret Rhode Island law to determine whether that state’s homestead exemption should apply to the Florida debtors. The Court established a process for determining whether or not an extraterritorial state’s exemption should apply to a Florida debtor: (i) First, the Court must determine whether the statute’s plain language explicitly limits its application to property outside of the state (this is the case in Alaska and Colorado); (ii) Next, if the statute does not limit application, the Court should look to whether a court in that state has construed the law to have extraterritorial effect (i.e. Florida courts have interpreted the Florida constitutional exemption to require that the property being claimed as exempt be located in Florida); (iii) Finally, if there is no case law determining whether the homestead protection should have extraterritorial effect, the Court must interpret whether that state’s law should apply extraterritorially taking into account the policy of liberally construing bankruptcy exemptions in the debtor’s favor. Because Rhode Island’s statute was silent as to extraterritorial effect and there was no case law interpreting the statute to limit its extraterritorial effect, the Court concluded that Rhode Island’s exemption should apply in this case and the debtor’s homestead remained exempt.
ii. Living on the Property for which Homestead is Sought.
(1) Florida trial courts and federal bankruptcy courts have each permitted Husband and Wife, if married and living in separate homes, to claim homestead status in separate homes.
(i) In re Russell, 60 B.R. 190 (Bankr. M.D. Fla. 1986), held that in the context of a bankruptcy after spouses separated, each would be able to claim homestead in a home even though the net effect would be to exempt two homesteads where both had filed separate bankruptcies. (Is this a planning opportunity?) The 11th Circuit Court of Appeals had the opportunity to revisit this issue and in In re Colwell, 196 F.3d 1225 (11th Cir. 1999), held that a married couple living in separate residences could each claim homestead exemption. The debtors had lived in separate residences for more than three years prior to their respective bankruptcy petitions and the court found that there was no showing of fraudulent intent behind their marital separation.
(ii) The Florida District Court of Appeals for the Fourth District held in Law v. Law, 738 So. 2d 522 (Fla. 4th DCA 1999), that the husband was able to obtain homestead status in property which he had inherited from his mother in spite of the fact that he and his second wife owned a separate home as tenants-by-the-entirety. The court found that husband and his second wife were separated. Additionally, husband and his minor great-grandson for whom he was the legal guardian permanently resided in the mother’s home for approximately two years prior to its being sold.
The court recognized that it was addressing an issue of first impression in a nonbankruptcy setting. It said that it saw “nothing inconsistent with our public policy if we extend a homestead exemption to each of two people who are married, but legitimately live apart in separate residences, if they otherwise meet the requirements of the exemption.” Legitimately living apart would be satisfied so long as there was no fraudulent or otherwise egregious act by the beneficiary of the homestead exemption.
(iii) The court in In re Laing, 329 B.R. 761 (M.D. Fla. 2005) (reversed and remanded for rehearing solely on issues unrelated to homestead, see Arnstein & Lehr, LLP v. Tardif (In re Laing), 2007 U.S. Dist. LEXIS 92528 (M.D. Fla. Dec. 17, 2007), also allowed a debtor to claim homestead exemption on his home in Florida, even though his wife maintained a second home in California. The court stated that the separation of spouses is of no significance in determining a debtor’s ability to claim homestead as long as each spouse meets the requirements of the exemption.
(iv) Further, Law was followed in Wells v. Haldeos, 48 So. 3d 85 (Fla. 2d DCA 2010). There, the husband and wife had been separated since 2003, and the husband owned and permanently resided on property in Florida since 2005, while the wife owned and permanently resided on property in New York. The wife received the New York property tax exemption, and in reliance to this, the Property Appraiser of Pasco County denied the husband’s homestead exemption in Florida. The appraiser argued that since Article VII § 6 (b) of the Florida Constitution directs that only one exemption is allowed to individuals or family unit, the husband and wife as legally married constituted a family unit, entitled to only one exemption. In affirming the lower court’s judgment that the husband was entitled to receive a homestead tax exemption, the court noted that it would “defy logic for two people ‘who have no contacted with one another, who don’t have any connections of a financial, emotional or any other way to call them a family unit.’” Id. at 86. Importantly, the court noted that the husband and wife had established two separate residences in good faith, and that neither relied upon the other financially.
(2) Homestead protection has been granted for property from which the debtor not only lived but also worked. An owner’s use of the homestead for income-producing activity (i.e., a palm grove where owner sold palm trees from time to time) should not be per se a basis for denying the homestead exemption. In re McLachlan, 266 B.R. 220 (Bankr. M.D. Fla. 2001).
iii. Intent to Reside on Property for which Homestead is Sought.
(1) In determining whether the house is actually the homestead, the courts have considered whether there is intent to make the property the permanent residence and whether the property is actually occupied. Accordingly, a home under construction or a vacant lot generally should not qualify as homestead. This issue appears to have been resolved in the 1882 case of Drucker v. Rosenstein, 19 Fla. 191 (1882), where the court held that a piece of land, never occupied as a dwelling place or home, and incapable of such occupancy, is not homestead under the Florida Constitution. The Drucker opinion stated that “[a] bare lot unoccupied cannot be a homestead. Lumber placed upon it for the purpose of building is not such occupancy, even though there may be a contract made for building.”
(2) In re Estate of Ritter, 407 So. 2d 386 (Fla. 3d DCA 1981). The court in In re Estate of Ritter, determined that a vacant lot owned by the debtor and adjoining his homestead was not part of the debtor’s homestead property. The court reasoned “[the lot] at no time had any structures or improvements built upon it which served the residence … and was never jointly fenced in with the [residence]. It was merely a separate, empty lot which served, at best, as an excess side yard to the aforementioned residence.”
(3) In re John Richards Homes Building Co., LLC, 298 B.R. 591, (E.D. Mich. 2003). In In re John Richards Homes Building Co., LLC, the court held that the debtor did not intend to reside in Florida permanently, and therefore, was not entitled to claim Florida homestead exemption. On April 25, 2003 the court entered a judgment of more than $6 million against the debtor, a Michigan resident. Shortly thereafter, the debtor liquidated his assets in Michigan to purchase a $2.8 million Florida home.
The contract was signed May 6, 2003 and closed May 8. The factors considered were: (1) Personal property was not moved to Florida, but instead placed in storage in Michigan; (2) debtor only executed a six-month lease in Florida for his business and maintained his Michigan office; (3) debtor’s girlfriend, who he intended to marry, testified that she had no plans to move to Florida; (4) debtor’s Michigan home was not listed for sale; (5) debtor’s actions in filing a declaration of domicile and changing his driver’s license were self-serving.
iv. Properties Eligible for Homestead Status.
(1) In Miami Country Day Sch. v. Bakst, 641 So. 2d 467 (Fla. 3d DCA 1994), the court held that a houseboat occupied by its owner, even if situated on leased property, qualified as homestead where the houseboat was held to be the owner’s “dwelling house.” Similarly, In re Mead, 255 B.R. 80 (Bankr. S.D. Fla. 2000), the court allowed a debtor to claim a 34 foot cabin cruiser as his homestead. But note, In re Christie, 2003 Bankr. LEXIS 26 (Bankr. M.D. Fla. Jan. 22, 2003), where the court held that a 38-foot powerboat on which the debtors lived could not qualify for homestead protection. To bolster its position the court summarized several cases in the Middle District of Florida holding similarly and added that the only case holding contrary was in the Southern District of Florida. There also appears to be disagreement as to whether boats can qualify for the homestead exemption if the boat is really a mode of transportation. See, In re Brissont, 250 B.R. 413 (Bankr. M.D. Fla. 2000). See also, in In re Andiorio, 237 B.R. 851 (Bankr. M.D. Fla. 1999), where a recreational vehicle with no permanent fixtures connecting it to the property did not establish Florida homestead. These cases are difficult to resolve with Gold v. Schwartz, 774 So. 2d 879 (Fla. 4th DCA 2001), where a decedent who died intestate owning and residing on a lot with a mobile home permanently affixed to it, was found to have homestead property that passed to her heirs free of creditor’s claims against the decedent’s estate. See also In re Schumacher, 400 B.R. 831 (Bankr. M.D. Fla. 2008), where the trustee in bankruptcy argued that the debtors’ mobile home was personalty and not entitled to the homestead exemption. The court stated that ‘homestead’ should be liberally construed and that the party challenging a homestead exemption has the burden to show the debtor is not entitled to the exemption.
(2) Where homestead was not located within a municipality and consisted of no more than 160 acres of contiguous land and improvements thereon, the court permitted a portion of the land which was separate from the residence and which was operated as a mobile home park to be included as part of the protected homestead. Davis v. Davis, 864 So. 2d 458 (Fla. 1st DCA 2003). The court stated that giving Article X, section 4 a plain reading, there was no requirement that a homestead be limited to the actual residence of the owner or the owner’s family, that such limitation only applied to homesteads located within municipalities. It went on to add that the limiting provision in section 4 “upon which the exemption shall be limited to the residence of the owner or the owner’s family” did not apply to homesteads located outside a municipality. However, in In re Radtke, 344 B.R. 690 (Bankr. S.D. Fla. 2006), the debtor filed for bankruptcy in February, 2005 listing their residence in Avon Park, Florida, which they claimed as exempt homestead. The debtors listed the value of the residence at $98,500, subject to mortgages in the amount of $39,010.92. The property was 2.23 acres located in unincorporated Highlands County, Florida, and was zoned for eight mobile home lots, sixteen recreational lots, and one single family home site. The single family home site was the debtors’ primary residence. The debtors received rents for sub-leasing some of the lots to other individuals. The Court found that, because the debtor used a portion of the property for commercial purposes, that portion was not exempt by virtue of homestead. The Court declined to follow Davis because it determined that it was clear that the debtors were using the land for commercial purposes and that Florida homestead law was not intended to exempt that portion of the property. The debtors acknowledged that the land was not divisible. The Court determined that, in circumstances where the homestead property is not divisible, the trustee can sell the property and apportion the proceeds. Thus, the Court determined that the property should be sold and the proceeds apportioned, specifically excluding the land being utilized for commercial purposes. However, in In re Earnest, 21 Fla. L. Weekly Fed. B 770 (Bankr. M.D. Fla. Mar. 26, 2009), the debtors listed their 4.82 acre property (located outside a municipality) as exempt homestead. The debtors’ house, a warehouse used for the debtors’ business, and an additional building rented to tenants, were located on the property. Under Marion County’s comprehensive plan, the property could not be subdivided. The bankruptcy trustee argued that the debtors should not have been able to claim the homestead exemption for the property that was used for the debtors’ business or that was rented out to tenants. The court held that the language limiting homesteads within municipalities to the residence of the owner or the owner's family does not apply to homesteads located outside municipalities. Based upon the precedent set forth in Davis, debtors’ commercial use of the building and warehouse did not preclude them from claiming the entirety of the real property as exempt. See also In re Oullette, 2009 Bankr. LEXIS 1745 (Bankr. M.D. Fla. Mar. 26, 2009), where the debtor owned real property upon which two mobile homes were situated. The debtor lived in one mobile home and rented the other. The receiver claimed that (i) the mobile homes were personalty and not entitled to homestead, and (ii) the mobile home that was rented was not entitled to homestead. The court found that the receiver failed to show that the mobile home used as a residence was not attached to the real property, allowing the debtor to claim homestead, and, based upon the precedent in Davis, the rental of the second mobile home does preclude the debtors from claiming it and any rent which came due post-petition as exempt.
(3) In In re Wilson, 393 B.R. 778 (Bankr. S.D. Fla. 2008), the debtor lived in an apartment over the strip club that he owned which was located within a municipality. The debtor claimed the entire strip club was entitled to homestead protection because he ate his meals, showered, and entertained guests in the downstairs portion of the building. The court held that it was clear that the homestead exemption only provides protection for the residence of the owner and the owner’s family, and does not provide protection for property used for business purposes. The court stated that “[w]hen a debtor resides in a building that is used for residential and commercial purposes, the courts have confronted the issue whether the debtor loses any homestead exemption to which he would otherwise be entitled, whether the entire building enjoys the exemption, or whether the building is apportioned. This was the issue addressed by the Eleventh Circuit in In re Englander, 95 F.3d 1028 (11th Cir. 1996). Reviewing the various Florida cases that had sought to resolve this dual use problem, the Eleventh Circuit held that the appropriate resolution when the property could not be divided is to sell the property and apportion the proceeds between the homestead and non-homestead portion of the properties rather than to declare the entire property homestead or non-homestead. This approach appears to have been followed consistently by courts subsequent to Englander. The court thus held that the debtor was entitled to the homestead exemption for the portion of the property that functioned solely as his residence within a municipality.
(4) In Karayiannakis v. Nikolits, 23 So. 3d 844 (Fla. 4th DCA 2009), appellant claimed a two-story apartment building with five units as her homestead, as she lived in one and rented out the rest. The court stated that any portion of a person's land, buildings, fixtures, and other improvements that was being used for commercial purposes did not qualify as real estate used and owned as a homestead and that real property was divisible for tax exemption purposes. Property used for commercial purposes, which includes rental property, was non-homestead property.
(5) In In re: Earnest, 21 Fla. L. Weekly Fed. B 770 (Bankr. M.D. Fla. Mar. 26, 2009), the Bankruptcy Court in the Middle District of Florida relied on the ruling in Davis to sustain the debtors’ homestead exemption claim for real property located outside a municipality on which the debtors had their residence, a warehouse (used for the debtors’ business) and another commercial building the debtors rented out. A fence was erected to separate the commercial part of the property from the residential; however, the county’s comprehensive plan prohibited real property from being subdivided. Citing In re: Davis v. Davis, 864 So. 2d 458 (Fla. 1st DCA 2003), the Bankruptcy Court held that the limitation of the exemption to the residence of a debtor only applies to property within a municipality. Where the property is located outside a municipality, so long as it is less than 160 acres, both residential and commercial property is deemed exempt from creditors under Florida’s homestead protection provisions.
v. Abandoning Homestead.
(1) In In re Beebe, 224 B.R. 817 (Bankr. N.D. Fla. 1998) the Bankruptcy Court, in dealing with a case of first impression, held that homestead status is not lost when the debtors leave their home with no intention to return to it but with the good faith intent to reinvest the proceeds of a future sale of the house into a new homestead. The court noted that the following do not necessarily constitute abandonment: (i) mere absence from the homestead for financial reasons, (ii) posting a “for sale” or offering the property for sale, (iii) leaving the property for years and weeds growing on the property. The court stated that abandonment occurs when debtors state the intention to abandon the property and have an intention not to return to it.
(2) In In re Harrison, 236 B.R. 788 (Bankr. M.D. Fla. 1999), debtor was found not to have abandoned her homestead by moving out of her former marital home after dissolution of marriage and moving to a new home with her son when (i) the older son who resided in the marital residence was involved with drugs, and (ii) debtor stated her intent to use sales proceeds to buy new house.
(3) In Novoa v. Amerisource Corp., 860 So.2d 506 (Fla. 3d DCA 2003), the appellate court reversed the trial court’s grant of summary judgment which permitted creditor to foreclose on defendant’s property. Defendants raised sufficient evidence to create genuine issues of fact which should have resolved by a jury. Defendants were residing in Costa Rica until the resolution of certain legal issues in the United States. They claimed that they intended to return to Florida and their homestead. The Appellate Court noted that prior courts had found that “continuous uninterrupted physical presence is not required to create a homestead,” and that “whether there had been an abandonment of a homestead ... should be determined by a consideration of all the pertinent facts and circumstances of each case.”
(4) In In re Klaiber, 265 B.R. 290 (Bankr. M.D. Fla. 2001), the Bankruptcy Court found that the debtor had abandoned his Florida homestead and therefore the property lost its protection.
The general rule is that if a debtor leaves his home due to financial, health or family reasons it is not considered abandoned. Furthermore, the party arguing against homestead has the burden to show that property is not entitled to homestead protection. However, in this case, the court found permanent abandonment and the residence (and hence proceeds of sale) lost exemption protection.
The debtor claimed his residence in Naples, Florida, as homestead. However, at the time of the filing the debtor lived in another state for “economic reasons.” Debtor listed the new address on his income tax return as well as established bank accounts in the new state. Prior to filing the bankruptcy petition, the debtor had (i) contracted to sell the residence, (ii) obtained a contract to sell the property and (iii) executed a warranty deed. The deed which was executed 4 days before the filing was recorded 7 days after the filing.
(5) However, in In re Lloyd, 394 B.R. 605 (Bankr. S.D. Fla. 2008), the debtor owned real property in Key West and lived in a permanently affixed mobile home on the property with her two children. The debtor moved herself and her children to California to be with her boyfriend. While in California, the debtor (i) enrolled her children in school, (ii) registered to vote, (iii) obtained a California driver’s license and (iv) obtained a job. When the debtor’s relationship with her boyfriend ended, the debtor remained in California, living with her mother. The debtor rented her Florida property through a rental company for a year long lease. Two years after moving to California the debtor filed for bankruptcy claiming the Florida property exempt as homestead. The debtor had listed the Florida address as her permanent residence for her tax returns and insurance, and she stated that she always intended to return to Florida. The debtor made numerous trips to Florida to check on the property and make repairs. The debtor maintained a Florida driver’s license and Florida voter’s registration card. The court stated that “[a]lthough she moved to California to pursue a romantic relationship, the debtor never did establish a permanent residence in California. When the relationship ended, the debtor moved in with her mother and thereafter with friends. She is now living with her family in a rented duplex on a month to month basis…[A] ‘temporary absence of an owner for reasons of health, business or recreation from his residence and the temporary rental of his home during the absence do not necessarily demonstrate an intent to abandon the premises’…This debtor has not established a ‘domicile’ at some other place, to the exclusion of the Key West Property…The Court does not believe that the evidence proves the debtor intended to abandon the Key West Property and forsake the Florida homestead for one in California.” By balancing the facts, the court determined that she had not abandoned the Florida homestead property and was entitled to the homestead exemption.
(6) In In re Minton, 402 B.R. 380 (Bankr. M.D. Fla. 2008), the creditor argued that the debtor’s house was not protected under Florida homestead law because the debtor had moved out of the home. The debtor argued that she moved out of the home because of domestic violence, but she intended for the house to remain her home and had not abandoned it. The debtor’s furniture was still located in the house and she made regular mortgage payments on it even after moving out of the residence. The court stated the question of whether there has been an abandonment of homestead should be determined by a consideration of all the pertinent facts and circumstances of each individual case. “Leaving furniture at the property and the absence of intent to dispose of the property, such as through sale or forfeiture, constitute indicia of intent to return.” The court held that the bankruptcy trustee failed to establish the debtor had abandoned her homestead, and therefore she was entitled to homestead protection.
(7) In In re Gaines, 2008 U.S. Dist. LEXIS 110949 (M.D. Fla. Aug. 5, 2008), the debtor owned a mobile home. Due to his illness, he was forced to leave his mobile home and move in with his brother. During the time he lived with his brother his mobile home fell into disrepair and was condemned by the municipality. The debtor could not pay the fines on his mobile home. He however claimed the property as exempt on his bankruptcy petition even though there was no longer any home on the property (the mobile home was destroyed). The trustee objected. The court held that the debtor failed to show he intended to reoccupy the property and therefore was not entitled to the homestead exemption.
(8) In Haddock v. Carmody, 1 So. 3d 1133 (Fla. 1st DCA 2009), the court held that the owner of a condominium had abandoned homestead under the rental statute even though the owner had locked two closets prior to leaving the unit. The owners of a condominium unit in Amelia Island participated in a rental program that rented out units on a short-term or daily basis based on when the owner was absent from the property. The owners rented out their unit for 113 nights in 2003, 104 nights in 2004, and 66 nights in 2005, yet at all times kept their personal effects locked in two owner’s closets. The Nassau County Property Appraiser revoked owners’ homestead tax exemption for 2003, 2004, and 2005 based on the owners’ rental of the property, claiming that it constituted an abandonment of homestead status under section 196.061, Florida Statutes. Section 196.061 establishes how rental property is to be treated under the homestead exemption. The application of section 196.061 hinges on the term “entire dwelling” because if a property owner does not rent out the entire dwelling, the statute does not apply. Although the owners’ suit resulted in the lower court ruling that section 196.061 was unconstitutional, the court on appeal reversed, stating in its reasoning that excluding two closets from a rental did not preserve homestead. The court construed section 196.061 conservatively, rejecting a liberal interpretation that “entire dwelling” means entire dwelling, because, as the county appraiser contended, “such an emphasis on the word ‘entire’ would allow property owners to avoid application of the statute by merely preventing access to a de minimus amount of space within the structure, such as occurred here." Id. at 1137.
vi. Waiving Homestead.
Under certain circumstances the courts will enforce a waiver of homestead rights. In Sherbill v. Miller Manufacturing Co., 89 So. 2d 28 (Fla. 1956), the Florida Supreme Court refused to uphold a waiver of homestead protection on public policy grounds. The debtors entered into a loan agreement which stated that “the makers and endorsers of this note hereby waive the benefit of their homestead exemption as to this debt.” However, in Myers v. Lehrer, 671 So. 2d 864 (Fla. 4th DCA 1996), the husband was ordered to use proceeds from the sale of the marital residence to satisfy outstanding judgments against him. The court found that the property settlement entered between husband and wife that was later incorporated into a final judgment of marital dissolution called for the sale of the marital residence and provided that “the husband would satisfy any and all outstanding judgments pending against him from his share of the marital property.” When the husband refused to satisfy the judgments claiming that the proceeds were protected by homestead, the trial court disagreed. In distinguishing its facts from those in Sherbill, the Myers court noted that the waiver was between husband and his wife, one who was also entitled to the homestead protection, rather than to a “hard creditor” as was the case in Sherbill.
In the case of Henry Demayo v. Deborah Chames and Heller & Chames, P.A., 30 Fla. L. Weekly D 2692 (Fla. 3d DCA Nov. 30, 2005); affirmed Chames v. Demayo, 972 So. 2d 850 (Fla. 2007), the Florida Third District Court of Appeals said “we see no reason why an owner of homestead should not be able to waive his constitutional right if he so desires.” In that case, DeMayo signed such a waiver in his fee agreement with his law firm handling his divorce. DeMayo tried to have his homestead waiver ruled ineffective. On February 14, 2006, the Third District Court of Appeals vacated its November 30, 2005 opinion, on its own motion, and granted a rehearing en banc. On June 14, 2006, the Court recognized the policy of the States’ exemption laws and reversed the portion of the order allowing a charging lien to be placed on the property, stating that “the ‘waiver’ of the benefit and protection of the exemption laws…[was] not valid to defeat a claim of exemption.” This decision was affirmed by the Florida Supreme Court in December of 2007, Chames v. Demayo, 972 So. 2d 850 (Fla. 2007). In its opinion, the Florida Supreme Court, citing previous Court decisions in cases such as Sherbill, stated that “[t]he passage of time has not changed [the concern that a waiver of the exemption would …render the exemption invalid].”
In In re Tucker, 22 Fla. L. Weekly Fed. B 37 (Bankr. S.D. Fla. Apr. 21, 2009), the debtor signed a settlement agreement stating that he would pay his creditors $700,000 and, if he failed to make the payment, the bankruptcy trustee would be entitled to the debtor’s homestead. The debtor failed to make the $700,000 payment, but tried to claim his homestead was exempt from creditor claims. The court held that the debtor had voluntarily hypothecated his homestead, and, therefore, the default clause giving the bankruptcy trustee title was enforceable. The court distinguished this case from Chames stating that “Chames answered the question of whether a person could voluntarily waive his homestead exemption in an unsecured agreement in the event he failed to pay his attorney’s fees. The court answered the question in the negative. Here the debtor voluntarily conveyed his interest in the Florida Property as part of the Stipulation, thus making Chames factually inapposite.”
c. Ownership Requirement. The identity of the legal owner of the homestead can have dramatic impact on the availability of the homestead exemption.
i. Generally a person must hold legal title to a residence to claim homestead exemption. The homestead exemption is available even if the owner holds only an undivided one-half interest. Vandiver v. Vincent, 139 So. 2d 704 (Fla. 2d DCA 1962).
For example, debtor, who at the time she filed a Declaration of Domicile, no longer held title to property was unable to claim homestead exemption. In re Aliu, 16 Fla. L. Weekly Fed. B 262 (Bankr. S.D. Fla. Oct. 14, 2003). Debtor defaulted on real estate contract for which creditor received an order of specific performance. Final Judgment was received, which included an order to transfer the property to the creditor, and recorded eight months before the Declaration was filed and ten months before debtor filed for bankruptcy and claimed the property as exempt homestead. The court noted that the debtor no longer held title to the property as of the date the Final Judgment was recorded.
ii. A 99 year land lease in property used as a residence was held to be homestead. In re McAtee, 154 B.R. 346, 349 (Bankr. N.D. Fla. 1993). For tax purposes, see Higgs v. Warrick, 994 So. 2d 492 (Fla. 3d DCA 2008), where the taxpayer created a trust that was funded entirely with his homestead property. He then transferred the trust property to his heirs who in turn gave him a 99 year lease. The property appraiser denied the taxpayer homestead status on the property. Florida Statute § 196.031 states that every person with legal or beneficial and equitable title to real property who resides on that property and in good faith makes that property his permanent residence shall receive homestead treatment. In addition, Florida Statute § 196.041 states that lessees owning the leasehold interest in a bona fide lease having an original term of 98 years or more in a residential parcel shall be deemed to have legal or beneficial and equitable title to said property. Following a clear reading of these statutes, the court stated that a 99 year lease constitutes a legal or beneficial and equitable title to the property, and therefore, the taxpayer is entitled to homestead status.
iii. In S. Walls, Inc. v. Stilwell Corp., 810 So. 2d 566, 571 (Fla. 5th DCA 2002), a co-op apartment was found to qualify as Florida homestead. See also In re Dean, 177 B.R. 727 (Bankr. S.D. Fla. 1995). Only the half of the duplex used by the debtor qualified for homestead in the case of In re Bornstein, 335 B.R. 462 (M.D. Fla. 2005), where the debtor resided on one side of a duplex and rented the other side to a third party. The court held that the rented portion is not exempt and is subject to claims by creditors. The court focused on the plain language of the Florida Constitution where the exemption is limited to “the residence of the owner or the owner’s family.” Therefore, only the side occupied by the debtor meets the requirements for exemption. However, the court did give the debtor a “way out” by allowing her to convert her Chapter 7 case to a Chapter 13 case which would “allow her to keep her home and repay her unsecured creditors over time.”
iv. However, the precedent in S. Walls, Inc, above, has been questioned. In In Peggy Ann Phillips v. Janice Hirshon, 958 So. 2d 425 (May 2, 2007), the decedent died testate survived by his two sons, one of which was a minor and is represented in this case by his mother. The decedent resided in a cooperative apartment building in Key Biscayne, Florida, under the terms of a long term proprietary lease received with the purchase of the interest in the co-op. Upon his death, the decedent devised the property to his friend. The petitioner argued that the devise to the friend was ineffective because the co-op was the decedent’s homestead and he was survived by a minor child. In a case from 30 years ago, In re Estate of Wartels, 357 So. 2d 708 (Fla. 1978), the Florida Supreme Court held that “a cooperative apartment may not be considered homestead property for the purpose of subjecting it to Florida Statutes regulating the descent of homestead property.” The petitioner argued that this decision by the Florida Supreme Court was made before the new Cooperative Act of the Florida was in effect. The petitioner argued that the new act imbued upon cooperative apartments the same dignity as other “interests in realty” and therefore, the co-op should be governed by the laws of descent and devise for homestead property. While recognizing that the Fifth District Court of Appeals in S. Walls, Inc. v. Stilwell Corp., 810 So. 2d 566 (Fla. 5th DCA 2002) (which allowed the homestead exemption from forced sale to be applied to a co-op) may directly conflict with its determination, the Court held that, because of the precedent in Wartels, it had to rule that a co-op was not considered homestead for purposes of descent. However, because the Court felt that this was a matter of great public importance, it certified the following question to the Florida Supreme Court:
DOES THE FLORIDA SUPREME COURT’S DECISION IN IN RE ESTATE OF WARTELS V. WARTELS, 357 SO. 2d 708 (FLA. 1978), HAVE CONTINUING LEGAL VITALITY IN LIGHT OF THE ADOPTION BY THE FLORIDA LEGISLATURE OF THE COOPERATIVE ACT, CHAPTER 76-822, LAWS OF FLORIDA?
IF THE ANSWER IS YES, IS IT LEGALLY PERMISSIBLE TO INTERPRET ARTICLE X, SECTION 4(A)(1) OF THE FLORIDA CONSTITUTION DIFFERENTLY FOR FORCED SALE PURPOSES THAN DEVISE AND DESCENT PURPOSES UNDER ARTICLE X, SECTION 4 OF THE CONSTITUTION?
On September 14, 2007, in 963 So. 2d 227, the Florida Supreme Court accepted jurisdiction over the case; however, on April 17, 2008, it decided that “upon further consideration...we should exercise our discretion to discharge jurisdiction in this cause…” and dismissed jurisdiction and the review proceeding. See Levine v. Hirshon, 980 So. 2d 1053 (Fla. 2008). Because of the Florida Supreme Court’s decision to discharge jurisdiction, it is unclear whether co-ops will be considered homestead for purposes of limitations on descent and asset protection. The Florida Third District Court of Appeals’ opinion in Phillip v. Hirshon noted the conflict between its decision and S. Walls, above, where the Florida Fifth District Court of Appeals construed the same section of the Florida Constitution, Article X section 4, to afford the benefit of homestead protection from forced sale. As a result of the Florida Supreme Court’s decision to discharge jurisdiction owners of Co-ops must be concerned as to whether they will benefit from homestead protection based upon the conflict in the Circuits.
v. In In re Ensenat, 20 Fla. L. Weekly Fed. B 452 (Bankr. S.D. Fla. May 24, 2007), the Court determined that a separate structure on what is otherwise homestead property is not disqualified from the same protections as the residential structure merely because it is separate from the primary residential structure and has the potential to be used for business purposes. In this case, the debtors lived in a home (the “residence”), located in the City of Miami with two buildings on the property that were attached by a covered patio. The residence was listed as a multifamily duplex. The debtors lived in one of the buildings and their niece and her child and boyfriend lived in the other building. Each of the buildings was separately metered by the power company and had its own water supply. The niece and her family paid for all their own utilities, but paid no rent to the debtors. The Trustee argued that, because the separate structure could be rented out as income and because the debtors had no legal obligation under Florida law to support the niece and her family, it should be excluded from homestead exemption. The Court determined that this proposition was inconsistent with Florida law and that the potential of a separate building, located within a property meeting the constitutional acreage limitations and which is undisputedly used by the debtors as their residence, to be used for business purposes was not sufficient to compromise debtors’ homestead rights to the property. The Court also looked at Florida law, which recognizes “families-at-law” and “families-in-fact” for homestead purposes. It recognized that the test for determining a debtor’s family has been extended beyond marriage and blood relations to (1) a legal duty to maintain arising out of the relationship and (2) a continuing communal living by at least two individuals under circumstances where one is regarded as the person in charge. Here, the Court stated that, because the debtors have no legal obligation to support their niece and her family, it was unclear whether the niece and her family would be considered the debtors’ family under homestead. Despite the lack of a legal obligation to support the niece and her family, the Court still ruled that the debtors were still entitled to claim the entire property as their homestead regardless of whether the property had the potential to be used for generating income.
vi. In re Bosonetto, 271 BR 403 (Bankr. M.D. Fla. 2001), held that a debtor could not claim homestead exemption in a personal residence that she owned not individually, but in her revocable trust, even though she was the trustee. The court found that the homestead exemption may be claimed only for property owned by a natural person.
vii. The Florida Third District Court of Appeals in Callava v. Feinberg, 864 So. 2d 429 (Fla. 3d DCA 2003) rehearing denied 2004 Fla. App. LEXIS 2658 (Jan. 30, 2004), decided October 15, 2003, held exactly opposite Bosonetto. The case involved a dissolution of marriage action in which the court ordered that the debtor’s former spouse’s residence be transferred to debtor to satisfy child support and alimony arrearages. The court also stated that debtor should use a portion of the equity in the residence to pay the legal fees owed to debtor’s attorney. Debtor ended up selling the residence, purchasing a less expensive residence that was titled in her revocable trust, not individually, and paying some of the attorneys’ fees outstanding but not all of them. Subsequently, the creditor obtained an equitable lien on the debtor’s new residence. The court stated that individuals seeking homestead exemption do not need to hold fee simple title to the property. Consequently, the creditor was not entitled to foreclosure of the equitable lien on the homestead property. On February 8, 2006, Florida’s Fourth District Court of Appeals followed Callava in Engleke v. Engelke, 921 So. 2d 693 (Fla 4th DCA 2006), by determining that a “natural person” does not necessarily need to be an individual.
In Engelke, the decedent held his one-half interest in his home through his revocable trust. The decedent’s estate did not have sufficient funds in order to pay the claims against the estate and family allowance ordered by the trial court. The personal representative of the decedent’s estate, also his wife, moved to compel the trustee of decedent’s revocable trust to pay the expenses out of the trust assets. The trustee opposed the motion on the grounds that: (1) the trust contained insufficient liquid assets; (2) the primary asset was the decedent’s one-half interest in his home and (3) that interest is constitutionally protected homestead property. The court determined that the decedent’s revocable trust constituted a “natural person” for purposes of the constitutional homestead exemption because he retained a right of revocation. Therefore, the decedent’s one-half interest was protected homestead and could not be used to pay the expenses of the estate.
viii. On July 25, 2006, in In re Alexander, 346 B.R. 546 (Bankr. M.D. Fla. 2006), the court held that a debtor, whose homestead was held in a revocable trust in which the debtor was the sole trustee and primary beneficiary, could claim the homestead exemption on the property. It determined that the individual debtor must have an ownership interest, which does not need to be fee simple title, in the residence that gives her the right to occupy the residence and use the property as her own. The court stated that, as a matter of public policy, the Florida homestead exemption, including the terms “natural person” and “owned” should be construed liberally. It declared that the debtor’s intent to make the property her homestead, and her actual use of the property qualified for the homestead exemption. The court declined to follow Bosonetto and cited various cases including Callava and Engelke, in support of its decision.
ix. In In re Mary L. Edwards 356 B.R. 807 (Bankr. M.D. Fla. Oct. 4, 2006), the Court determined that a person’s residence held in a Revocable Trust may be eligible for the homestead exemption. The parties in the case disagreed about the meaning of the phrase “owned by a natural person;” the bankruptcy Trustee claimed that a trust would not qualify as a natural person and that the exemption must fail. The Court stated that it declined to follow Bosonetto, stating that the greater weight of recent cases was not in line with the reasoning in that case. The Court determined that “[f]ee simple title of the property is not required, and an equitable or legal interest should afford protection…” The Court then cited In re Alexander, above, in its ruling that the protection of the homestead exemptions will apply even if the homestead is held in a Revocable Trust.
x. In Cutler v. Cutler; In Re The Estate of Edith Alice Cutler: 32 Fla. L. Weekly D 583 (Fla. 3d DCA Feb. 28, 2007), the decedent died unmarried with two adult children. Eight months prior to her death, the decedent created the Cutler Irrevocable Land Trust naming herself and her two children as trustees. She deeded her residence and an adjacent vacant lot into the Trust. Under the terms of the Trust the decedent retained a life estate with the express right to use, possess and occupy the property during her lifetime. Upon her death, the Trust provided that the property was to be distributed to the estate of the settlor. The settlor had a will in which the residence was devised to her daughter and the vacant lot to her son. It also stated that all claims, charges, and allowances against the cost of administration should be paid out of the residuary of the estate and any balance shall reduce the gifts of the property to the children. Because there were insufficient funds to pay her creditors, the son contended that the properties must be abated equally because the residence was not owned by a natural person at the time of her death (and accordingly was not “homestead”). The daughter however, claimed that the residence was the decedent’s homestead and therefore protected. After citing various cases in which the courts have allowed homestead protection to properties held in trusts, the Court determined that there is no reason to limit the homestead protection to those homes held in Revocable Trusts so long as the decedent met all of the other requirements of the homestead statute. In addition, because the decedent made a specific devise in her will of the residence, the property is exempt from invasion to pay the other expenses of the decedent’s estate, despite the language in her will authorizing such payments.
xi. In Cutler v. Cutler, 994 So. 2d 341 (Fla. 3d DCA 2008), the Florida Third District Court of Appeals, on a motion for rehearing, reversed its prior decision, stating that, while it maintained that the residence retained its homestead status regardless of whether it was titled in the trust, it did not pass to the daughter free from obligation because the decedent validly impressed the obligations of her creditors upon the residence. The Court emphasized the need to construe the will with primary objective being the intent of the testator. In the decedent’s will, she specifically directed that her debts, if not satisfied out of the residuary of the estate, be satisfied equally from the properties passing to her son and daughter. The Court, citing Warburton (above), stated that the testator, may direct that the homestead may be used for any purpose that the debtor may have used the property during life. The Court noted that the instruction to satisfy her debts out of the homestead property was equivalent to the direction to sell the homestead property, which, thus, entails the property losing its homestead character and becoming part of the decedent’s estate for purposes of settling the estate’s claims. Because the property could be devised (i.e, there was no surviving spouse or minor child) as the decedent directed, her direction that the debts be partially satisfied out of the homestead residence was valid and thus, half of the debts of the mother inured to the property passing to the daughter who received the homestead property.
CAVEAT: Directing a sale of homestead or payment of debts from the homestead could subject an estate to greater claims than if no such provisions were stated. Homeowners must be careful when they make such a direction that they understand the consequences of such a provision.
xii. In In re Cocke, 371 B.R. 554 (Bankr. M.D. Fla. 2007), the debtors, a married couple, filed for Chapter 7 bankruptcy and on the petition listed an interest in real property held in Trust, which the debtors claimed as their homestead. The Trust appointed one of the debtors, the wife, as trustee and named the debtors and their minor granddaughter as the grantors and beneficiaries. The trust also granted the debtors the same rights as anyone else with fee simple title to property including the right to exclude others and to alienate the property; however, it prohibited the beneficiaries from dividing the real property amongst them. The language of the Trust gave the beneficiaries rights with respect to the trust property stating that the property “shall be deemed to be personal property and may not be assigned and otherwise transferred as such. No beneficiary shall have any legal or equitable right, title or interest, as realty, in or to any real estate held in trust under this agreement, or the right to require partition of that real estate, but shall have only the rights as personality.” The Chapter 7 Trustee filed a claim alleging that because the property was owned by the Trust, the debtors were not the legal owners of the property and, therefore, not entitled to claim it as exempt. The Court looked at whether the debtors had a legal or equitable interest in the property, giving them the legal right to use and possess the real property as a residence. The court stated that this factor may be satisfied “if the Debtors were the grantors and the trust is revocable” and “if the Debtors retained the right to revoke the Trust, then that interest alone may be a sufficient interest to satisfy the requirement that Debtors have an equitable or legal interest in the real property.” The language of the trust allowed the trust to “be terminated at any time by the Beneficiaries with thirty days written notice of termination delivered to the Trustee.” The Trustee argued that the minor granddaughter was a beneficiary and therefore had an interest in the property which may be adverse to the debtors and that the debtors could not act on behalf of the granddaughter to revoke the trust without a court order. The Court found that “denying the Debtors’ claim for Homestead protection on the property because the Debtors would need to petition a court for the authority to act on behalf of their minor granddaughter, would produce neither a logical or equitable result, and could also open Pandora’s box regarding public policy concerns.” Finding that debtors as beneficiaries and grantors of the Trust maintained the right to revoke their interest in the Trust, the Court determined that the debtors had legal and equitable title in the property and permitted them to claim the property as homestead.
xiii. The United States Tax Court in Reichardt v. Commissioner, 114 T.C. 144 (T.C. 2000), included the personal residence of Reichardt in his gross estate, under I.R.C. § 2036(a) even though he had conveyed it to his family limited partnership. The court concluded that Reichardt retained possession and enjoyment of the property by living there and not paying rent to the partnership, which was the same relationship he had with that asset before transferring the property to the partnership. Accordingly for estate tax, property taxes (as described below) and asset protection reasons in Florida it is beneficial not to convey a personal residence to a partnership.
xiv. Further, in In re Steffen, 405 B.R. 486 (M.D. Fla. 2009), the debtor claimed a homestead exemption in property that was owned by a limited partnership. The 99% limited partner was the debtor’s revocable trust and the 1% general partner was a corporation owned entirely by the debtor. The court states that “in order to claim property in which the individual resides as exempt it is sufficient that: (1) the individual have a legal or equitable interest which gives the individual the legal right to use and possess the property as a residence; (2) the individual have the intention to make the property his or her homestead; and (3) the individual actually maintain the property as his or her principal residence.” The debtor in this case has not offered any evidence that she has legal right to use and possess the property. The court noted that there is no current case law that provides the homestead exemption for property titled in the name of a partnership. Thus, the court did not find that the debtor’s position as 1% owner of the corporate general partner, her revocable trust’s position as the 99% limited partner, nor her possession of the property entitled her to receive the homestead exemption.
xv. In Pajares v. Donahue, 33 So. 3d 700 (Fla. 4th DCA 2010), the Florida Fourth District Court of Appeals ruled that where the decedent specifically instructed in her will for the personal representative to sell her homestead property and divide the proceeds to her beneficiaries, the homestead lost its protected status. Citing McKean, the Court emphasized that “where the will directs the homestead be sold and the proceeds added to the estate, those proceeds are applied to satisfy the specific, general, and residual devises, in that order.” Accordingly, the Pajares Court concluded that the proceeds from the sale of the homestead property would be subject to creditors’ claims.
xvi. In In re: Williams, 427 B.R. 541 (Bankr. M.D. Fla. 2010), a mother transferred, by warranty deed, her home to her son, the debtor, subject to a life estate in herself. The son lived in the home with his wife and mother, as his primary residence, received mail there and had the address on his driver’s license. The debtor asserted homestead protection applied against his creditors. The bankruptcy trustee argued that, since the son only held a remainder interest, the exemption does not apply. The Court disagreed, allowing the exemption in reliance upon the definition of “property owned by a natural person,” which the Court emphasized is the standard under Article X, Section 4 of the Florida Constitution. The Court held that since “property in which a debtor holds a vested remainder is ‘property owned by a natural person’ within the meaning of the Constitutional exemption,” the exemption must be upheld. (See In re: Hildebrandt, 432 B.R. 852 (Bankr. N.D. Fla. 2010) following Williams).
xvii. In De La Mora v. Andonie, 35 Fla. L. Weekly D 2820 (Fla. 3d DCA Dec. 15, 2010), David and Ana Andonie, Honduran citizens, owned a condominium in Key Biscayne, Florida, which they occupied with their three minor children. Although David and Ana held temporary visas, all three of their children were American citizens, and as such, the Andonies filed an application for exemption from real estate taxes on the property, noting that the children were citizens in order to qualify for the homestead exemption. The Miami-Dade County Property Appraiser administratively denied the application, but that decision was overturned upon petition by the Andonies to the Miami-Dade County Value Adjustment Board. Then, the Property Appraiser contested the decision in an original proceeding filed in court where the court found the Andonies were entitled to the exemption. On appeal to the Florida Third District Court of Appeals, the Court found that it could not have been denied that the homeowners had adequately declared that whatever became of their ability to remain in the United States, they fully planned and intended for their U.S.-born children to "permanently reside" in the United States. The appraiser relied on two arguments: first, that the taxpayer-parents could not have maintained an exemption through their children and that the minor children's domicile was dependent on the domicile of David, a non-Florida resident; and second, that the term "who resides thereon," as found in Florida Statute § 196.031(1)(a), required the title owner to reside on the property permanently. The Court held that the appraiser was not authorized to condition the exemption on the homeowners' legal status in the United States. Further, the phrase "who resides thereon" in § 196.031 was unenforceable. The Court pointed out that the statute’s history of using the phrase was inadvertently carried forward from a 1938 amendment to the statute and should have been eliminated by the 1968 revisions.
xviii. In In re: Aranda, 2010 Bankr. LEXIS 4264 (Bankr. S.D. Fla. Dec. 3, 2010), the debtors acquired their Florida residence in 2001 and titled it in the name of the company they owned. Between 2003 and 2007, the residence was conveyed five times between the debtors and two of their business entities. Then in April 2007, the debtors conveyed the residence from the company to themselves as husband and wife in tenants by the entirety. Although they claimed the residence as an exempt homestead upon their filing of a Chapter 11 bankruptcy petition, the debtors’ exemption was objected to by the trustee, and the trustee argued to have it reduced pursuant to 11 U.S.C. § 522 (o) and (p). Specifically, the trustee argued that the deed, conveying the residence from the company to the debtors, provided for ownership as joint tenants with the right of survivorship or tenants in common. The court, in ruling that § 522 (o) and (p) did not apply, noted that the conveyance of the residence as joint tenants and tenants in common was ambiguous, but since the deed conveyed the residence to the debtors jointly, that was sufficient to vest title in the debtors as tenants by the entirety. Thus, due to the absence of a clear statement of contrary intent, Florida law presumed the debtors acquired the residence as tenants by the entireties, and the trustee’s objection was denied.
d. Proceeds from Sale of Homestead. The proceeds from a Homestead sale must be carefully dealt with to maintain the constitutional protection.
i. Ensuring Exempt Status of Proceeds. The leading case of Orange Brevard Plumbing & Heating Co. v. La Croix, 137 So. 2d 201 (Fla. 1962) provides a roadmap to follow to ensure that proceeds from the voluntary sale of a homestead will maintain their exempt status until a replacement residence is purchased as described below:
(1) The seller shows an abiding good faith intention prior to and at the time of the sale of the homestead to reinvest the proceeds thereof in another homestead within a reasonable time.
(2) Only so much of the proceeds of the sale as are intended to be reinvested in another homestead may be exempt. Any surplus over and above that amount should be treated as general assets of the debtor.
(3) To satisfy the requirements of the exemption the funds must not be commingled with other monies of the seller but must be kept separate and apart and held for the sole purpose of acquiring a new home.
(4) The proceeds of the sale are not exempt if they are not reinvested in another homestead within a reasonable time or if they are held for general purposes of the seller.
ii. In re Beebe, 224 B.R. 817 (Bankr. N.D. Fla. 1998) involved debtors who (i) had moved from their home for employment reasons, (ii) made repairs to the home and (iii) put it up for sale. debtors’ son moved into the house while it remained on the market, and debtors paid the utilities. Debtors had submitted an offer to purchase a new home and the offer was contingent on the sale of their other house. It was established that debtors intended to use the proceeds of the old house to purchase the new house. The court in holding that homestead status was not lost, reasoned that if debtors had sold the home prior to moving, the proceeds would be exempt as long as they intended to use those proceeds to purchase a new homestead within a reasonable time. The court further stated that the fact that they had not been able to convert the home to proceeds prior to their departure should not matter. Therefore, the court reasoned, where debtors’ intent with respect to the use of the proceeds of the sale is the same, neither the time between the departure and realization of the proceeds nor the fact that a sale contract is pending instead of the house being offered for sale should be determinative as to the continued protection of the homestead exemption.
iii. In In re Banderas, 236 B.R. 849 (Bankr. M.D. Fla. 1999), Debtor, as a result of losing litigation in Georgia, owed $832,500 plus interest to a creditor. Debtor relocated to Florida, where he bought a home with his wife. Debtor filed for bankruptcy and creditor domesticated judgment, which was filed in the public records. Debtor then placed the home on the market and filed an action to remove the domesticated judgment because it impaired debtor’s ability to sell the home. The court held that homestead protection existed and that the judgment lien was unenforceable and avoidable.
iv. In In re Kalynych, 284 B.R. 149 (Bankr. M.D. Fla. 2002), a divorce decree between debtor and his former spouse awarded her (and his minor children) exclusive title, use and possession of debtor’s former home. The decree also required former spouse to pay debtor $15,000 upon refinancing her home. Two years after the divorce, debtor had not yet received the $15,000 from his former spouse, nor had he acquired a new homestead. Debtor, however, intended to purchase with the $15,000 a one half interest in his fiancé’s home. The Court held that the $15,000 debtor was owed from his former spouse was exempt from creditors as proceeds from the sale of the homestead. “To receive an exemption, a debtor must show a good faith intention, both prior to and at the time of the sale, to reinvest the proceeds in another homestead. La Croix, 137 So. 2d at 204. The proceeds: (1) must be reinvested within a reasonable time, (2) cannot be co-mingled with the debtor’s other money and (3) must be held for the sole purpose of acquiring another homestead.” The question as to whether the funds are reinvested within a reasonable amount of time is based upon the facts and circumstances of each case. The court felt debtor had sufficiently demonstrated his intent to invest the $15,000 in a new homestead, and two years was a reasonable amount of time.
v. In Rossano v. Britesmile, Inc., 919 So. 2d 551 (Fla. 3d DCA 2005), creditor, Britesmile, Inc., secured a judgment against the debtor, Rossano. While executing the judgment, Britesmile learned that Rossano planned to sell her homestead and purchase a less expensive residence instead and served a writ of garnishment on the closing agent for the proceeds of the sale of the first home. The court held that there was a clear intention on the part of the judgment-debtor to use “all or part of the proceeds received from the sale of her previous home into a new homestead so as to qualify for continued exemption under La Croix.” Therefore, Britesmile was not entitled to all of the proceeds from the sale of the first home and should instead wait until the closing on the new home and garnish that amount that “was not used in good faith for the new residence.”
vi. In In Re Wechsler, 20 Fla. L. Weekly Fed. B 51 (Bankr. S.D. Fla. Apr. 12, 2006), the Southern District Bankruptcy Court held that delay of reinvestment of the Sale Proceeds of a homestead (about $246,000), which was due to litigation concerning the Sale Proceeds, will not cause the funds to lose their homestead exemption. In this case, the debtor and his ex-wife had entered into a Marital Settlement Agreement, in which the debtor was allowed to remain in the couple’s marital home until such home was sold and the proceeds divided. The home was sold in December 2001; however, a dispute arose between the two as to the allocation of the sales proceeds. Pending resolution of the dispute, the funds were placed in an escrow account. In 2003 a judge ordered a distribution of $25,000 of such proceeds to both the husband and wife and in 2004 the State Court filed its order on the distribution of the proceeds, which the debtor appealed. In September 2005, the debtor filed bankruptcy and scheduled the proceeds of the home as exempt property and in November 2005, the Florida Third District Court of Appeals affirmed the State Court order. The Bankruptcy Trustee argued that the sale proceeds were not exempt assets because they were not intended to be reinvested into a new homestead; and, in the alternative, regardless of whether they were intended to be reinvested, the debtor had lost the homestead status because it was not reinvested in a reasonable time period and that the $50,000 distribution ordered by the Court caused the proceeds to not be exempt property. The Court determined that the delay in reinvestment should not compromise the homestead exemption because the delay was due to litigation over the proceeds, which was not resolved until after the debtor filed bankruptcy.
vii. Sales Proceeds not Exempt. The following cases held that the sale of a homestead did not satisfy the requirements enumerated above in LaCroix.
(1) Dep’t of Revenue ex rel. Vickers v. Pelsey, 779 So. 2d 629 (Fla. 1st DCA 2001). Funds that a debtor received from a commercial lender and intended to use for a homestead were not protected under the homestead exemption. Since the funds intended to be invested in the homestead were not generated from the sale of a prior homestead, and since the new property did not acquire homestead status, the funds were not protected.
(2) In re McDonald, 100 B.R. 598 (Bankr. S.D. Fla. 1989) (only the portion of the sales proceeds actually used to purchase a replacement residence are exempt).
(3) In re McGuire, 37 B.R. 365 (Bankr. M.D. Fla. 1984) (none of the proceeds from the sale of the homestead are entitled to constitutional protection when there is no clear evidence at the time of sale that the seller intended to reinvest the proceeds for the purchase of another residence and the proceeds were not segregated for the purpose of reinvestment).
(4) In re Delson, 247 B.R. 873 (Bankr. S.D. Fla., 2000). Proceeds from the sale of exempt homestead property did not retain their exempt character, to the extent that debtors did not intend to reinvest proceeds, within a reasonable time, in another homestead. There, a husband had a $4 million debt. Husband and wife sold their homestead, and transferred proceeds from the sale of the homestead into a bank account owned solely by wife. The wife then transferred the proceeds into mutual fund investment accounts. The court held that the homestead sale did not retain homestead exemption status because the proceeds were used by the debtor’s wife to purchase collateral for a business loan, and nearly four years after the homestead sale, neither the debtor nor his wife had purchased a new homestead.
(5) In re Cameron, 359 B.R. 818 (Bankr. M.D. Fla. 2006). The debtor, within one year of filing for bankruptcy transferred funds to his wife, who purchased three separate homes in her name. One of the three transfers of money was secured by a loan on debtor’s residence. The debtor claimed that the $65,000 in funds from this loan was money obtained from equity in his residence and was therefore exempt under homestead law. The Court stated that, even if the debtor had proven that the residence was his homestead, the money still would have lost its exempt status because he placed the loan proceeds in his personal account prior to the transfer to his wife. At the time of the deposit he had no intention to buy a replacement residence.
(6) In re Juan Castro, 20 Fla. L. Weekly Fed. B 148 (Bankr. S.D. Fla., Oct. 24, 2006). The Court determined that a portion of proceeds from the sale of the debtor’s homestead were not entitled to exempt status because there was no clear good faith intention to reinvest the proceeds into a new homestead. The debtor quitclaimed the property owned by him and his ex-wife to his ex-wife at their divorce and received $37,000 for the property. This amount was placed in an account on September 12, 2005 just before he filed for bankruptcy. The debtor claimed he was going to use the proceeds to reinvest in another home. Since the beginning of the bankruptcy proceeding, however, the debtor used $9,910 of the funds. The Trustee challenged the debtor’s intent on the use of the funds. The Court agreed that the use of the $9,910 clearly indicated intent not to reinvest that portion of the proceeds in a new homestead. For the remaining portion of the funds, however, the Court determined that the debtor should have additional time to reinvest the proceeds. While a year had passed since the debtor received the funds, the Court stated that “a reasonable amount of time to reinvest the proceeds may sometimes be as long as 2 years.” Thus, the remaining, unused portion of the sales proceeds was held as exempt. In addition, the Court reasoned that, if the debtor desired to maintain the exempt status of the proceeds after the two years, he could file an appropriate motion to have the Court determine whether to grant additional time.
(7) Zivitz v. Zivitz, 16 So. 3d 841 (Fla. 2d DCA 2009). A writ of garnishment was entered against the defendant. The defendant failed to file a claim of exemption within the time frame set forth in the notice. The defendant and his wife deposited proceeds from the sale of their home into an account that was subject to the writ. The defendant argued that the proceeds were protected under homestead law. The court held that the garnishment defendant must be proactive in protecting his property from garnishment and therefore the defendant's failure to file an exemption for his homestead proceeds caused him to lose such protection.
6. Class of persons entitled to Homestead Protection.
a. In November 1984, Florida voters passed a constitutional amendment expanding the class of persons protected by the exemption. Those whose homesteads were protected from forced sale expanded to include “a natural person,” rather than the previous “head of a family.” The constitutional amendment also limited the manner in which a homestead owned by a natural person, not also the head of a family, may be devised.
b. Then in 1997, the Florida Supreme Court broadened the category of persons who would be entitled to protection from forced sale of homestead property. The Court looked to Article X, Section 4 of the Florida Constitution for purposes of determining who was entitled to homestead protection. The Court held the word “heirs” in Article X, Section 4, is not limited to only those persons who would actually take the homestead by the laws of intestacy on the death of the decedent. Instead, the decedent may devise the homestead by will (provided there is no surviving spouse or minor child) to any of the class of persons categorized in section 732.103 (Florida’s intestacy statute), and anyone in that class should be afforded the homestead exemption protecting their homestead from forced sale.
i. Carl S. Traeger v. Credit First National Association, Etc., 864 So. 2d 1188 (Fla. 5th DCA 2004). The court held that the probate court erred in distinguishing the level of hierarchy on the intestacy statute to which an heir belonged when determining whether the heir was entitled to inherit homestead protected property. The homestead protection with its accompanying protection from creditors may be devised by a decedent through a will to any family members within the class of persons categorized in the intestacy statute, provided there is no surviving spouse or minor children.
ii. One reason for expanding the definition of “heirs” the Court reasoned was because the testator should not have to guess which of his potential heirs will actually be the closest living relative to survive him at the date of his death. Snyder v. Davis, 699 So. 2d 999 (Fla. 1997). The Third District Court of Appeal relying on Snyder went one step further. The court held that a child who was treated by the decedent as his own, was told by the decedent that he was going to adopt her, but who failed to be adopted prior to the decedent’s death, was the “virtually adopted” daughter of the decedent. Consequently, the child was entitled to receive the decedent’s property under Florida’s intestacy statutes and was considered an “heir” for purposes of Florida’s homestead provision. See also, Williams v. Dorrell, 714 So. 2d 574 (Fla. 3d DCA 1998).
7. Legislative Attacks.
a. State Law. Federal law (including bankruptcy law) defers to state law. State law defines the value of a homestead that can be protected. As discussed above, Florida law is viewed as particularly generous and places no dollar limitation on the value of a protected homestead. While the protection offered by Florida law appears fairly stable since it is constitutionally protected, many believe it is unjust to allow a debtor with a multi-million dollar homestead to avoid a judgment, especially if the judgment was the result of gross negligence or an intentional tort. In order to change the homestead protection offered to Florida homeowners, legislative action as well as a referendum requiring the approval of Florida voters would be mandated.
It is worth noting, however, that Florida’s unlimited exemption has been placed in jeopardy on both a state and federal level beginning with the 1993 Florida Legislative Session. During the 1993 session, State Representative Robert Trammell sponsored a proposed constitutional amendment that passed the House and died in the Senate, which would have limited a homeowner’s exemption to the first $250,000 of home equity. (Consequently, a creditor who won, for example, a $500,000 judgment against a homeowner with $500,000 in equity, could force the homeowner to sell the house. The proceeds could then be split, perhaps, under a ‘net sales price’ formula as explained in Quareshi, above.)
b. Federal Law. See Exhibit B and Exhibit C for details of how the 2005 Bankruptcy Act will limit homestead planning for those seeking to move to Florida or any other state with generous homestead laws close in time to the filing of bankruptcy. Below are examples of application of the 2005 Bankruptcy Act on homestead protection.
i. Because the enactment of the 2005 Bankruptcy Act is so recent, there are a number of unresolved issues, such as whether Florida residents are excluded from the provisions of the Bankruptcy Act. See Exhibit B for a discussion of In re McNabb, 326 B.R. 785 (Bankr. D. Ariz. 2005), and In re Kaplan, 331 B.R. 483 (Bankr. S.D. Fla. 2005), the first two cases addressing the application of the 2005 Bankruptcy Act to states with generous homestead exemptions.
Following the analysis in In re Kaplan, Judge Friedman, in the case of In re Wayrynen, 332 B.R. 479 (Bankr. S.D. Fla. 2005), looked to legislative history to determine whether Florida residents are excluded from the limitations on homestead provided in § 522(p)(1). However, in an effort to reconcile the In re McNabb and Kaplan decisions, the court uses a different definition for “electing in” by focusing on the debtor’s actions in Florida. According to the court, a Florida debtor elects in by: (1) having chosen to reside in the State of Florida; (2) having chosen to purchase a residence in the State of Florida; (3) having chosen to make the residence his/her permanent residence; and (4) having availed himself/herself of the relief available under Title 11, United States Code. While Judge Friedman holds that the 2005 Bankruptcy provisions apply to opt out states, such as Florida, he also clarifies the tacking period where a homeowner who has lived in Florida for 1,215 days or more may have moved from different Florida homesteads on more than one occasion prior to the bankruptcy filing. The opinion interprets §522(p)(2)(B) in favor of a homeowner by allowing the tacking of days of previous intra state home ownership. The Wayrynen Court held that the relief afforded under §522(p)(2)(B) is not limited solely to a debtor’s immediate previous residence, but applies to the value of his present residence attributable to his accrual of equity throughout his ownership of previous residences located within the State of Florida.
The holdings of Kaplan and Wayrynen have been reinforced by a recent bankruptcy case interpreting §522(p)’s $125,000 cap on homestead exemption. In In re Landahl, 338 BR 920 (Bankr. M.D. Fla. 2006), decided on March 2, 2006, the debtor acquired his interest in the property by inheritance less than 1,215 days before the bankruptcy petition was filed. The court follows the reasoning in Kaplan and Wayrynen to look to legislative history to interpret the “as a result of electing” language in §522(p). Judge May concludes that “electing” is not the “choice of exemption schemes in Section 522(b)(1)” but instead is linked to subsection (b)(3)(A). This means that the phrase references a state law exemption scheme, not to the “choice between the Federal Exemptions and state law exemptions.” He further concludes that the word “electing” could be read simply to mean the debtor’s act of claiming exemptions for homestead property under state law in any given case. It should be noted that in the prior cases interpreting the homestead cap of the 2005 Bankruptcy Act, the debtors acquired their homestead by purchasing it. However, in Landahl, the debtor acquired his home by inheritance. Therefore, it would seem that the cap on homestead exemption applies regardless of how the property was acquired.
ii. On April 6, 2006, in In re Buonopane, 344 B.R. 675 (Bankr. M.D. Fla. 2006) the Court declined to follow In Re McNabb and held that the limitation under § 522(p) of the Bankruptcy Code, which limits the amount of immunity a debtor is entitled to claim under Florida’s homestead protection, to $125,000 if the property was acquired within the 1,215 days of the filing date, applies in Florida. The Court did, however, recognize that under §522(p)(2(B) the exemption would not apply to debtors whose previous and current residences were in the same State if the interest in the property was transferred from another residence that was acquired before the 1,215 day period began. However, on June 1, 2006, 344 B.R. 675 (Bankr. M.D. Fla. 2006), in the Motion to Alter or Amend the Order, the Court again considered whether the debtor, whose prior interest in the property was as a beneficiary of a trust, could claim that his current tenancy by the entirety interest in the property was exempt because his prior and current interest in the trust were in property within the same state. The Court held that, while an interest as a beneficiary of the trust was enough to support a claim for homestead, it would not in this case because the debtor’s principal place of residence was not this property while he had an interest in the trust. The court noted that the debtor stated under oath that debtor resided in Massachusetts until 2005 and accordingly, debtor’s interest in the trust was not as a principal residence. In a more recent case, In re Rasmussen, below, the Court once again agreed with Buonopane and Wayrenen, stating that the limitation under § 522(p) would apply to homestead protection in Florida.
iii. After debtor amended his claim to address tenants by the entirety issues the Court in In re Buonopane: 359 B.R. 346 (Bankr. M.D. Fla. 2007) determined that the $125,000 limitation provided in § 522(p) of BAPCPA does not apply to Tenants by the Entirety property. The Court stated that nothing in the legislative history of BAPCPA suggested that the $125,000 cap on the homestead exemption should also limit that property excluded under § 522(b)(3)(B), which exempts property that is exempt under applicable nonbankruptcy law of the debtor’s state of residence. It stated that the limitation applied solely to property that was exempt under the state exemption law and not that property that was exempt under applicable nonbankruptcy law. The opinion states:
“There is nothing in the legislative history which in any way indicates that these new limitations were directed to Florida’s law on tenancy by the entirety property.”
NOTE: This case and In re Schwarz, discussed above (reaching the same conclusion regarding entirety property) were issued on the same day, January 26, 2007.
iv. On October 16, 2007, the Court in In re Reinhard: 377 B.R. 315 (Bankr. N.D. Fla. 2007), looked at the issue of whether or not the $125,000 cap applies to a residence owned for more than 1,215 days prior to the bankruptcy filing, but which does not attain homestead status for the entire 1,215 days. Debtor and his wife acquired title to the property (“Seaside”) on February 24, 1995; however, they resided at another property within the state until on or around June 30, 2005. Just a few months after the move and within the 1215 day period debtor filed voluntary Chapter 7 on November 3, 2006, debtor and his wife moved to Seaside and designated it their homestead. The Court looked at whether the move and subsequent designation of the property as the debtor’s homestead, amounted to an acquisition of “any amount of interest.” According to §522(p)(1)(D) “a debtor may not exempt any amount of interest that was acquired by the debtor during the 1,215 day period preceding the date of filing of the petition that exceeds the aggregate $125,000 in value… real or personal property that the debtor or a dependant of the debtor claims as homestead.” In this case, the debtor owned Seaside since 1995 and he did not transfer any non exempt assets into the homestead during the 1,215 day period. In addition, the debtor did not move from another state, both of the properties were Florida real estate. According to §522(p)(2)(B) “the amount of interest limited by the $125,000 cap does not include any interest transferred from a debtor’s previous principal residence to the current principal residence when both are located in the same state.” Furthermore, the Court concluded that “[t]he acquisition of homestead status does not confer any additional property interest or rights in the property.” “The acquisition of homestead status is not…one of the types of property to which the monetary limit applies.” Accordingly, homestead under Florida law is not a property interest; it only exempts the existing share in the property from forced sale and limits its alienability. Therefore, the Court ruled that the debtor did not acquire any amount of interest and the protection was not limited to the $125,000 cap.
v. The United States Court of Appeals for the Fifth Circuit, in a case originating in Texas, followed the reasoning in In re Reinhard, above, in In re Rogers, 513 F.3d 212 (5th Cir. 2008), protecting Texas real property inherited by the debtor several years before filing, but only designated as the debtor’s homestead upon her divorce just before filing for bankruptcy. Thus, it appears that the Florida homestead and tenants by the entirety cases may provide a roadmap and guidance for states with similar homestead and tenants by the entireties laws. See also Parks v. Anderson, 406 B.R. 79 (D. Kan. 2009), applying Kansas law.
vi. Another topic of concern is whether mere appreciation of the homestead property within the 1,215-Day period prior to filing a bankruptcy petition should be considered an interest in the property that was acquired during the 1,215-day period to the extent the value of that interest exceeds $125,000. The Bankruptcy court in In Re Blair, 334 B.R. 374 (Bankr. N.D. Tex. 2005), determined that the increase in equity in a homestead during the 1,215-day period is not subject to the $125,000 statutory cap and therefore is exempt. Section 522(p) provides that “a debtor many not exempt any amount of interest that was acquired by the debtor during the 1,215-day period.” Judge Hale determined that the “interest” acquired was the actual purchase of the home. He stated that a person does not acquire equity in a home, but instead acquires title to a home. Debtors, in this case, acquired title to their home 1,773 days prior to the Petition Date. Therefore, their homestead was protected and not subject to the $125,000 cap. This holding also has support from other parts of section 522(p), such as § 522(p)(2)(B) which allows for rollover by debtors of the equity in one home to another located in the same state. If debtors sold their home and bought another during the 1,215-day period, they would have been protected. So, debtors who do not sell and instead build equity in their own home should also be protected. On March 21, 2006, In In re Thomas William Sainlar and Sheryl A. Sainlar, 344 B.R. 669 (Bankr. M.D. Fla. 2006), the Court determined that the $125,000 cap would not apply to increases in equity during the 1,215 day pre-petition homestead period. The debtors, who had moved to their homestead in 2001, filed for bankruptcy in 2005. At the time the debtors filed for bankruptcy, the homestead had increased in value, resulting in $920,000 in equity. The creditor filed an objection to the exemption claiming that increases in equity should be considered “interests” acquired within the 1,215 day period. The debtors, citing In re Blair, argued that increases in equity, even if the result of mortgage payments, should not be an interest which triggers the $125,000 cap in § 522(p). The Court agreed with the debtors and ruled that the $125,000 cap is not applicable to increases in equity during the 1,215 day pre-petition period.
On September 8, 2006, the Court in In re Rasmussen, 349 B.R. 747 (Bankr. M.D. Fla. 2006), also agreed that increases in equity during the 1,215 day pre-petition period were not subject to the $125,000 cap in § 522(p). The Court first determined that cases such as In re Buonopane and In re Wayrenen, which rejected In re McNabb were correct and that § 522(p) should apply in Florida, regardless of the fact that Florida residents cannot chose between the federal and state exemptions. Therefore, the Court turned its attention to the application of § 522(p). It then held that joint debtors, including spouses, are entitled to “stack” their $125,000 exemptions, totaling $250,000 for the married couple. The Court cited various situations, including the language of §522(m), which provides that the provisions of § 522 should be applied separately, in which each spouse is recognized separately under bankruptcy law and determined that nothing in § 522(p) indicated anything to the contrary. In addition, the Court considered whether appreciation should count toward the $125,000 cap. Citing In re Sainlar and In re Blair, the Court agreed with the overall conclusions, but distinguished the cases by stating that the “interest” was not the ownership interest in the home, but instead was equity in the homestead acquired in the 1,215 day pre-petition period. It stated that “passive appreciation in a homestead was not the target of legislation; rather, the active acquisition of equity in an exempt homestead shortly before filing for bankruptcy was the focus of the new provision.” Thus, the Court ultimately ruled that each debtor may separately state their $125,000 exemption, and that to the extent equity in a home is derived by appreciation in a homestead, such appreciation would not constitute an interest under § 522(p). For a more in depth discussion of this case, see Barry A. Nelson, Rasmussen Court Allows Both Spouses $125,000 Exemptions and Protects Appreciation within 1,215 Days of Bankruptcy, 81 FLA. BAR J. 43 (Jan. 2007) attached as Exhibit C.
Query: It would still seem that prepayment of a mortgage on a property within the 1,215-day period would be considered an “acquisition” and will not enhance homestead protection. (See In Re Chauncey, discussed below in sub paragraph IV.A.7.c.ii. “Courts Limit Use of the Homestead Exemption,” “The Exception.” In addition, in a footnote, the Rasmussen court stated that amortized principal from regular monthly mortgage payments was also considered an “acquisition” that would be included in the $125,000 cap on homestead protection. (See In Re Rasmussen, fn 5).
vii. Again in In re Limperis, 370 B.R. 859 (Bankr. S.D. Fla. 2007), the Court was asked the same question as in Rasmussen, whether debtors, filing jointly, could stack the homestead exemption of $125,000 to reach a total of $250,000 exemption. The Southern District agreed with the ruling of the Middle District in Rasmussen stating: "This Court finds that the reasoning and conclusion of the Rasmussen court are persuasive and adopts them in toto."
viii. However, In re Mathews, 360 B.R. 732 (Bankr. M.D. Fla. 2007) (remanded on other grounds, see 382 BR 526 (2007)), held without reference to Rasmussen, that there is no violation of Bankruptcy Code Section 522(o) –ten year look back period- (thereby protecting the homestead including the equity gained by partial mortgage loan satisfaction) where there was a mortgage payment on a homestead from other exempt property within 1,215 days of the bankruptcy filing. Possibly the reason Rasmussen was not cited was that the prepayment was only $71,000.
ix. In In re Leung, 356 B.R. 317 (Bankr. D. Mass. 2006), the Court held that the 1,215 day pre-petition period would apply to a debtor who had lived in the homestead property for the entire 1,215 days, but acquired title to the property outside of the time period. In re Leung is a Massachusetts case in which the debtor and his wife purchased a home as tenants by the entirety for $210,000. The debtor and his wife three years later transferred the home solely to the debtor’s wife for $1.00. Subsequently, the debtor’s wife transferred the property back to herself and the debtor as tenants by the entirety for $1.00. At the time of the third conveyance, the debtor filed a Declaration of Homestead and a few months later filed for bankruptcy. In his bankruptcy petition, the debtor reported that his one half share of the property was worth $187,500 and that the entire amount was exempt from his creditors under Massachusetts homestead laws. The bankruptcy trustee filed an objection, claiming that the debtor acquired his present interest within 1,215 day pre-filing period under BAPCPA and that the property should therefore be limited to the $125,000 cap. The debtor argued that the transferred property should not be subject to the cap because the property had been his primary residence prior to the commencement of the 1,215 day period, he had contributed to the upkeep while his wife held sole title and he held legal title with his wife prior to her obtaining sole legal title. The Court held that “if the transferee spouse does not already hold legal title to the homestead property, the transferred property is subject to Section 522(p)(1), and, in the event that the transferee spouse files for bankruptcy within 1,215 days after the transfer, the property will be subject to the $125,000 cap. The statutory cap would apply even if the homestead property had been the primary residence of the transferee spouse well before the start of the 1,215 day period and even if he or she had once had legal title to the property, either individually, as a joint tenant with right of survivorship, or as a tenant by the entirety with his or her spouse.”
a. Judgments. Several cases have determined homestead protection may be impacted by the timing of a judgment. If the creditor records a judgment prior to the time homestead status is established, the homestead is subject to levy.
i. In Wechsler v. Carrington, 214 F. Supp.2d 1348 (S.D. Fla. 2002), the Court held that if a judgment is recorded prior to the time the debtor has established a homestead, homestead property is subject to levy under Florida law. Defendant cannot claim condominium as his homestead under Florida law because evidence shows that he did not have the intent to permanently reside in the condominium and did not actually use and occupy the condominium until after foreign judgment was recorded in Florida. The Florida Supreme Court stated that a residence where a party does not yet live but which is being prepared by party for use as a home can qualify as homestead does not support argument that condominium qualifies as homestead, where creditor has shown that debtor did not possess intent to occupy the condominium immediately, and introduced evidence of specific acts that are contrary to an intent by debtor to reside permanently at the condominium.
ii. In In re MacGillivray, 285 B.R. 55 (Bankr. S.D.Fla. 2002), the Court concluded that if a judgment is recorded prior to the time the debtor has established a homestead, homestead property is subject to levy under Florida law. The creditor maintained a judgment, which was recorded against the debtor two years prior to the debtor acquiring a homestead. At the time debtor acquired homestead, the lien attached to it. The court concluded that the debtor is not entitled to avoid a lien pursuant to 11 U.S.C. § 522(f) when the debtor did not own a homestead prior to the lien being recorded. “In order to avoid a creditor’s lien, the debtor must demonstrate that the lien is a judicial lien which fixed on an interest of the debtor in property, and which impairs the debtor’s exemption. The critical inquiry is whether the debtor ever possessed the interest to which the lien fixed, before it fixed. The statute therefore requires that the debtor have a pre-existing ownership interest in the property.”
iii. However, in In re Perez, 391 B.R. 190 (Bankr. S.D. Fla. 2008), a judgment creditor recorded a certified copy of his claim against the defendant. At the time of the judgment, the defendant did not own property in the county, so there was no property upon which to attach a lien. The debtor subsequently purchased homestead property in the county. Therefore, homestead status and the lien were created simultaneously. The debtor later filed for bankruptcy and sought to avoid the lien pursuant to 11 U.S.C. §522(f). The court held that homestead status takes priority over the lien so long as the homestead status is created before or simultaneously with the lien.
b. Prohibiting Fraud and Egregious Conduct.
i. Homestead laws are scrutinized by the courts to prevent the use of the exemption as an instrument of fraud upon creditors. Simpson v. Simpson, 123 So. 2d 289, 294 (Fla. 2d DCA 1960) and In re Englander, 95 F.3d 1028, 1031, (11th Cir. 1996) aff’g 156 B.R. 862 (Bankr. M.D. Fla. 1992).
ii. In In re Financial Federated Title & Trust, Inc., 273 B.R. 706 (Bankr. S.D. Fla. 2001), aff’d., 347 F.3d 880 (11th Cir. 2003), the court authorized a Bankruptcy Trustee to impose an equitable lien and constructive trust on the proceeds from the sale of a homestead property on the grounds that most, if not all, of the funds used to purchase the property could be traced directly back to fraud. The court cited extensively to Jones v. Carpenter, 90 Fla. 407 (Fla. 1925) in which the Florida Supreme Court stated that the homestead exemption “cannot be employed as a shield and defense after fraudulently imposing on others.”
iii. In In re Magpusao, 265 B.R. 492 (Bankr. M.D. Fla. 2001), to prevent unjust enrichment, the court authorized an equitable lien imposed on a homestead purchased with embezzled funds. It would appear that the result of an equitable lien is a creditor may not foreclose on the homestead, but rather may collect upon a sale, assuming there is enough equity in the home.
iv. In In re Thiel, 275 B.R. 633 (Bankr. M.D. Fla. 2001), an equitable lien was imposed on homestead property when the proceeds of fraudulent conduct were traced to paying off a mortgage on homestead property. Some fraudulent or otherwise egregious act by the beneficiary of the homestead protection must be proven. It would appear that the result of an equitable lien is a creditor may not foreclose on the homestead, but rather may collect upon a sale, assuming there is enough equity in the home.
v. A Florida Appellate Court has found that an ex-spouse may be able to force the sale of homestead by demonstrating fraud or reprehensible conduct. In Partridge v. Partridge, 790 So. 2d 1280 (Fla. 4th DCA 2001), the court awarded the husband the home in a dissolution of marriage settlement, subject to an equitable lien to secure payment of other awards to the wife. Husband failed to make support payments and wife argued that she was entitled to foreclosure of the lien. Husband claimed the homestead exemption under Article X, Section 4 of the Florida Constitution. The court ruled that the constitutional exemption is not absolute and an equitable lien can be imposed against such property if a plaintiff can prove fraud or “reprehensible conduct.” In this case, the court stated wife’s supporting affidavits in support of her motion for summary judgment were insufficient to support a claim that husband acted “egregiously, reprehensibly, or fraudulently” to justify a forced sale of the homestead. See also Isaacson v. Isaacson, 504 So. 2d 1309 (Fla. 1st DCA 1987).
vi. In re Jordan, 335 B.R. 215 (M.D. Fla. 2005), held that the debtor could not claim a homestead exemption on property that they attempted to conceal from creditors. On their original schedule of Assets, debtors failed to schedule a property located in Punta Gorda, Florida, and failed to disclose any ownership interest in the property. They also testified, at a meeting of creditors, that they leased this property from their sister-in-law; the debtor signed the contract to purchase in the name she used in the bankruptcy proceeding, but took title in a different name; and used a different social security number when she purchased the property than what she listed on her bankruptcy petition. The court said that the debtors “played footloose and fancyfree with the system” and therefore, their actions “do not merit and imprimatur and recognition of a homestead claim on property which she consistently attempted to conceal” from creditors.
vii. On March 10, 2006, in Zureikat v. Al Shaibani, 944 So. 2d 1019 (Fla. 5th DCA 2006), the court enforced an equitable lien imposed on homestead property. Creditor loaned debtor money in order to purchase real property. The funds were instead used for debtor’s personal benefit and the loan was not paid back. Creditor obtained a judgment against debtor and, in order to satisfy the judgment, the trial court imposed an equitable lien on debtor’s residence. The Appellate Court determined that debtor had engaged in fraudulent or reprehensible conduct to invest in, purchase or improve his homestead. Debtor concealed the existence of a bank account into which he had deposited the money from the loan and from which he extracted the funds to purchase and improve his homestead. The court found that concealing material facts with respect to debtor’s available assets and existing checking accounts is a showing of fraud, misrepresentation and/or affirmative deception, which warrants the imposition of an equitable lien.
viii. In In re: Gosman: 362 B.R. 549 (Bankr. S.D. Fla. 2007), the Court declined to allow an equitable lien to be placed on property for a breach of contract. In Gosman, the debtor entered into a “Negative Pledge Agreement” with Chase on April 15, 1999 under which the debtor agreed that he would not sell, convey or encumber any of his assets without the consent of Chase. The debtor allegedly violated the terms of the agreement by encumbering his homestead residence with a $17 million mortgage, which was used to pay off the sale of another residence and to pay $2 million to his alleged wife. The Court refused to grant an equitable lien on the homestead property. The Court determined that an equitable lien could only be placed on a homestead property if the monies that were used to purchase the homestead were obtained fraudulently or through egregious conduct. The Court did not believe that the circumstances warranted an equitable lien for either of these circumstances. While the Court recognized that there may have been a breach of contract, this breach did not warrant what an equitable lien on the homestead property as allowed by the Florida Supreme Court.
ix. See Exhibit B for a discussion of the 10 year lookback for fraudulent conveyances under the 2005 Bankruptcy Act.
c. The Exception. Under existing Florida law, even non-exempt funds intentionally converted into homestead acquire homestead protection provided they were not procured by fraud. In Havoco of America, Ltd. v. Hill, 197 F.3d 1135 (11th Cir. 1999) the court considered whether the debtor’s purposeful conversion of nonexempt funds into his Florida homestead should eliminate the homestead exemption. In other words, can a debtor take funds that would otherwise be available to a creditor, invest those funds in a homestead, even though the reason the funds are invested in the homestead is to keep them away from the creditor, and still receive the benefit of the homestead exemption?
i. The Eleventh Circuit certified the following question to the Florida Supreme Court: Does Article X, Section 4 of Florida Constitution exempt a Florida homestead where the debtor acquired the homestead using non-exempt funds with the specific intent of hindering, delaying or defrauding creditors in violation of Fla. Statutes § 726.105, § 222.29 or § 222.30?
ii. The Florida Supreme Court in Havoco, 790 So. 2d 1018 (Fla. 2001), said yes, the homestead is still exempt. The Court determined that the debtor’s conversion of funds to avoid a creditor was not one of the three exceptions enumerated in the Constitution. The three exceptions under the Florida Constitution under which a forced sale of a homestead may take place are (1) payment of taxes and assessments thereon; (2) obligations contracted for the purchase, improvement or repair thereon; or (3) obligations contracted for house, field or other labor performed on the property. Id. at 1022.
The appellate court noted that the danger of fraudulent or otherwise egregious conduct is that the Bankruptcy Court may choose to withhold, discharge or dismiss the bankruptcy altogether. Havoco, 197 F.3d 1135, 1143 n.12.
In spite of Havoco’s ruling, the bankruptcy court in In re Chaunsey, 308 B.R. 97 (Bankr. S.D. Fla. 2004), permitted an equitable lien to be imposed on debtor’s homestead. The court found that debtor intentionally timed the filing of her bankruptcy until after she received funds which were then transferred to pay off a portion of her mortgage. Accordingly, the court cited Havoco for the proposition that debtor’s conduct was so fraudulent or egregious as to require the court using equitable principles to impose the lien. It should be noted that Havoco stated that debtor’s conversion of funds when purchasing a home was not one of the exceptions to the homestead exemption and not egregious enough for the court to utilize equitable principles. In Chaunsey, the funds converted were not used to purchase the home, but were used to satisfy a mortgage on a home to increase the equity in the homestead property.
However, see Willis v. Red Reef, Inc., 921 So. 2d 681 (Fla. 4th DCA 2006), decided January 25, 2006, which also relies on the holding in Havoco, without mention of Chaunsey. The court in Willis did not impose an equitable lien on a homestead where homeowners paid off their mortgage with proceeds from a sale of a commercial building owned by their corporation. Even though the court admits that the homeowners “fraudulently diverted” the sale proceeds to pay off their mortgage, no equitable lien was imposed because the proceeds were not “obtained through fraud or egregious conduct.” The Court also says that “non-exempt assets may be converted into an exempt homestead even if this is done with an actual intent to hinder, delay, or defraud creditors” as long as the obtaining of the funds was not done fraudulently. It should be noted that Chaunsey was a bankruptcy case whereas Willis is a Florida state court case.
iii. Conseco Services, LLC, v. Cuneo, 904 So. 2d 438 (Fla. 3d DCA 2005), bolsters the finding in Havoco that “absent one of the three constitutional exceptions, an equitable lien is not permitted against homestead property unless the funds used to invest in, purchase or improve the homestead were obtained through fraud or egregious conduct.”
iv. Relying on the holdings of both Havoco and Cuneo, the court in Pelecanos v. City of Hallandale Beach, 914 So. 2d 1044 (Fla. 4th DCA 2005), determined that the appellants’ conduct in not following orders of the trial court did not “directly or indirectly fund the purchase or improvement of the property” and, therefore, the City could not impose an equitable lien on the proceeds from the sale of the homestead property in order to satisfy their code enforcement liens. Following this same reasoning, the court in In re Johnson, 336 B.R. 568 (Bankr. S.D. Fla. 2006), stated that in order to warrant the imposition of an equitable lien, the funds to be paid to the creditor “must be directly traceable to the real property in question” because those funds were used to unjustly enrich the debtor’s interest in that property. If the funds cannot be traced directly to the property, then like Pelecanos and Johnson, an equitable lien will not be imposed on the homestead. It should be noted that Johnson was a pre-2005 Bankruptcy Act case as the bankruptcy petition was filed prior to the effective date of the homestead provisions of said Act.
v. On July 7, 2006, in Chauncey v. Dzikowski, 454 F.3d 1292 (11th Cir. 2006), the debtor sought to protect her homestead from her creditors. When the debtor filed for bankruptcy in 2002, she owned a home in Lake Worth, Florida. In March of 2002 the debtor filed a personal injury suit against Eclipse Marketing and a judgment was entered in favor of the debtor in October 2002. In November 2002, the suit was settled for $80,000. The debtor did not take possession of the settlement proceeds, but instead, after paying fees and costs, directed her attorney to remit the proceeds directly to the mortgagee of her homestead, who then applied the proceeds directly to the mortgagee of her homestead, who then applied the proceeds to pay off the existing balance of her mortgage. On December 31, 2002, debtor filed bankruptcy. The debtor denied any intent to deceive, defraud, or hinder her creditors. Citing Havoco, the Court determined that the debtor’s actions did not warrant the imposition of an equitable lien on the debtor’s homestead because the funds to pay down the mortgage were not obtained through fraud or wrongdoing, but through a personal injury suit. The Court acknowledged that the debtor’s delay in filing was “blatantly a move to deceive her creditors and one made in bad faith,” but stated that it was not one rising to the level of fraud or behavior warranting an equitable lien.
vi. BEWARE! The possibility that the Bankruptcy Trustee or even the creditor will be successful in requesting the Bankruptcy Court to dismiss a bankruptcy petition or withhold discharge is very real. The consequence of such action would be to allow the creditor’s claims to survive the bankruptcy. Marine Midland Bank, N.A. v. Mellon, 160 B.R. 860 (Bankr. M.D. Fla. 1993) (denying discharge under 11 U.S.C. § 727(a)(2)(A) when the “debtor who clearly by law is entitled to convert nonexempt assets to exempt assets did so in this case with a fraudulent intent”); In re Hendricks, 237 B.R. 821, 826 (Bankr. M.D. Fla. 1999); In re Young, 235 B.R. 666, 671 (Bankr. M.D. Fla. 1999). It should also be noted that the possibility exists for the separate cause of action of creditor fraud discussed below.
vii. The court in In re Smith, 359 B.R. 825 (Bankr. M.D. Fla. 2006) disallowed a bankruptcy discharge. The debtor in In re Smith, within one year of her bankruptcy filing, transferred money to two entities with the intent to purchase real property. In addition on March 1, 2003, the debtor transferred funds to National City Mortgage to pay off the mortgage on his real property located in Florida. The Court determined that these conveyances were with the intent to hinder, delay, or defraud the debtor’s creditors. At the time relevant the debtor and his wife were both residents of the state of California. The debtor had been involved in an investment scheme and there were various suits filed against the debtor in California in mid 2002. In October of 2002, the debtor and his wife traveled to Florida, opened a bank account and met with a bankruptcy attorney. In addition, after the meeting, they each obtained a Florida drivers license stating that their residence was Ft. Myers, Florida, and purchased real estate. A month later, they listed their California home for sale. In December 2002, the Florida home closed and the debtors contracted to sell their California home. During deposition in December 2002, the debtors stated that they continued to reside in California and that they had no intent to move. In January of 2003, the debtors moved to Florida, and sometime between then and March they inquired about satisfying the mortgage on the Florida property. They also sought to amend their prior deposition stating that their intent had changed. In April 2003, the couple paid off the mortgage on the Florida residence. The debtor claimed the motivation for the move was family, however the Court did not agree, claiming that the debtors transferred the assets with the intent to hinder, delay or defraud creditors under 11 U.S.C 727(a)(2)(A). Thus, the debtor was not entitled to a discharge under the bankruptcy law.
viii. In In re Kurzon, 399 B.R. 274 (Bankr. M.D. Fla. 2008), the debtor had previously acted as personal representative for his aunt’s estate. During his service as personal representative, the debtor was removed from his fiduciary role for a number of bad acts including commingling estate assets with his personal funds, failing to keep records, and failing to make any distributions to the other beneficiary even after being ordered to do so by the court. Due to these events, the probate court ordered the debtor to pay the other beneficiary $60,000 plus interest. The debtor then filed for bankruptcy. Under Bankruptcy Code section 523(a)(4), debts will not be discharged arising from fraud or defalcation (the failure to produce funds entrusted to a fiduciary) while acting in a fiduciary capacity. Under Florida Statute § 733.602, a personal representative is a fiduciary. Therefore, based on the facts of the case, the court held that debt was not dischargeable under section 523(a)(4).
ix. In In re Champalanne, 425 B.R. 707 (Bankr. S.D. Fla. 2010), the debtors created a Family Trust after defaulting on a loan. The Trust sold the debtors’ California residence, and then took proceeds from the sale and bought real property in Vero Beach, Florida. After the Family Trust conveyed the Florida property to the debtors, the trustee filed a complaint against the debtors to avoid and recover the allegedly fraudulent transfers. Relying on Havoco, the court held that the debtors were entitled to the homestead exemption. The trustee could not avoid the allegedly fraudulent transfers or impose a lien on the property because none of the three exceptions to the homestead exemption applied, and the debtors did not use fraudulently obtained funds to purchase the California or Florida Properties. In re Garcia, 2010 Bankr. LEXIS 2194 (Bankr. S.D. Fla. July 6, 2010), did not follow Champalanne and Havoco. Here, the debtors used proceeds from the sale of an investment property to purchase a homestead. The bankruptcy trustee objected to the debtors’ homestead exemption, claiming that the debtors placed the investment proceeds in their homestead with the intent to hinder, delay or defraud creditors in violation of 11 U.S.C. § 522 (o) (4). Relying on Havoco, the debtors insisted that even if they placed the investment proceeds in the homestead with the intent to hinder, delay and defraud creditors, the homestead was nonetheless inviolate. The court sided with the trustee and ruled that § 522 (o) supersedes the Florida Constitution due to the Supremacy Clause. “[T]he virtually limitless Florida homestead law prompted the enactment of section 522(o)...[a]ccordingly, by virtue of the Supremacy Clause, 11 U.S.C. § 522(o) preempts Florida’s constitutional homestead exemption.” Id. at *7-8.
d. Conversion of Exempt Assets into Homestead.
i. There appears to be a potential difference in the conclusion as to whether a transfer of exempt property into homestead can be set aside depending on whether the case is in state court or Bankruptcy Court. Florida case law supports the position that the transfer of exempt property into homestead cannot be set aside even if the debtor has actual intent to defraud. In Sneed v. Davis, 135 Fla. 271 (Fla. 1938) the Florida Supreme Court stated that “…a debtor in disposing of property can commit a fraud on creditors only by disposing of such property as the creditor has a legal right to look for satisfaction of his claim, and hence a sale, gift, or other disposition of property which is by law absolutely exempt from the payment of the owner’s debt cannot be impeached by creditors as in fraud of their rights. Creditors have no right to complain of dealings with property which the law does not allow them to apply on their claims, even though such dealings are with a purpose to hinder, delay, or defraud them.” Id. at 277-278. In a more recent case In re Goldberg, 229 B.R. 877, 882 (Bankr. S.D. Fla. 1998), the Court determined that a debtor could not have formulated the fraudulent intent necessary to commit a fraud on his or her creditors if the source of the conversion was an exempt asset. The court determined that exempt assets were out of the reach of creditors as a matter of law. Id. at 882. However the opinion in In re Rasmussen, discussed above, the first post BAPCPA case addressing this issue, stated that homestead value acquired by a debtor from money attributable to exempt assets is not exempt if the homestead property was acquired within 1215 days of a bankruptcy filing. (See Exhibit C).
ii. Orange Brevard Plumbing, 137 So. 2d 206 (see discussion in Section IV.A.5.d.i above), held that monies coming from the sale of a homestead will only be protected from creditors if set up under a non-commingled dedicated account from the replacement of the homestead and then used for that purpose within a reasonable amount of time. In In re Simms, 243 B.R. 156 (Bankr. S.D. Fla. 2000), the court found that homestead proceeds only retain their exempt status when rolled into another homestead, and therefore, even where debtors sold their homestead and transferred the proceeds directly into an annuity, the proceeds were non-exempt pursuant to Orange Brevard.
iii. In In re Vick, 2008 Bankr. LEXIS 1878 (Bankr. S.D. Fla. June 16, 2008), after the debtor filed for bankruptcy relief, she obtained an order from the court that allowed her to sell her residential property that she claimed as a homestead. After the sale, the debtor took the $61,688 in proceeds and placed it in a trust account with her counsel. The bankruptcy trustee objected to the claimed homestead exemption and sought a turnover of the escrow proceedings. The court held that the debtor's property was exempt homestead property under Florida law as of the petition date, even if a contract for sale existed on the petition date. The court rejected the trustee's argument that the debtor was required to reinvest the proceeds of the postpetition sale of her homestead into another homestead within a period of time or suffer the loss of the exemption. The sales contract did not constitute an abandonment of the property and the claimed homestead exemption was allowable under U.S. Const. art. § X, § 4. The trustee’s attempt to reach into the future to recover post-petition assets for the payment of pre-petition debts was unauthorized and against the policies upon which the Bankruptcy Code is premised.
e. Tax Liens and Federal Preemption Statutes.
i. The U.S. Supreme Court recently limited the protection granted by tenants-by-the-entirety property. In United States v. Craft, 535 U.S. 274 (2002), the Court stated that tenants-by-the-entireties property is not immune from certain creditors. The Court stated that the IRS was able to reach tenants-by-the-entireties property even though one spouse, and not both owed the debt. [It would appear that Craft could also apply to federal cases that involve either a federal lien or restitution order permitting the use of remedies provided under the Internal Revenue Code to enforce the lien or restitution order (see In re Dahlman immediately below)]. Consistent with the Court’s analysis, a Bankruptcy Court held that “the homestead exemption does not erect a barrier around a taxpayer’s home sturdy enough to keep out the Commissioner of Internal Revenue.” Consequently, a federal tax lien was held to be enforceable against homestead property. In re McFadyen, 216 B.R. 1006, 1008 (Bankr. M.D. Fla. 1998). However, due to Congress’ concern that seizure of a taxpayer’s principal residence is particularly disruptive for the taxpayer and the taxpayer’s family, a taxpayer’s principal residence may only be seized to satisfy a taxpayer’s tax liability as a last resort and it is otherwise exempt from levy unless a judge or magistrate of a United States district court approves of the levy in writing. See 26 U.S.C.S. § 6334(a)(13)(B) and (e); see also the Taxpayer Bill of Rights incorporated in the IRS Restructuring and Reform Act of 1998 effective July 22, 1998.
ii. Relying on the decision in Craft the Bankruptcy Court in In re Dahlman, 304 B.R. 892 (Bankr. M.D. Fla. 2003) determined that the United States properly placed a lien on homestead property owned as tenants-by-the-entirety. Prior to Husband’s bankruptcy proceeding and the legitimacy of the liens being determined, a court order permitted the homestead property to be sold and the proceeds held in a trust account referencing that it was tenancy by the entireties. Husband and Wife were each independently found guilty of conspiracy to commit bank fraud and required to pay fines as well as restitution. Husband’s lien was in excess of $4 million and he filed for bankruptcy protection. The liens were placed on the homestead property pursuant to the Anti-Terrorism and Effective Death Penalty Act of 1996 that authorizes “a lien in favor of the United States on all property and rights to property of the person fined as if the liability of the person were a liability for a tax assessed under the Internal Revenue Code of 1986.” The court after determining that the liens were proper granted a Motion for Summary Judgment as to the validity of the lien in favor of the Government against the debtor’s interest in the homestead owned as tenants-by-the-entirety but denied the Motion with respect to the extent of the lien so the value of debtor’s interest in the property could be determined.
iii. In two pre-Craft decisions, the Eleventh Circuit Court of Appeals held that a federal forfeiture statute preempted Florida’s homestead exemption. United States v. One Single Family Residence, 894 F.2d 1511 (11th Cir. 1990). Nonetheless, the court held that because there was no way for the government to foreclose on the property which was owned as tenants-by-the-entirety without forfeiting some part of the innocent spouse’s interest, none of the property could be forfeited. Similarly, McGregor v. Chierico, 206 F.3d 1378 (11th Cir. 2000) held “this court cannot extract Michael Chierico’s rights in the family home without affecting Teri Chierico’s rights. Because the district court erred in holding Teri Chierico in contempt, it would be unjust to force her to relinquish any innocently held property rights. Thus, in effect, protection of Teri Cheirico’s interest in the family home renders Michael Chierico’s interest in the home unreachable by the court’s contempt power.” However, in light of Craft, it is likely that both of these cases would have been resolved differently.
iv. Courts have held that liens imposed by the United States pursuant to federal law will supercede any homestead protection allowed by the states. In Wang v. Wang (United States as Intervenor), 2007 US Dist. LEXIS 62545 (M.D. Fla. Aug. 24, 2007), the Court held that the right of the United States to enforce a lien supercedes any homestead rights a debtor has on the property. Mr. Wang and his wife purchased real property in 1998. On two separate occasions, in 1999 and then again in 2000, Victor Wang entered into Superseding Cooperation Agreements with the United States agreeing to plead guilty to securities fraud. After entering into such agreements, Mr. Wang quit claimed his interest in the real property to himself and his mother, Irene as joint tenants with right of survivorship. Later in 2002, Mr. Wang was sentenced and ordered to pay restitution in the amount of $11,129,582. On January 16, 2004, the US filed a lien encumbering the real property. In 2005, Irene filed a declaratory action seeking relief from the lien on her portion of the property. She died soon after. Later in 2005, the property was sold and the net proceeds were $1,012,759.32. The PR for Irene’s estate filed a motion against Mr. Wang claiming that the joint tenants with right of survivorship was an error and a mutual mistake among the parties. Mr. Wang claimed that he was the owner of the real property and that the property was subject to his homestead rights. Pursuant to 18 USC § 3631 (c) a lien imposed for an order for restitution is a lien on all property rights. The Supreme Court has stated that state homestead laws are preempted by federal tax collection laws. Citing the case of US v. Hyde, 497 F.3d 103 (1st Cir. 2007), the Court determined that the Supremacy Clause of the United States, the right of the US to enforce a lien against the real property of Mr. Wang supercedes any homestead rights. See also US v. Offiler, 336 Fed. Appx. 907 (11th Cir. 2009), where the United States Government placed a tax lien on the debtor’s homestead for unpaid taxes. The debtor claimed the homestead was protected under Florida law. The court disagreed stating that the Supremacy Clause “provides the underpinnings for the Federal Government’s right to sweep aside state-created [homestead] exemptions” (quoting US v. Rodgers, 461 U.S. 677, 701 (1983).
In addition, in US v. Fleet, 498 F.3d 1225 (11th Cir. 2007), the debtor pleaded guilty to fraud. As part of his conviction, the debtor was ordered to forfeit $295,000 in cash. The government then asked the court to order the forfeiture of his home and three automobiles, owned by the debtor and his wife as tenants by the entireties. The debtor objected claiming that homestead and tenants by the entireties law precluded the federal government from obtaining his home and cars. Relying on the Supremacy Clause, the Court disagreed. Citing several cases including US v. Craft (summarized above), the Court determined that the federal government was entitled to a court order for forfeiture of the debtor’s home and car and that federal law could be used regardless of state homestead or tenants by the entirety protection. See also US v. D’Andrea, 2008 US Dist LEXIS 108770, (M.D. Fla. 2008), where the court held that the United States government is not bound by state statutes of limitations (in this case FUFTA) or laches in enforcing its rights. The United States government is only bound by federal law.
The IRS has also issued Guidance providing that “spendthrift provisions [of a trust], which are state created exemptions, cannot defeat a federal tax lien…provided that such assets are first found to constitute ‘property’ of the taxpayer.” IRS CCA 200614006 (released April 7, 2006). See discussion in Section IV.E.2.d.iv, below.
v. The IRS has the ability to order the sale of homestead property on which debtor resides even when the debtor no longer owns the property. The facts of the following 2004 Oklahoma district court case provide guidance on the power of the IRS to force the sale of a residence where it was owned by husband and wife and the tax assessment was on only one spouse. In 1987, husband transferred title to a residence he purchased in 1983 to himself and his wife. On February 19, 1990, the IRS assessed a penalty against husband under 26 U.S.C. § 6672 in the amount of $573,661.35 for the 1987 tax period during which he was the sole owner. Two weeks after the IRS penalty was assessed, on February 27, 1990, husband and wife transferred title to the residence to the wife. The IRS files a notice of lien on May 7, 1990 against the husband and then on March 1, 1993 against the wife. In United States v. Kroblin, 2004-2 U.S. Tax Cas. (CCH) P50,345 (Bankr. N.D. Okla. 2004), the bankruptcy court stated that the IRS lien arose at the time of the assessment. Even though the lien was not filed for several months, it was valid against the wife because the court determined she was not a purchaser of the one-half interest transferred to here, thus, § 6323(a) which protects a purchaser from an IRS lien was not applicable. The court then found that under United States v. Rodgers, 461 U.S. 677 (1983), “the Supreme Court held that § 7403 authorizes the sale of an entire property (not just the sale of the delinquent taxpayer’s own interest) with a recognition of the third-party interest through judicial valuation and distribution.”
The court in Kroblin listed the following factors from Rodgers and noted that the statutory power to order a forced sale to convert a non-delinquent spouse’s homestead estate into its fair cash value is subject to the exercise of reasonable discretion. “The factors to be considered in exercising discretion to decide whether to authorize a sale when the interests of nondelinquent third parties are involved are (i) the extent to which the Government’s financial interest would be prejudiced if it were relegated to a forced sale of the partial interest actually liable for the delinquent taxes; (ii) whether the third party would normally have a legally recognized expectation that such separate property would not be subject to forced sale; (iii) the likely prejudice to the third party, both in personal dislocation costs and compensation; and (iv) the relative character and value of the nonliable and liable interests in the property. … In setting forth these four factors, the Rodgers Court makes it clear that they are not an ‘exhaustive list,’ and should not exclude consideration of common sense and special circumstances.” Kroblin, 2004-2 U.S. Tax Cas. (CCH) P50,345.
9. Homestead Property Tax Exemption. A Florida resident who owns homestead property is entitled to two tax breaks with respect to the assessment of real property taxes on his or her homestead. The first break is nominal, but the second one can be significant.
The first benefit relates to the $25,000 reduction on the assessed valuation of the homestead property. All real property owned in Florida is subject to real property tax based on the millage rate applicable to the county in which the real property is located multiplied by the assessed valuation (See, Section 2 of Article VII of the Florida Constitution.). The assessed valuation is reduced by $25,000 if the property is homestead property. (See Section 6(d) of Article VII of the Florida Constitution). Such reduction generally translates into an annual tax savings of approximately $500.
The second benefit, however, relates to the limitation imposed on the annual valuation of homestead property for property tax purposes and is commonly known as the “Save the Homes” cap. Such limitation provides that the annual increase in an assessment of real property which qualifies as homestead property may not exceed the lesser of three percent (3%) or the percent change in the Consumer Price Index from the prior year (See Section 4(c) of Article VII of the Florida Constitution; FLA. STAT. § 193.155).
While the homestead tax exemption cases may have little relevance to decisions dealing with protecting a homestead from forced sale and vice versa, In re Duque, 33 B.R. 201 (Bankr. S.D. Fla. 1983), there are important rules related to qualifying a homestead for the ad valorem taxation exemption. For further discussion on the homestead tax exemption, see Richard S. Franklin & Roi E. Baugher III, Protecting and Preserving the Save Our Homes Cap, FLA. BAR. J. (Oct. 2003).
a. Homestead Tax Exemption Not Required for Constitutional Homestead Protection. In Taylor v. Maness, 941 So. 2d 559 (Fla. 3d DCA 2006), the Court determined that the failure to file for a homestead property tax exemption did not preclude a claim for homestead exemption for asset protection purposes. The Court stated that “the homestead exemption from forced sale is different from the homestead exemption as defined for tax purposes,” and “failure to claim the homestead tax exemption is not evidence that property is not in fact homestead.” In this case, the court determined that the property was in fact the homestead property of the Maness’s and rejected the plaintiff’s claim that a failure to file for homestead tax exemption was evidence that the residence was not the Maness’s homestead.
b. S Corporation Not Entitled to Homestead Exemption. In Prewitt Management Corp. v. Nikolits, 795 So. 2d 1001 (Fla. 4th DCA 2001), the Florida Fourth District Court of Appeals held that an S Corporation which holds the primary residence of its sole shareholder and his family does not qualify for the homestead tax exemption under Article VII, Section 6 of the Florida Constitution. In Prewitt, the court decided that a corporate entity is not enumerated in Florida Statutes §§ 196.031 or 196.041 and therefore could not receive the benefit of the homestead tax exemption.
c. Qualified Personal Residence Trust Qualifies for Homestead Property Tax Exemption. In Nolte v. White, 784 So. 2d 493 (Fla. 4th DCA 2001), the Florida Fourth District Court of Appeals adopted the rationale of Robbins v. Wellbaum, 664 So. 2d 1 (Fla. 3d DCA 1995) in stating that the taxpayer is entitled to the homestead tax exemption even though the property was conveyed to a qualified personal residence trust in which she had a right to reside for a term of eight years. In Robbins the court held that “there is no minimum time period required to support the claim of beneficial title.” It is enough for the taxpayer to hold beneficial title during the year in which the exemption is claimed. For further discussion on obtaining the homestead tax exemption through a QPRT, see Franklin & Baugher, Protecting and Preserving the Save Our Homes Cap, FLA. BAR. J. (Oct. 2003), in which they write that the Florida Department of Revenue in Information Bulletin DAV-96-003, indicated that notwithstanding the Robbins decision, the law is not settled and that individuals seeking a homestead exemption through a QPRT should reapply for the exemption to preserve the issue.
d. Must Qualify for Homestead Property Tax Exemption. In Hunter v. County of Volusia, 858 So. 2d 1070 (Fla. 5th DCA 2003), appellants appealed the final order entered by the trial court which ruled that they failed to establish that they were entitled to an ad valorem homestead exemption. The trial court ruled that the appellants failed to establish their entitlement to the exemption, and the property appraiser was correct in denying their request for exemption in 1997 and removing the exemption for the prior 10 years. The Appellate Court affirmed the trial court but ruled that the trial court had to rule on three further claims the appellant raised as to other properties they owned.
e. Must Receive Homestead Exemption Before Receiving Benefit of Save Our Homes Cap. The issue in Zingale v. Powell, 885 So. 2d 277 (Fla. 2004), which reached the Florida Supreme Court on September 15, 2004, determined that the Save our Homes amendment, limiting the annual change in property tax assessments on homestead exempt property to three percent of the previous assessment or the change in CPI, whichever is less, is tied to the grant of a homestead exemption. The homeowners sought to have the Save our Homes cap applied to the appreciation between the year they received homestead and the prior year immediately before. The Court, however, determined that the appreciation in the baseline value of a homestead was clearly limited by the Constitution to either (i) the January 1 following the year of establishing the homestead or (ii) January 1, 1994, if the homestead had already been established.
10. Devises. The Florida Constitution and Florida Statutes address permissible recipients of a devised homestead as well as how a homestead will be distributed upon the owner’s death in the event of an invalid devise. Section 4(c) of Article X of the Florida Constitution states, in relevant part, that the:
Section 732.401(1) of the Florida Statutes further provides that “[i]f not devised as permitted by law and the Florida Constitution, the homestead shall descend in the same manner as other intestate property; but if the decedent is survived by a spouse and lineal descendants, the surviving spouse shall take a life estate in the homestead, with a vested remainder to the lineal descendants in being at the time of the decedent’s death per stirpes.” Moreover, “the homestead shall not be subject to devise if the owner is survived by a spouse or a minor child, except that the homestead may be devised to the owner’s spouse if there is no minor child.” FLA. STAT. § 732.4015(1).
a. Decedent’s “Heirs” Entitled to Homestead Protection Against Creditors. In In the Estate of Moss, 777 So. 2d 1110 (Fla. 4th DCA 2001), decedent died leaving no surviving spouse or minor children. The personal representative filed a petition to determine the homestead status of the property. A creditor of the estate objected, stating the petitioner failed to establish that the devisees of the real estate were qualified heirs of the decedent. In determining who was entitled to homestead protection against creditors, the appellate court ruled that “heirs” is not only limited to individuals that would actually take the homestead by law in intestacy, but also to individuals categorized in the intestacy statute (Florida Statutes § 732.103). Id.; See Snyder v. Davis, 699 So. 2d 999 (Fla. 1997). Additionally, in Thompson v. Laney and Thompson, 766 So. 2d 1087 (Fla. 3d DCA 2000) the court determined that “the exemption from decedent’s creditors inured to [the heir] by operation of law, as heir and devisee of the homestead property.” Id. Thus, the homestead property is not regarded as an asset of the probate estate and is not subject to administration or the claims of creditors of the estate. Id. However, if the decedent is not survived by a spouse or minor children and directs, by Will, that the homestead be sold and the proceeds divided, the property loses its homestead character and becomes subject to the claims of creditors of the estate. Knadle v. Estate of Knadle, 686 So. 2d 631 (Fla. 1st DCA 1997).
b. Homestead Not Freely Alienable or Devisable. In McKean v. Warburton, 919 So. 2d 341 (Fla. 2005), rehearing denied by 2006 Fla. LEXIS 1 (Fla. 2006), Florida’s Supreme court reversed the decision of the Florida Fourth District Court of Appeals where the decedent died without a surviving spouse or minor children and did not have sufficient assets to satisfy existing liabilities or the cash bequests under his will. The personal representatives, who were also the residuary beneficiaries, moved to have the condominium declared homestead so that it would then pass outside of probate. The condominium was then sold and netted $141,000. A general devisee of the will sought to have the proceeds from the sale used to satisfy his devise. Further, the Florida Fourth District Court of Appeals held that the decedent’s homestead could be freely devised since there was no surviving spouse or minor children and that it then “becomes property of the estate subject to division in accordance with the established classifications giving some gifts priority over others.” Warburton v. McKean, 877 So. 2d 50 (Fla. 4th DCA 2004), rehearing denied by 2004 Fla. App. LEXIS 8665 (Fla. 4th DCA 2004). However, the case was reviewed by Florida’s Supreme Court as a case of great importance. The question reviewed by Florida’s Supreme Court was:
“WHERE A DECEDENT IS NOT SURVIVED BY A SPOUSE OR ANY MINOR CHILDREN, DOES DECEDENT’S HOMESTEAD PROPERTY, WHEN NOT SPECIFICALLY DEVISED, PASS TO GENERAL DEVISEES BEFORE RESIDUARY DEVISEES IN ACCORDANCE WITH SECTION 733.805, FLORIDA STATUTES?”
Florida’s Supreme Court held that that where a decedent is not survived by a spouse or minor children, the decedent’s homestead property passes to the residuary devisees, not the general devisees, unless there is a specific testamentary disposition ordering the property to be sold and the proceeds made a part of the general estate. See Knadle v. Estate of Knadle, 686 So.2d 631 (Fla. 1st DCA 1997); see also McEnderfer v. Keefe, 921 So. 2d 597 (Fla. 2006).
In addition, in Coy v. Mango Bay Property and Inves., Inc., 963 So. 2d 873 (Fla. 4th DCA 2007), the Court determined that, before a foreclosure action could take place against homestead property owned and mortgaged by only one spouse, the nondebtor spouse should be entitled to a hearing determining whether the property was his or her homestead and therefore, should not have been alienated or pledged without his or her consent. In this case, Appellant and his wife divorced after being married for fifty plus years. During their marriage, they bought a home which was held in the Appellant’s wife name only. During their marriage, she offered their home as security for a mortgage loan with the bank without Appellant’s knowledge, consent or joinder on the mortgage. Appellant and wife filed for divorce and the court ordered her temporary and exclusive use of the marital home and prohibited the parties from selling any of the marital property without court order. During the divorce proceedings the bank filed foreclosure action against her and Appellant filed a motion to intervene in the foreclosure on the grounds that at the time the mortgage was executed the two were married and living in the property together and the property was his homestead. The foreclosure court granted Appellants motion to intervene and entered final judgment for the bank against his wife. The family court also entered a final judgment dissolving the marriage and awarded alimony. The wife later executed a Warranty Deed in which she sold the property to a third party. Appellant filed a motion to prohibit the sale and freeze the proceeds; however, the foreclosure court denied the motion and ordered that the sale should not be set aside. The foreclosure court ruled that they were leaving the homestead issue to the family court and the family court failed to make any finding with respect to homestead. Citing the Florida Constitution, which provides that if married homestead property may only be alienated if joined by both spouses. “A one half interest, the right of possession, or any beneficial interest in land gives the claimant a right to exempt it as homestead. It is not essential that the claimant hold legal title to the land and it is also not necessary that the homestead status attaches prior to the attachment of the creditors lien.” Further, the individual claiming homestead need not hold fee simple title and may be derived from the beneficial interest as head of the family in a marital home where the home is titled in the spouse’s name. The award of possession of marital residence to a wife does not extinguish the husband’s homestead. The court concluded that the “Appellant was entitled to a full evidentiary hearing and determination as to whether he had a constitutionally protected homestead right in the marital home before the trial court could proceed with foreclosure and the foreclosure court must determine whether the Appellant has a protected homestead interest in the property.”
c. Personal Representative Not Authorized to Sell Homestead Property. In Harrell v. Snyder, 913 So. 2d 749 (Fla. 4th DCA 2005), because the decedent had no spouse and no minor children, his homestead passed as part of his residuary estate to a trust for the benefit of his three adult daughters. But, because the beneficiaries had reached the age of majority, the trust had terminated by its own terms. The personal representative of decedent’s estate took possession of the property and sold it to a third party. The court affirmed the trial court’s finding that the personal representative had the authority to take possession of the homestead property for the protection of the heirs based on Florida Statute § 733.608 (2). However, the Court of Appeals reversed the Circuit Courts decision that the personal representative was authorized to sell the homestead. The Appeals Court option states Florida Statute § 733.608(2) gives the personal representative the authority to take possession of protected homestead where necessary to protect it for the heirs. It does not, however, authorize the personal representative to sell the property. The protected property is not a part of the probate estate unless a will expressly states that the homestead should be sold with the proceeds divided by the personal representative.
d. Homestead Rights Exist in Absence of a Court Order. Homestead rights exist and continue even in the absence of a court order confirming the exemption and, accordingly, proceedings to determine whether property is homestead are permissive, not required. In re Estate of Hamel, 821 So. 2d 1276 (Fla. 2d DCA 2002). The decedent’s heirs inherited a condominium unit through the residual clause that permitted property to be distributed in kind. Consequently, homestead protection inured to the heirs at the time of decedent’s death, and proceeds from sale of condominium were protected from claims of decedent’s creditors. When the will specifically orders property to be sold and the proceeds divided among heirs, the personal representative does not have discretion to do otherwise. However, in this case the personal representative was given the option of distributing property either in kind or through the proceeds of a sale.
e. See also, Cutler v. Cutler, described in Section IV.A.5.c.x.
f. Planning. Even though selling property during administration of an estate may provide favorable estate tax benefits since the expenses can be deducted provided the will states the property should be sold, to preserve homestead protection there should be no direction in the will to sell homestead property and distribute the proceeds.
11. Florida Statute § 222.25 (4) and The Homestead Exemption. § 222.25 (4), sometimes referred to as the “wild card” exemption, was added to § 222.25 in 2007. It allows a debtor’s interest in personal property, not exceeding $4,000, to be exempt from attachment, garnishment, or other legal process if the debtor does not claim or receive the benefits of a homestead exemption. Since § 222.25 (4)’s creation, the exemption has been a magnet for litigation as the crux of the problem revolves around the fact that since the homestead exemption does not have to be claimed to be effective against creditors, the bankruptcy courts have expressed contrary views on whether and how a debtor with a Florida homestead is entitled to the § 222.25 (4) exemption.
a. In re Magelitz, 386 B.R. 879, 880-81 (Bankr. N.D. Fla. 2008). In In re Magelitz the bankruptcy court held that “in order for a debtor who has an interest in a homestead to claim the $4,000 personal property exemption under Fla. Stat. 222.25(4), the debtor must (1) not claim the property as exempt, and (2) timely and properly show a clear and unambiguous intent to abandon the property." Magelitz stands for the proposition that the debtor’s election not to claim the homestead as exempt has no effect on the debtor’s eligibility to claim the statutory exemption under 222.25 (4). For the homestead debtor in bankruptcy to claim § 222.25 (4), he or she must abandon the homestead property. However, in In re Bennett, 395 B.R. 781, 784 (Bankr. M.D. Fla. 2008), the court reached the opposite conclusion and ruled that absent other factors, a debtor with a homestead is eligible to claim § 222.25 (4) without abandoning the homestead property:
Id. at 789-90.
b. In re Watford, 427 B.R. 552 (Bankr. S.D. Fla. 2010). In In re Watford, a debtor filed a chapter 7 bankruptcy case, listing as an interest two parcels of property that were located in Gordon County, Georgia, and Vero Beach, Florida. The debtor’s schedules also listed her interest in a 2006 Ford Mustang. The debtor’s spouse, who was not involved in the bankruptcy proceeding, made his home at the Vero Beach property, and intended to remain there. Additionally, the Vero Beach property was held in tenancy by the entireties form. Although the debtor claimed an exemption for the value of the Ford Mustang, the court sided with the trustee and ruled that the debtor indirectly received the benefit of the homestead protection and was thus not eligible for the personal property exemption under Florida Statutes § 222.25(4). The court followed In re Franzese, 383 B.R. 197 (Bankr. M.D. Fla. 2008), for the proposition that a debtor who is eligible under Florida law to claim the homestead exemption on the date of his bankruptcy petition receives the benefit of Florida’s constitutional homestead exemption whether or not such exemption is specifically claimed in the bankruptcy. Thus, one spouse can claim a homestead exemption even where estranged from the other spouse.
c. In re Iuliano, 2010 Bankr. LEXIS 4728 (Bankr. M.D. Fla. Dec. 28, 2010). In In re Iuliano, the debtors did not claim their Florida residence as exempt because they owed $31,000 more to the mortgage holder than their property was worth. Instead, the debtors claimed exemptions for personal property under § 222.25 (4), and the trustee objected. Since the debtors had no equity in their residence and had no interest to which a judgment, decree or execution could attach, the court ruled that they did not receive the benefit of the homestead exemption.
d. Osborne v. Dumoulin, 2011 Fla. LEXIS 291 (Fla. Feb. 3, 2011). To resolve the ongoing conflict in the bankruptcy courts, the court in Osborne v. Dumoulin, certified the question, clarified by the judges, of: whether, for the purpose of the statutory personal property exemption in section 222.25(4), a debtor in bankruptcy receives the benefits of Florida's article X, section 4, constitutional homestead exemption where the debtor owns homestead property but does not claim the homestead exemption in bankruptcy and the trustee's administration of the property is not otherwise impeded by the existence of the homestead exemption. The court answered the question in the negative and held that where a debtor in bankruptcy elects not to claim the article X, section 4 homestead exemption and the trustee's administration of the bankruptcy estate is not otherwise obstructed by the existence of the homestead exemption, the debtor does not receive the benefits of the homestead exemption and may claim the section 222.25(4) personal property exemption of $4000. See In re Orozco, 2011 Bankr. LEXIS 414 (Bankr. S.D. Fla. Feb. 7, 2011) (discussing Osborne and holding that a debtor may use § 222.25 (4) after claiming the homestead exemption in her bankruptcy schedule, but then later disclaiming it on her final schedule).
B. Transfers to Spouses.
Transfers from a debtor, individually, to the debtor and his/her spouse as co-owners are discussed in the Section of this outline below concerning “Co-Ownership with Spouse.” This portion of the outline concerns property held by the debtor’s spouse alone.
1. Property of Debtor’s Spouse. Property held in the sole name of a debtor’s spouse is not generally subject to the claims of the debtor’s creditors when the debtor’s spouse is not also liable with respect to the debt in question.
2. Ownership Transfer to Spouse. As indicated in Article VI, of this Outline, below, entitled FRAUDULENT CONVEYANCES, if an individual is solvent at the time of the transfer, he/she is not under an imminent risk of actions by creditors or actual bankruptcy, a transfer of assets to the individual’s spouse will generally place such assets beyond the reach of the possible future creditors of the individual, particularly in light of the multitude of non-asset protection reasons for effectuating such transfers (e.g., estate planning).
3. Reasons for Transfers to Spouse. Among the numerous motivations for transferring assets to one’s spouse, other than asset protection, include allowing a spouse to take advantage of the $2 million Unified Credit Equivalency (that increases gradually to $3.5 million by the year 2009) and otherwise equalizing the estates of each spouse. Additionally, transfers of low basis assets to a spouse who may be ill can be beneficial if the transferee spouse passes away more than one year after the transfer. The reason such a transfer is beneficial is that upon the death of the transferee spouse, the surviving spouse (the original transferor) would receive the assets with a stepped up income tax basis.
If the decedent spouse/transferee spouse then passes the gifted assets back to the surviving spouse/original transferor spouse, the assets should pass in trust where they would be beyond the reach of the surviving spouse’s/original transferor spouse’s creditors. The one year survivorship requirement under Section 1014 (e) of the Internal Revenue Code of 1986, as amended (hereinafter referred to by “Code §” only) may have only limited application to a transfer that is reacquired by a trust for the donor rather than by the donor directly.
4. Outright Transfers. An outright transfer of assets to one’s spouse will be free of transfer taxes due to the unlimited marital deduction provided by Code § 2523. However, if the recipient spouse is not a U.S. citizen, the unlimited marital deduction is not available. In order to make a tax-free gift to the spouse, the transfer must be structured to fall within the $125,000 per year annual exclusion (as of 2007) for non citizen spouses provided by Code §§ 2523(i)(2) and 2503(b) as adjusted for inflation by the cost of living adjustment under Code § 1(f)(3).
5. Transfers in Trust. When assets are transferred to a spouse in trust, the transferee spouse obtains asset protection on the transferred assets. Such transfers generally take the form of a qualified terminable interest property (“QTIP”) trust. Code § 2523(f) sets forth the lifetime QTIP trust counterpart to Code § 2056(b)(7), which provides an estate tax marital deduction for a testamentary QTIP trust. The lifetime election is made on a gift tax return in the year in which the QTIP trust is created. By definition, a QTIP trust requires spendthrift language in the instrument. Moreover, all the income must be paid currently to the transferee spouse. For this and other reasons set forth in the discussion of this outline concerning Domestic Trusts, it is generally not advisable to provide the transferor spouse with any beneficial interest in a trust established for the transferee spouse. See also, McNair, Lifetime QTIPs Can Achieve Tax and Asset Protection Goals, 20 EST. PLAN 290 (Sept./Oct. 1993). However, the transferee spouse can be granted a testamentary special power of appointment which can be exercised by the transferee spouse to create a spendthrift trust for the transferor spouse. (See PLR 9140069 and PLR 9309023). This plan can create significant estate and asset protection benefits.
a. Disclaimers. Similarly, if asset protection is a concern for a spouse, the couple should not create an estate plan that features disclaimer wills pursuant to Florida Statute § 732.801. Such wills provide all to my spouse, to the extent that my spouse disclaims assets, then to another beneficiary, often a family trust. If the surviving spouse has creditor issues and disclaims any or all the assets, the disclaimer is likely to be barred under Florida Statute § 739.402(2)(d).
b. FLA. STAT. § 736.0503 (3). New Florida Statute § 736.0503 (3), effective July 1, 2010, clarifies that assets passing in trust for the initial settlor of an Inter Vivos QTIP Trust, after the death of the settlor’s spouse, are not considered to be held in a self settled trust, but only if the initial transfer was not a fraudulent conveyance under applicable law. The new statute creates certainty that assets will not be subject to creditors of an initial donor spouse. See Nelson & Gans, New §736.0505(3) Assures Tax/Asset Protection of Inter Vivos QTIP Trust, 84 FLA. BAR. J. 50 (Dec. 2010) attached as Exhibit J.
6. Structuring Transfers in Trust. The transferee spouse’s estate plan must be modified to ensure that upon the transferee souse’s death, the assets received are not transferred back outright to the transferor spouse. If assets are to revert to the transferor spouse, they generally should do so in the form of a trust containing spendthrift language. It would be better, however, to have the assets distributed to the children upon the transferee spouse’s death. (For a more complete discussion on this see the Domestic Trust section of this outline in Article IV, “ASSET PROTECTION TECHNIQUES,” Paragraph E, “Domestic Trusts.”). Regardless of which option is utilized, the trust should provide the transferee spouse with a limited testamentary power of appointment. The power would permit the transferee spouse to appoint the property upon his/her death to or among a group of individuals which would include the transferor spouse, their children and/or possibly qualified charities. The testamentary power should be limited, rather than general, because with a general power, the transferee spouse’s creditors may be able to reach the assets over which the transferee spouse held the power.
C. Co-Ownership With Spouse.
1. Tenancy by the Entirety. In Florida, when property is held by a husband and wife, as tenants-by-the-entireties, it generally cannot be reached by the creditors of one spouse to satisfy such spouse’s debts or obligations. But in Craft noted above (Article IV “ASSET PROTECTION TECHNIQUES,” Paragraph A, “Homestead Exemption.,” Paragraph 8, “Courts Limit Use of the Homestead Exemption.”) where property held as tenants-by-the-entirety was reachable by the IRS when only one spouse owed a debt. See also Popky v. US, 419 F. 3d 242 (3d Cir. 2005) where the court also held that a federal tax lien could attach to the husbands interest in tenants-by-the-entirety property and force the sale with a distribution to the husband and wife of equal sales proceeds under Pennsylvania law. The right to hold property as tenants-by-the-entirety is one particular to the relationship of a husband and wife. See, Sharp v. Hamilton, 520 So. 2d 9, 10 (Fla. 1988), aff’g 495 So.2d 235 (Fla. 5th DCA 1986).
a. Ownership Presumptions. Any type of property, real, personal or bank accounts may be held by the entireties.
i. Real Estate. In First Nat’l Bank of Leesburg v. Hector Supply Co., 254 So. 2d 777 (Fla. 1971), the Florida Supreme Court affirmed the lower courts position that a presumption exists that when real property is acquired in the name of a husband and wife, a tenancy by the entireties is created.
(1) In re Ramursat, 361 B.R. 246 (Bankr. M.D. Fla. 2006). In In re Ramsurat, the Court held that no tenants by the entirety protection was afforded when the property was purchased before marriage in the names of the debtor and his wife and only a corrective deed was filed subsequent to the marriage. The debtor and his wife initially held title to their primary residence in joint names and not as tenants by the entirety. The debtor and his wife purchased the home prior to their marriage in 1998. After they were married, the debtors sought to revise the warranty deed on the property to indicate that the couple was now husband and wife and to change the legal description of the property; however they did not execute a new deed. In addition, the debtors parents and not the debtor himself, were the intended persons to live in the home, the debtor never lived there. After their initial contribution of the home, the debtor and his wife did not help pay the mortgage or any other portion of improvements put on the property, perhaps by other family members. After the debtor’s business went began to fail, the debtor transferred all of his interest in the property to his wife (the current defendant in this case). The Quit Claim Deed as executed, however, only conveyed half of the property. On the same day of this transfer the debtor stipulated to a settlement on one of the cases. There are no joint creditors of the husband and wife. At this time, the parents moved out of the home because of health problems and the home was sold. To sell the home, the debtor was required to execute a corrective Quit Claim deed because of the previous mistake when he conveyed the property to his wife. The bankruptcy trustee attempted to avoid the transfer of the deed to the defendant’s wife under fraudulent transfer laws. The Court determined that the Trustee was able to prove actual fraud in this case because several “badges of fraud” were evident in the facts. The wife then argued that the debtor and her owned the property as tenants in entirety, which should make the property exempt under Florida law. The Court stated that this was not the case because the debtor and the defendant did not own the property as tenants by the entireties because the unity of marriage did not exist at the time of the purchase. The Corrective Deed does not afford tenants by the entirety protection under Florida law. The recording is not essential, it is the position of the parties at the time of the taking of the deed that controls.
(2) NOTE: In In re Schwarz, discussed above, the Court determined that the 730 day limitation provided in BAPCPA did not result in a homestead becoming part of the bankruptcy estate when the residence was titled as tenants by the entirety for a Florida domiciliary. The tenancy by the entirety preserved the home from the bankruptcy court notwithstanding the duration of home ownership.
(3) In addition, in US v. Fleet, discussed above, the Court ruled that federal law preempts state tenants by the entirety protection under the Supremacy Clause of the US Constitution.
(4) However, in Republic Credit Corporation v. Upshaw, 10 So. 3d 1103 (Fla. 4th DCA 2009), the debtor and his wife sold their home in California and purchased a home in Florida as tenants by the entirety. The remaining proceeds were put into an account held by the non-debtor wife, individually.
The trial court held that Florida law should apply in determining the character of the proceeds from the California home. Under Florida law, the proceeds would be protected as tenants by the entirety property. However, California does not recognize tenants by the entirety ownership. The appellate court held that the sale proceeds could not retain tenants by the entirety character if the home itself was not held as tenants by the entirety. The court remanded to determine whether the transfer of non exempt funds to the Florida homestead was a fraudulent transfer (done with intent to hinder, delay, or defraud).
ii. Personal Property. In Hector, the Florida Supreme Court held that a presumption does not exist that a tenancy by the entirety has been created when personal property is acquired in the name of a husband and wife.
(1) However, In re Wincorp, 185 B.R. 914 (Bankr. S.D. Fla. 1995), Chief Bankruptcy Court Judge A. Jay Cristol indicated that “[t]imes have changed. ... This court can see no reason why the same presumption that applies to a conveyance of realty to a husband and wife should not apply to personality held by a husband and wife.”
The case involved certain bonds that were held in the name of the debtor and his wife as joint tenants and an account that was held as joint tenants with right of survivorship. The debtor claimed the accounts as exempt assets and the court so agreed. The fact that the debtor and his wife did not select, by using the buzz words “tenancy by the entirety” to title their account, did not persuade the court that they did not intend the account or their bonds to be held in that form when the signature card indicated “joint account” and the language indicated that all of the funds may be withdrawn by “either one or both or the survivor.”
(2) Similarly, on March 16, 2004, the bankruptcy court for the Southern District of Florida in the case of In re Blais, 17 Fla. L. Weekly Fed. B 143 (Bankr. S.D. Fla. Mar. 16, 2004), extended Beal Bank, 780 So. 2d 45 (2001) to hold that a presumption exists that the personal property is held as tenants-by-the-entirety and that creditor has the burden to prove by a preponderance of evidence pursuant to Fla. Statute § 90.304 that such a tenancy did not exist.
(3) In In re Bundy, 235 B.R. 110 (Bankr. M.D. Fla 1999), the bankruptcy court in the Middle District of Florida held that testimony by debtor and debtor’s spouse alone is not sufficient to meet the burden of proving that personal property claimed as exempt was owned as tenants-by-the-entireties The court noted that debtor and debtor’s spouse had failed to introduce documentary evidence establishing that an entireties estate was intended to be created when the personality was acquired.
(4) In a 2001 case, Beal Bank v. Almand and Associates, 780 So. 2d 45 (Fla. 2001), the Florida Supreme Court questioned the distinctions which arise in case law with respect to presumptions between real property and personal property. The Court said, “although we understand the considerations that originally led to this Court’s decision not to adopt a presumption of a tenancy by the entireties in personal property similar to that in real property, we conclude that stronger policy considerations favor allowing the presumption in favor of a tenancy by the entireties when a married couple jointly owns personal property.” (See Bank Accounts, below, for a further discussion on Beal Bank).
(5) In spite of Beal Bank, there still remains no presumption that tenancy by the entireties ownership extends to all personal property owned by husband and wife. In In re McAnany, 294 B.R. 406 (Bankr. M.D. Fla. 2003), the court stated that the issue was whether the debtor and his wife (who was not a party to the action) intended to hold their personal property as tenants-by-the-entirety. In order for property to be held as tenants-by-the-entirety, “documentary proof of intent to own the personal property” in such manner is required. Id. at 408. The debtor was unable to “produce a quantum of documentary proof,” and the bankruptcy Trustee was able to demonstrate from the debtor’s testimony that the debtor “did not even have a basic understanding of what tenancy by the entireties meant and had only recently learned of the term through his attorney.” Id. The court in McAnany concluded that Beal Bank should be limited to bank accounts and would not apply to all personal property, such as the personal property in question.
iii. Bank Accounts. In Beal Bank, the Florida Supreme Court created a presumption that bank accounts held by husband and wife will be presumed to be tenancy by the entirety, unless there is some specific disclaimer. If the accounts are held as tenancy by the entirety they can only be reached if both spouses are debtors.
Tenancy by the entirety property requires six unities: (1) unity of possession; (2) unity of interest; (3) unity of title; (4) unity of time; (5) survivorship; and (6) unity of marriage. With a tenancy by the entirety each spouse is deemed not to have an individual interest, rather, each spouse (as a member of the spousal unit) has a right to the whole. Upon the death of the first spouse, the surviving spouse acquires all title and interests in the assets held as tenant by the entirety.
In Beal Bank, the Court answered the following three questions:
Based on Beal Bank, when opening a joint bank or brokerage account between husband and wife, it is best to clearly mark the application opening the account to reflect “tenancy by the entirety” ownership.
FLA. STAT. § 655.79 (effective October 1, 2008). Florida Statute § 655.79 codifies some of the principals of tenancy by the entireties banking. Subsection (1) states: "[u]nless otherwise expressly provided in a contract, agreement, or signature card executed in connection with the opening or maintenance of an account, including a certificate of deposit, a deposit account in the names of two or more persons shall be presumed to have been intended by such persons to provide that, upon the death of any one of them, all rights, title, interest, and claim in, to, and in respect of such deposit account, less all proper setoffs and charges in favor of the institution, vest in the surviving person or persons. Any deposit or account made in the name of two persons who are husband and wife shall be considered a tenancy by the entirety unless otherwise specified in writing." Subsection (2) goes on to state: "[t]he presumption created in this section may be overcome only by proof of fraud or undue influence or clear and convincing proof of a contrary intent. In the absence of such proof, all rights, title, interest, and claims in, to, and in respect of such deposits and account and the additions thereto, and the obligation of the institution created thereby, less all proper setoffs and charges in favor of the institution against any one or more of such persons, upon the death of any such person, vest in the surviving person or persons, notwithstanding the absence of proof of any donative intent or delivery, possession, dominion, control, or acceptance on the part of any person and notwithstanding that the provisions hereof may constitute or cause a vesting or disposition of property or rights or interests therein, testamentary in nature, which, except for the provisions of this section, would or might otherwise be void or voidable."
o Automobiles. The debtor in In re Daniels, 309 B.R. 54 (Bankr. M.D. Fla. 2004) argued that the two cars he and his wife owned (a Corvette and a Chevy Impala) were held as tenants-by-the-entirety and thus exempt from the creditor. Title to the Impala listed husband’s name – or wife’s name. Title to the Corvette listed husband’s name – wife’s name. The bankruptcy court held that Florida Statute § 319.22(2)(a)(1) states that when two or more names appear on a title, separated by the word “or”, a joint tenancy exists and when the names are separated by the word “and”, the signature of each owner is necessary to transfer title. Accordingly, the Impala was held jointly and subject to the debtor’s creditor. However, the statute did not address how title was held when the names were separated by a hyphen. The court ultimately extended the presumption in Beal Bank to hold that personal property, such as an automobile will be presumed to be owned as tenants-by-the-entirety when an ambiguity or uncertainty exists. Consequently, the Corvette was also protected from debtor’s creditor.
o Marketable Securities. (i) In Cacciatore v. Fisherman’s Wharf Realty Ltd. P’ship, 821 So. 2d 1251 (Fla. 4th DCA 2002), appellate court concluded “that as between debtor and creditor the holding and rationale of Beal Bank should be extended to create a presumption of tenancy by the entireties in the stock certificate.”
The appellate court found that the trial court erred in finding that a stock certificate titled in the names of husband and wife was owned by them as joint tenants, and not as tenants-by-the-entirety. The trial court further permitted the holder of a judgment against the husband to have a sheriff levy execution on the husband’s interest in the certificate.
The appellate court held “where a judgment creditor of one spouse seeks to levy under writ of execution against a stock certificate titled in the name of both spouses, if the unities required to establish ownership as a tenancy by the entireties exist, a presumption of such tenancy arises that shifts the burden to the creditor to prove that the stock was not so held.” Id. at 1254.
iv. In re Mathews: 360 B.R. 732 (Bankr. M.D. Fla. 2007): In this case the debtor and his wife owned stock titled in both of their names as Joint Tenants with Right of Survivorship. The debtor owned stock in First National Bank of Orange Park. In connection with the purchase of the stock, “the debtor signed a document titled ‘STOCK CERTIFICATE REGISTRATION INSTRUCTIONS’, which state[d] in pertinent part:
‘Legal form of ownership:
While the debtor testified that someone else had filed in the form for him, the debtor took no action to change the certificates. Sometime after this event, the First National Bank of Orange Park merged with First National Banc, Inc. and the debtor received an Election Form, which signed by the debtors, the registered holders. After sending back this form, the debtors received their shares of stock in the new bank. “The stock certificate was titled ‘ROBERT L. MATHEWS & JOYCE M MATHEWS JTTEN’. The back of the stock certificate states in part:
‘The following abbreviations, when used in the inscription on the face of this certificate, shall be construed as though they were written out in full according to applicable laws or regulations:
Additional abbreviations may also be used though not in the above list.’
The stock certificate was labeled as JTTEN instead of TEN ENT. While the Court acknowledged that there was a presumption of tenants by the entirety established in the Beal Bank case, discussed above, in this case the Court determined that the debtors listing of the new stock certificates as JTTEN instead of TEN ENT and the debtors failure to correct the stock certificates when they were received, evidenced the debtor’s intent to have the property held as joint tenants with right of survivorship. In addition, the Court cited the fact that the debtor had entered into two separate deeds on behalf of his company transferring title of the property to himself and his wife as tenants by the entireties to provide evidence of the debtor’s knowledge of the tenants by the entirety title and his intent not to label the stock as such. In addition, the debtor and his wife owned a mutual fund that was labeled as joint tenants with right of survivorship. For similar reasons as with the stock certificates, the tenants by the entirety protection was disallowed because the debtors had checked the box next to Joint Tenants instead of Tenants by the Entirety, therefore expressly disclaiming that form of ownership.
Furthermore, the Court addressed whether the household goods and furnishings, a boat slip, and two parcels of realty would be exempt under the tenants by the entireties protection. The Court agreed with prior cases stating that “if all the unities are present, a presumption should arise that a married couple owns personal property as tenants by the entireties.” Because of this presumption, the Court determined that the household goods and furnishings should be considered as held as tenants by the entireties. Without determining whether the boat slip was personal or real property, the Court held that it should also be considered as owned by the debtor and his wife as tenants by the entireties. Finally, the Court determined that the presumption of tenants by the entireties also applied to the debtor’s real property.
The Bankruptcy court in Mathews was overturned in Mathews v. Cohen, 382 BR 526 (M.D. Fla. 2007) with respect to the shares of stock owned in First National Bank. The Court agreed that in Florida a married couple is entitled to own property as tenants by the entireties, but may choose to own the property as joint tenants with right of survivorship instead; and acknowledged that the Beal Bank decision extended the presumption of tenants by the entireties ownership of personal property by a married couple. The Court, however, stated that the presumption in Beal Bank did not apply when the debtor expressly disclaims that the account is held as tenants by the entireties. The Court held that a statement on an account that the account is held as joint tenants does not alone constitute the express disclaimer that the property is NOT tenants by the entirety. The Court noted that, in the absence of an express disclaimer, a rebuttable presumption that the property is tenants by the entirety property arises and shifts the burden of proof to the creditor to show that a tenants by the entirety ownership was not created. The Court determined that the Beal Bank protocol was not correctly followed by the lower court, stating that if there was an express disclaimer, there was no need to evaluate other evidence, as a rebuttable presumption did not arise. The Court concluded that, using the Beal Bank analysis, selecting another form of ownership is not an express disclaimer of tenants by the entirety ownership unless the documentation affirmatively provides the debtor with the choice to select tenants by the entirety ownership. While the Court determined that there was no express disclaimer, it could not be certain that the lower court had come to the correct conclusion because the Beal Bank protocol had not been followed. In addition, the Court was not convinced that the evidence presented by the Trustee, that the debtor did not change the stock certificates once they arrived, was an obligation that the debtor had in order to secure his tenants by the entirety protection. Thus, the Court remanded the case to the lower court to reconsider its order in a manner consistent with its opinion.
v. In re Robedee: 367 B.R. 901 (Bankr. S.D. Fla. 2007). In In re Robedee, the debtor, previously a New York resident, moved to Florida and filed bankruptcy. In New York, the debtor owned two stores, individually. The debtor and his wife also owned a home in New York, which was owned as tenants by the entireties under New York law. Before moving to Florida, in 2005, they sold the New York home and netted a profit of $128,203.33, which they put into a joint account, titled as tenants by the entireties. In June of 2005, they moved to Florida where they rented property with the intent of purchasing a new home in the future. After moving to Florida, the debtor moved all of his personal belongings down, but stayed from June until September to try to sell the final store and wrap up business. He used funds from the homestead account to maintain the store. In December of 2005, because the store was not doing well, the wife demanded that she control the funds in the account, and the husband moved the account into the wife and his mother’s name. In February of 2006, the store sold, but there were no profits. In addition, there was a release of $5,000 that had been held in escrow, which the debtors put into the wife’s name alone. These funds were not held in a tenants by the entireties account. The trustee claimed that all of the funds from the debtor’s accounts should not be exempt property. In the alternative, the trustee argued that the conveyance of the property from the tenants by the entireties account to the account for the wife and the mother was a fraudulent conveyance. The Court ruled that all of the funds that were originally in the tenants by the entireties account were exempt from the bankruptcy. Citing a previous ruling by the Court stating that “… real property owed by a Florida domiciled debtor is exempt from administration as property of the estate regardless of when the debtor became a Florida domiciliary if the debtor had, immediately before the commencement of the case, an interest in property held in a tenancy by the entireties with a spouse;” the Court extended it ruling to personal property as well. “There is no difference under § 522(b)(3)(B) whether the property at issue was real property…or personal property.” In addition, the Court ruled that the trustee did not show that the debtor, in transferring the property to his wife and mother’s name, had intent to hinder, delay or defraud the creditors.
b. Tax Refunds. In In re Gorny, 2008 Bankr. LEXIS 3726 (Bankr. M.D. Fla. Aug. 29, 2008), the debtor and his non-debtor wife filed a joint income tax return. The debtor listed the refund from the IRS as exempt tenants by the entirety property. It was held in In re Freeman, 387 B.R. 871 (Bankr. M.D. Fla. 2008) and In re Hinton, 378 B.R. 371 (Bankr. M.D. Fla. 2007) that married couples can own tax refunds as tenants by the entirety. The court held that the refund met the six unity requirements for tenants by the entirety (possession, interest, title, time, survivorship, and marriage) as set out in Beal Bank, and therefore the tax refund is exempt as tenants by the entirety property. However, the bankruptcy trustee may administer the tax refund for the benefit of the debtor and his wife’s joint creditors. In In re Underwood, 22 Fla. L. Weekly Fed. B 202 (Bankr. M.D. Fla. Sept. 29, 2009), a joint tax return refund was deposited half in the non-debtor-spouse’s account and half in a joint account of the couple. The couple contended that the joint account was for survivorship purposes only, and the funds therein were not transferred to the debtor-spouse. The Court explained that since joint tax return refunds were tenancy by the entirety property ab initio, the transfer to the non-debtor spouse’s account could not be a fraudulent transfer. The Court added that the debtor did not try to conceal the transfer, supporting the position that it was not an attempt to fraudulently convey the funds.
In In re: Rice, 2010 Bankr. LEXIS 4971 (Bankr. M.D. 2010), after the commencement of their bankruptcy cases, the debtors received income tax refunds from their nondebtor spouses attributable to jointly filed tax returns. The court held that the trustees were not entitled to the full amount of the refunds because:
Id. at *1.
c. Joint Debts. If the husband and wife are jointly obligated for a debt, the creditor may subject property held by them as tenants-by-the-entireties to satisfy the debt. Stanley v. Powers, 123 Fla. 359, 365 (Fla. 1936). Similarly, in In re McRae, 308 BR 572 (Bankr. N.D. Fla. 2002), where property was held as tenancy by entireties, the court noted that creditors holding claims jointly against husband and wife may reach tenancy by entireties property, to the extent of joint debt. However, in this case only one spouse owed the debt; thus, the creditor was unable to attach the property. Nonetheless, the homestead exemption may still secure the marital residence from certain joint debts as discussed in the Section above entitled “Homestead Exemption.”
d. Existing Liens. The creation of a tenancy by the entireties does not divest creditors of pre-existing liens which have already attached to the debtor’s interest in the property. See Rosenfield v. Rosenfield, 404 So. 2d 188 (Fla. 4th DCA 1981). Furthermore, the creation of tenants-by-the-entireties ownership cannot be a fraud upon the creditor of one of the spouses. Whetstone v. Coslick, 117 Fla. 203, 209 (Fla. 1934).
e. Effect of Debt of One Spouse On Property Already Titled as Tenants-by-the-Entirety. When property is already titled as tenants-by-the-entirety and a debt arises against only one spouse, it creates planning opportunities. In Dean v. Heimbach, 409 So. 2d 157 (Fla. 1st DCA 1982), the court citing a 1938 Florida case stated:
Based on Dean, it would appear that the transfer of a tenancy by the entirety account from a debtor spouse to the non-debtor spouse when both joint owners are alive should not be a fraudulent conveyance. The reason such a transfer would not be a fraudulent conveyance is that the asset should already be exempt as a tenancy by the entirety account. Therefore if one spouse becomes ill and the spouse who is likely to be the surviving spouse has a judgment against him or her, it still appears that effective planning can be initiated. Such planning would involve conveying the entirety property to the spouse who is ill and providing in the will of the ill spouse that the assets of the ill spouse will not pass outright to the surviving spouse with creditor problems (but for example, pass in a QTIP trust for the benefit of the surviving spouse).
f. Attacks on Tenants-by-the-Entirety Protection.
In In re Planas, 199 B.R. 211 (Bankr. S.D. Fla. 1996), Chief Bankruptcy Judge Cristol held that tenancy by the entirety protection is not available in a bankruptcy proceeding if the husband and wife had any joint debt (such as a home mortgage or credit card debt where husband and wife are debtors). After two years of litigation, the United States District Court for the Southern District of Florida reversed Judge Cristol and sided with the majority of Bankruptcy Courts in Florida in holding that only debts to joint creditors can be satisfied from entireties property. In re Planas, 1998 U.S. Dist. LEXIS 20524 (S.D. Fla. Aug. 21, 1998). The opinion stated that the purpose underlying the Florida entireties exemption is to protect entireties property held by husband and wife from the attacks of one spouse’s creditors. The District Court opinion states “[t]he rationale behind the entireties exemption would be sacrificed if the individual creditors of the debtor spouse can reach the entireties property of the debtor and his/her non-debtor spouse.” The court added that “Florida’s entireties exemption provides every spouse with the security that the family’s entireties property cannot be reached by a creditor unless both spouses agree to become obligated to that specific creditor.”
Tenants by the Entirety property was again upheld in In re Schwartz, 2007 Bankr. LEXIS 255 (Bankr. D. Kan. Jan. 8, 2007) (discussed above).
In In re: Pyatte, 2010 Bankr. LEXIS 4973 (Bankr. M.D. Fla. Nov. 18, 2010), the court held that debtors in bankruptcy are not required to allocate their interest in their tenancy by the entireties property equally between them for purposes of claiming Florida’s personal property exemptions, and that one joint debtor may exempt an interest greater than fifty percent to the extent the exemption is otherwise available. Citing Beal Bank, the court found that each spouse’s interest in entireties property consisted of the whole of the property, not a divisible part. Limiting a debtor’s interest to 50% of the value of the entireties property would be inconsistent with Florida law in that each spouse has an equal right to the whole.
i. It is critical for a husband and wife to verify that their bank or brokerage signature cards are marked “tenancy by the entirety” if such is their intent. Failure to do so can result in garnishment of such accounts by a judgment creditor of a debtor spouse. Based upon McAnany, it may not be safe to reply on the Beal Bank decision for anything other than bank accounts.
ii. One must always bear in mind the inherent risk of planning with entireties property, such as the untimely death of the spouse without a creditor problem. This would result in previously exempt assets passing outright to the surviving spouse who has the creditor problem. If such events were to occur, the surviving debtor spouse would have difficulty conveying such assets, and a transfer could be set aside as a fraudulent conveyance.
iii. As tenants-by-the-entireties ownership is frequently incompatible with estate planning objectives, practitioners must provide clients with alternatives to take advantage of their individual unified credits if the bulk of their assets are owned as tenants-by-the-entirety. The use of life insurance may be an alternative to dividing tenancy by the entirety property which would ensure each spouse had sufficient assets to take advantage of his or her unified credit.
2. Joint Tenancy.
a. General. In a joint tenancy, each co-owner is considered to be the owner of an undivided portion as well as the owner of the entire interest. Upon the death of a co-owner, the surviving joint tenant(s) continue(s) as owner(s) of a larger undivided interest as well as the entire interest. During the life of a co-joint tenant, such joint tenants creditors may reach his/her share of the property. However, upon the death of the debtor survived by other joint tenant(s), the debtor’s creditors may not reach the debtor’s joint tenant interest, since the interest vested in the surviving joint tenants upon the debtor’s death.
b. Planning. What if a debtor creates a joint tenancy shortly before his death to avoid having the property pass through his estate, thereby making such property unavailable to those creditors who file a claim against the debtor’s estate? It appears that asset protection planning in such instance can be initiated even after a debt is incurred.
3. Tenancy in Common.
a. General. The primary feature of a Tenancy in Common is the lack of a right of survivorship. Where two or more persons own undivided interests in property, they are presumed to be tenants in common, unless a contrary intent is expressed.
b. Planning. Property held by spouses, as Tenants in Common, clearly does not provide the creditor protection afforded by entireties property. Generally, creditors can reach such property at least to the extent of interest owned by the debtor.
D. Foreign Trusts.
1. General. Conceptually, a foreign trust is a trust to which the laws of a foreign jurisdiction apply. There are several advantages to having a foreign trust, which when coupled together, would tend to cause a plaintiff to negotiate in good faith at the bargaining table. The advantages of a foreign trust including the following:
a. Reasons for Creating a Foreign Trust. In addition to asset protection, foreign trusts provide settlers with several benefits. For example, like revocable trusts, they (i) permit the retention of certain control, (ii) provide for the incapacity of the settlor, and (iii) avoid probate.
b. Mechanics of a Foreign Trust. For purposes of taxes, the trust is usually deemed a grantor trust so that the U.S. settlor pays income tax on the assets. This helps avoid the adverse consequences of transferring assets to the foreign trust and treats the transfer as an incomplete gift for purposes of gift tax, thereby deferring transfer tax. The trust document itself provides that the document shall be governed by the law of the chosen jurisdiction.
Numerous articles have been written about foreign and domestic asset protection trusts, including the following: Bove Jr., Offshore Asset Protection Trusts, TR. & EST., Nov. 2010; Rothschild & Soukavanitch, The United States of Asset Protection, TR. & EST., Jan. 1, 2008, at 38; Nenno, The Trust From Hell: Can it be Moved to a Celestial Jurisdiction?, 22 Prob. & Prop. 60 (May/June 2008); Horwood & Zaluda, Custom Designing Domestic Asset Protection Strategies, 25 J. TAX'N INV. 42 (Fall 2007); Bove Jr., Asset Protection Trusts—The Creditor's Nightmare, 24 J. TAX'N INV. 147 (Winter 2007); Gideon Rothschild, Creditor Wars: Asset Protection Strikes Back-Protection from Predators and Creditors in the 21st Century, in 40th Annual Heckerling Institute on Estate Planning (Matthew Bender, Pub., 2006); Richard W. Nenno, Planning With Domestic Asset Protection Trusts, SJ073 ALI-ABA (Apr. 2004); James R. Stillman, Why the Borrower Usually Decides Not to Use Off-Shore Asset Protection Trusts, SJO76 ALI-ABA 375 (2004); Richard W. Nenno, Planning With Perpetual Dynasty Trusts, SJ036 ALI-ABA (Nov. 2003); Thomas O. Wells, Domestic Asset Protection Trusts – A Viable Estate and Wealth Preservation Alternative, 77 FLA. BAR. J. 44 (May, 2003); Bryan Nichols, Note: ‘I See the Sword of Damocles Is Hanging Above Your Head!’ Domestic Venue Asset Protection Trusts, Credit Due Judgments, and Conflict of Law Disputes, 22 REV. LITIG. 473 (Spring 2003); Duncan E. Osborne, Jack E. Owen, and Arthur T. Catterall, Planning Techniques for Large Estates, Asset Protection: Trust Planning, SH069 ALI-ABA 1713 (2003); Frederick J. Tansill, Asset Protection Trusts (APTS): Non-Tax Issues, SJ027 ALI-ABA 291 (2003); Gideon Rothschild, Asset Protection Planning: Uncovering the Myths and Realities, 322 PLI/Est 99 (March 2003), Richard Lewis, The Foreign Irrevocable Life Insurance Trust as Asset Protection: Potential for Abuse and Suggestions for Reform, 9 CONN. INS. L.J. 613 (2002/2003), Barry Engel and David S. Lockwood, Domestic Asset Protection Trusts Contrasted with Foreign Trusts, Estate Planning (June 2002); Rosen & Rothschild, Asset Protection Planning, 810-2nd T.M. (2002); John Eason, Developing Asset Protection Dynamic: A Legacy of Federal Concern, 31 Hofstra L. Rev. 23 (Fall 2002); Charles D. Fox IV and Michael J. Huft, Asset Protection and Dynasty Trusts, 37 REAL PROP. PROB. & TR. J. 287, (Summer 2002); Robert T. Danforth, Rethinking the Law of Creditors’ Rights in Trusts, 53 HASTINGS L.J. 287, (January 2002); Mark Merric and Edward D. Brown, The Integrated Offshore Intentionally Defective Grantor Trust, 95 J. Tax'n 277-284 (Nov. 2001); Michael Sjuggerud, Defeating the Self-Settled Spendthrift Trust in Bankruptcy, 28 FLA. ST. U.L. REV. 977, (Summer 2001); and Spero, Impact of Bankruptcy Legislation on Asset Protection, 28. Est. Plan 291 (June 2001).
2. Things to Consider Before Creating a Foreign Trust.
a. Drawbacks. Using a foreign trust is not the panacea it is sometimes made out to be by certain commentators. Among the drawbacks are:
i. The logistical constraints associated with finding a good trustee in whom the settlor has confidence;
ii. The potential application of U.S. law under conflicts of law theories;
iii. The recognition in the foreign jurisdiction of a form of the statute of frauds which would result in the transfer to the trust being set aside; and
iv. The concern by professionals that they not participate in a fraud by the client.
b. Litigation in its infancy. While there is currently little case law in this area to provide guidance, some of the cases that have been reported have been devastating. Nonetheless, practitioners continue to draft and settlers continue to fund foreign trusts The following issues should be considered when creating such a trust:
i. Assets in a foreign trust have been held to be subject to Federal tax liens. In United States v. Werner, 857 F. Supp. 286 (S.D. N.Y. 1994), the district court granted summary judgment for the government holding that when a taxpayer does not pay taxes, the IRS has a lien on all of the taxpayer’s property or rights to property. Because the taxpayer reported on his bankruptcy petition that he was the owner of foreign trust assets, the government was entitled to a ruling that the trust assets were subject to tax liens.
ii. Foreign trusts should not be designed to hold all of the grantor’s assets. If funding the trust causes the grantor to become insolvent, it is far more likely that a creditor will succeed in its attempt to set-aside the transfer as a fraudulent conveyance, assuming the courts are successful in reaching the offshore assets.
3. Settlor Beware! Anderson, Lawrence and Weese are all names that practitioners should make their clients familiar with prior to creating foreign trusts. These are good examples of the potentially devastating drawbacks of such transactions where planning is initiated after problems have occurred.
a. FTC v. Affordable Media, LLC, 179 F.3d 1228 (9th Cir. 1999). In this case, the Andersons were accused of marketing a fraudulent Ponzi scheme on late night television. The Federal Trade Commission (“FTC”) brought a civil action against the Andersons for violation of various Federal statutes and to recover the money invested by the Andersons’ victims. The Andersons had received “commissions” estimated at approximately $6.3 million. The money had apparently been transferred to their irrevocable trust in the Cook Islands that they created in 1995, several years before they allegedly began marketing their “Ponzi Scheme.” The district court held the Andersons in civil contempt for failing to comply with its order requiring them to repatriate the assets to the United States. The Andersons relied on the defense of impossibility of compliance, claiming that the Cook Islands Trustee, in accordance with the provisions of the trust document, determined that an “event of duress” had occurred which authorized the Cook Islands Trustee to remove the Andersons as co-Trustees and refuse to repatriate the funds to the United States.
The district court’s contempt ruling was affirmed on appeal because of lack of proof of the Andersons’ defense of impossibility of compliance. However, the appellate court acknowledged that offshore trusts can be created so as to protect the assets from repatriation to the United States as well as to protect the settlor from civil contempt because repatriation of the trust assets is indeed impossible. The appellate court’s judgment is noteworthy:
b. Off Shore Asset Protection May be Costly! Stephan Lawrence, a securities trader, who was first incarcerated in 1999, served approximately six years before being released on December 13, 2006 from a Miami Federal Detention Center. In 1991, two months before an arbitration judgment was issued against him resulting from $20.4 million in losses he suffered from the October 1987 stock market crash, Lawrence settled a trust with assets valued at $7 million in Mauritius. In 1993, the trust was amended so that (i) settlor’s powers could not be executed under duress or coercion and (ii) his life interest would terminate in the event of his bankruptcy. In 1995 the trust was amended to define Lawrence as an “excluded person” under the trust. Then in 1997 Lawrence filed for bankruptcy. Not only did his creditors object to his discharge, but the bankruptcy court determined that the trust was governed by Florida law and not Mauritius.
In July 1999, Lawrence was ordered to turn over the trust assets. The court set a status conference for September and on September 8, Lawrence claimed that it was impossible for him to turn over the trust assets. The bankruptcy court rejected his impossibility defense because the impossibility was self created and thereafter the court issued a contempt order. Lawrence refused to comply with the contempt order and on October 5, 1999, he was ordered by the bankruptcy court to be incarcerated.
The Miami Herald on October 6, 1999, wrote about Lawrence’s predicament. It reported that Chief Bankruptcy Judge A. Jay Cristol said Lawrence, 54, would not be released from the Federal Detention Center in Miami unless he turns over the trust he established before filing for bankruptcy. Lawrence claimed he was powerless to hand over the money because he had lost control over the trust. Judge Cristol mocked that excuse, calling Lawrence’s attempts to turn over the trust lame. Before putting Lawrence in jail, the judge said “the time has run out, it’s over. He has the – key to the dungeon door in his own possession.”
The Florida Southern District Court affirmed the bankruptcy court’s “Turn Over Order” and “Contempt Order.” Lawrence appealed the Orders to the Eleventh Circuit Court of Appeal which affirmed the lower courts. The Appellate Court instructed the bankruptcy court to reconsider Lawrence’s incarceration at reasonable intervals because civil contempt sanctions are intended to coerce compliance with a court order. If at any point the bankruptcy judge determines that the incarceration is becoming punitive the judge will be obligated to release Lawrence because the incarceration would no longer serve the civil purpose of coercion. On December 22, 2006, the Miami Herald reported that U.S. District Judge Alan Gold ordered Lawrence’s release from incarceration after over six years in prison. The Herald reported that Judge Gold concluded that continued incarceration of Lawrence could no longer be justified because there was no possibility that Lawrence would ever comply with the turnover order. While he may be a free man, Lawrence still faces his monetary sanction of $10,000 per day, which is currently unpaid and reaching over $22 million.
For a case history of the Lawrence litigation see, In re Lawrence, 217 B.R. 658 (Bankr. S.D. Fla. 1998); Goldberg v. Lawrence, 227 B.R. 907 (Bankr. S.D. Fla. 1998); In re Lawrence, 235 B.R. 498 (Bankr. S.D. Fla. 1999); In re Lawrence, 238 B.R. 498 (Bankr. S.D. Fla. 1999); Lawrence v. Goldberg (In re Lawrence), 244 B.R. 868 (Bankr. S.D. Fla. 2000); Lawrence v. Chapter 7 Trustee (In re Lawrence), 251 B.R. 630 (Bankr. S.D. Fla. 2000); and In re Lawrence, 279 F.3d 1294 (11th Cir. 2002). For a similar situation involving a debtor becoming jailed, see Solow, infra.
c. Bank of America, N.A. v. Brian D. Weese, 277 BR 241 (D. Md. 2002). Brian and Elizabeth Weese (the “Weeses”) owned the Bloomsbury Group, Inc. (“Bloomsbury”), which operated a chain of book stores in the Baltimore area. In 2001, Bank of America (“Bank”) and other creditors of Bloomsbury brought suit against the Weeses claiming that they had fraudulently conveyed assets totaling an estimated $25 million to a Cook Islands asset protection trust. After arbitration and court proceedings in federal bankruptcy court, Maryland state court and the Cook Islands, the case was settled for approximately $13 million in March 2003.
The case originated in 1999 when Bank issued a line of credit to Bloomsbury which was personally guaranteed by the Weeses. A year later when the loan was due, neither Bloomsbury nor the Weeses repaid Bank the amount owed of $16.3 million. In June 2000, Bank provided the Weeses with a Notice of Claim and Demand for Arbitration.
On July 12, 2000, the Weeses received Notice that arbitration proceedings had been initiated. On the same day, Elizabeth Weese, as settlor, established a Cook Islands trust (the “CI Trust”). Over the course of the next several months, the Weeses transferred approximately $25 million in assets to the trust. Included in the transfers were the Weeses’ home, in which they continued to reside, and all of its furnishings.
On December 28, 2000, judgment in the amount of $17.6 million was entered in favor of Bank as a result of the arbitration. In January 2001, Bank first learned of the Weeses transfers the prior year. Meanwhile, the CI Trust had transferred approximately $15 million in cash, generated from assets which were liquidated to a Swiss bank as custodian of the CI Trust.
Bank filed suit in Maryland and the Cook Islands to recover assets. On July 2, 2001, the High Court in the Cook Islands issued a “Mareva Injunction,” which required the trustee of the CI Trust to transfer all the assets in the custody of the Swiss bank to a bank within the Cook Islands. On July 30, 2001, the Baltimore County Circuit Court issued an injunction freezing all of the CI Trust assets. Bank also filed motions in both courts to obtain authorization to review documents that would ordinarily be subject to the attorney-client privilege.
d. Morris v. Morris, 932 So. 2d 1007 (Fla. 2006); Morris v. Wroble, 206 Fed. Appx. 915 (11th Cir. 2006); see also Steven Leimberg’s Asset Protection Planning Newsletter #97 (Jan. 11, 2007) www.leimbergservices.com. Lee and Merry Morris entered into a post-nuptial agreement in 1998, which provided for joint custody of their children and a $1.35 million payout (later adjusted to $1.5 million in 2001) from Lee to Merry if Merry did not contest the terms of the agreement. In August 2001, the couple filed for divorce and in June 2003, Merry brought action to enforce the agreement and clarify unresolved issues, clearly indicating that she was attempting to enforce, not challenge the agreement. The court, however, determined that the action constituted a challenge and ordered Merry to pay back the $1.5 million previously paid to her along with Lee’s attorney’s fees. While Merry appealed the court decision, Lee attempted to collect the debt, but discovered it was in an offshore Cook Islands asset protection trust with terms that made Merry a beneficiary without control over distributions and trust assets.
After learning of the Cook Islands Trust, the court ordered Merry to bring back the money and enjoined her from making further transfers. Instead of complying, however, Merry fled Florida. She was ordered three times to appear in Florida and, after failing to appear on all occasions, was held in criminal contempt of court. Three arrest warrants were issued and registered for Merry’s return. In addition to her being a fugitive, the court dismissed her Appeal after giving her 15 days to voluntarily appear. Until recently, while she has not had to pay back the money, Merry was a fugitive, living in various locales around the world, unable to see her children and foreclosed from appealing the court’s ruling. According to an article published on March 24, 2008 in the Miami Herald and Palm Beach Post, in January of 2008, Merry surprisingly appeared at a Palm Beach County Jail and turned herself in and Circuit Court Judge Gerber, who previously ordered her to return the funds, sentenced her to 120 days in jail for not obeying his order. In addition, the Circuit Judge Amy Smith, the current judge presiding over the divorce case will also soon decide what sentence Merry should face for not repaying the $1.8 million ($1.5 million previously ordered to be returned plus $300,000 in attorney fees for the husband). It is likely that Merry will remain in jail until she repays the funds; however, she continues to maintain that the Cook Islands Trustee refuses to release the funds. For a detailed discussion on this case and on the use of foreign asset protection trusts, see Steven Leimberg’s Asset Protection Planning Newsletter #97 (Jan. 11, 2007) www.leimbergservices.com (summarizing a panel presentation entitled “The Ethics of Asset Protection Planning – An Oxymoron?” given by Alexander Bove, Jr., Jay D. Adkisson, and Gideon Rothschild at Heckerling in Orlando); Jane Musgrave, Woman Jailed for not Repaying Ex-Husband, PALM BEACH POST, Mar. 23, 2008.
e. SEC v. Solow, 682 F. Supp. 2d 1312 (S.D. Fla. 2010). Defendant Jamie Solow was held in contempt and subsequently jailed following his violation of the terms of a final judgment rendered against him which ordered him to satisfy a disgorgement of $2,646,485.99. Solow was found to have dissipated his assets after his wife liquidated joint securities accounts by transferring the proceeds to an account in her name, depositing cash and jewelry in Swiss safe deposit accounts, and executing a $5.26 million mortgage on the couple's homestead property. The court ignored Solow's claim that the assets were protected by state law, stating that "a court has broad equitable powers to reach assets otherwise protected by state law to satisfy a disgorgement" order. Id. at 1325. Protection of the funds as tenancy by the entireties was rejected where the funds were sought to satisfy a disgorgement order issued by a federal court. Recently, Solow was followed in FTC v. Leshin, 2011 U.S. Dist. LEXIS 14778 (S.D. Fla. Feb. 15, 2011), where the court stated that it was "not limited by Florida State Exemptions in reaching the Defendants' assets to satisfy the Disgorgement Order." Id. at *42. For more discussion of Solow, see discussion at paragraph VI subparagraph B, 8 infra.
f. Other Attacks on Foreign Trusts. Although many attorneys continue to tout the benefit of foreign trusts for purposes of asset protection, practitioners and their clients should take notice that successful attacks on offshore trusts are on the rise. On March 18, 2004, The Miami Herald reported that a federal judge had given David Siegel until March 19, 2004 to explain what happened to the $87 million missing from American Financial Group of Aventura. The sanction for failure to provide the information requested was the threat of jail. The paper reported that the order represents the sanctions in response to the “contempt of court charges originally issued in October” 2003 against Siegel, the company’s former Vice President. Siegel claims to have no assets outside the U.S., but in any event has failed to explain the whereabouts of the missing $87 million that the SEC first charged him and the company in July 2002 for fraudulently misappropriating from investors.
The trend of attacking foreign trusts was first noted in a June 15, 1998 Forbes article, Your Trust Has a Hole, in which Brigid McMenamin wrote that “offshore judges are beginning to balk at protecting deadbeats and crooks, too.” In one case discussed in the article, on the advice of counsel, a developer who built condos became concerned when not long after they were built, the condos were leaking and the floors rippling. As a result, the developer, on advice of his attorney, retained a $2.7 million reserve and then stashed $5 million in a Cook Islands trust to avoid potential liability. A Los Angeles jury awarded the homeowners $7.1 million in damages. Attempting to enforce the judgment, the homeowners learned of the offshore trust. Under the Cook Islands law, creditors have two years to challenge a trust that has been established to avoid them. It appeared that the homeowners were out of luck since six years had passed since they had closed on their homes. However, according to the Forbes article, the New Zealand judge who presided over the case ruled that the clock did not start ticking until the homeowners won the California judgment. Consequently, the homeowners were successful in enforcing the judgment in the Cook Islands.
The Forbes article also points out that the IRS is actively pursuing taxpayers who are attempting to utilize such trusts for tax evasion. According to the article, in 1997 the IRS flagged 10,000 dubious trust returns, and of those, 500 were considered for criminal prosecution. If this is not enough to make planners think twice about touting offshore trusts as the solution for all asset protection problems, then consider that Forbes reported that Ronald Rudman, a former partner of Barry Engels, who actively markets the benefits of foreign trusts, has left the practice of law. Rudman it reported is now buying up hopeless claims against people who have offshore trusts in an attempt to collect against them.
1. Revocable Trusts. Generally, revocable trusts, such as Living Trusts, do not protect the grantor’s assets from creditors during the grantor’s lifetime. Although opinions differ amongst states, in Florida a revocable trust does not provide creditor protection upon the death of the grantor/beneficiary. Florida Statute Section 733.707(3) (effective July 1, 1995) provides that revocable trust assets are available to creditors to the extent the probate assets are insufficient to satisfy the grantor’s creditors and expenses of administration.
a. In Aronson v. Aronson, 930 So. 2d 766 (Fla. 3d DCA 2006), the Court determined that, after property was in a trust and titled in the name of the Settlor, as trustee, the Settlor could not, acting in his individual capacity, subsequently convey the property, even if the trust was revocable. The settlor created a trust in 1996 and included in his trust a condominium located in Key Biscayne, Florida. Once the trust was created, he conveyed the property to himself as trustee of the trust. The trust contained provisions reserving powers in the Trustee to revoke the trust, in whole or in part, by an instrument in writing and the right to supervise, characterize, and invest the property in the trust. Subsequently, by quit claim deed, the Settlor, acting in his individual capacity, conveyed the property to his second wife. The Court held that the second conveyance was invalid because the Settlor, individually, was no longer the legal title holder of the property and did not strictly comply with the terms of the trust to transfer the property back to himself, as an individual. The Court ruled that intent was irrelevant in this situation because the document was clear and unambiguous on its face.
2. Irrevocable Trusts - Created by the Grantor.
a. General. Just like outright gifts of property, transfers to irrevocable trusts, conceptually, place assets outside the reach of the grantor. Nevertheless, a creditor can pursue the settled assets where (i) the trust is funded as a result of a fraudulent conveyance, (ii) the grantor retained too much control over the trust, (iii) the grantor retained too much of an interest in the trust and/or (iv) the trust is illusory.
b. Assets Usually not Fully Protected.
i. Numerous cases have recognized that a creditor can reach a debtor’s interest in a spendthrift trust, or one of the variations of it, when the trust was created by the debtor. See In re Lichstrahl, 750 F. 2d 1488 (11th Cir. 1985) (applying Florida law); In re Robbins, 826 F. 2d 293 (4th Cir. 1987) (applying Maryland law); Levey v. First Virginia Bank, 845 F. 2d 80 (4th Cir. 1988) (applying Virginia law); In re Witlin, 640 F. 2d 661 (5th Cir. 1981) (applying Florida law); Plymouth Rock Fuel Corp. v. Bank of New York, 91 Misc. 2d 837, 398 N.Y.S. 2d 814, 815 (1977), aff’d, 102 Misc. 2d 235, 425 N.Y.S. 2d 908 (1979). The general rule from these cases appears to be that when a person creates a trust for his or her own support, or a discretionary trust for their benefit, such person’s creditors can reach the maximum amount which the trustee, under the terms of the trust, could pay to, or apply for the benefit of the grantor of the trust.
ii. It is important to note that no matter the type of trust, a spendthrift clause in a self settled trust is ineffective. For example, In re Brown, 303 F. 3d 1261 (11th Cir. 2002), the debtor, an alcoholic, funded a charitable remainder unitrust with a $250,000 inheritance received. The Appellate Court noted that under Florida law, self-settled spendthrift provisions are not recognized. A self-settled spendthrift provision is one in which the settlor and beneficiary are the same person. Although when the debtor created the trust, she was solvent and there was no intent to defraud creditors, the spendthrift provision was void as against public policy. Because the debtor’s sole right was to a fixed percentage of the trust assets for life that was what the creditor was able to attach.
iii. An individual may be able to create a trust that is asset protected, in whole or in part, of which such individual is a permissible beneficiary, by restricting the discretionary authority of the trustee with respect to such individual. These restrictions include: (i) limiting distributions to the trust grantor to an ascertainable standard (e.g. health, maintenance and support), (ii) requiring that distributions to the individual not hamper the ability of the trustee to provide for the support of other beneficiaries such as the spouse or children of the individual and (iii) requiring that the trustee first obtain the consent of adverse beneficiaries prior to distributing funds to the grantor/beneficiary. The greater the foregoing restrictions, the less likely it is that the trust estate will be reachable by the creditors of the grantor/ beneficiary. However, these provisions truly limit the grantor’s ability to benefit from such trust assets.
c. Planning. An irrevocable trust funded with carefully selected assets can provide significant asset protection benefits as well as tax savings.
d. Spendthrift Trusts can protect inheritance from future writs of garnishment for beneficiaries.
i. In Murray v. Nations Bank of Florida, 846 So. 2d 548 (Fla. 4th DCA 2003), the Appellate Court invalidated a 120-year-old Florida Supreme Court decision which prohibited a creditor from serving a writ of garnishment on the personal representative of an estate. The court reasoned that due to changes in the Florida Statutes, Sections 77.01 and 733.706 allowed the creditor a writ of garnishment against “the property of the estate” if the court handling the probate administration determined that the garnishment proceeding would not interfere with the administration of the estate. The case originated when Murray received a judgment against Gambrill for theft. As a result of fears that she would hide her assets, the court permitted Murray to execute immediately upon Gambrill’s assets. Murray was unable to find assets upon which to execute the writ of garnishment until he learned during a deposition that Gambrill was the personal representative and sole beneficiary of her deceased husband’s estate.
ii. The Florida Third District Court of Appeals, in Arellano v. Bisson, 847 So. 2d 998 (Fla. 3d DCA 2003), concluded that spendthrift trust income is generally not subject to garnishment outside of child support orders and judgments. Defendants Arellano sought satisfaction of their judgment against Plaintiff Arellano. The court stated that it is imperative to give effect to the intent of the grantor of a trust and garnishing the income from a spendthrift trust would defeat that intent.
iii. However, In re Scott, 21 Fla. L. Weekly Fed. B 13 (Bankr. S.D. Fla. Aug. 8, 2007) the Court held that when the sole beneficiary is the sole Trustee, there is a merger and the spendthrift provisions of the trust are no longer valid. In In re Scott, a Texas case stating that the law is “no different than the result under Florida law” the Court determined that when the sole beneficiary is the sole Trustee of a trust, the spendthrift provisions of the trust are invalid and the spendthrift attributes cease to exist. In this case, the debtor was the beneficiary of a trust created by his mother originally designed to have at least two trustees to administer the trust for the child. After the mother died the debtor petitioned the court to request that this requirement be eliminated and had the debtor’s sister resign as co-Trustee leaving him as sole Trustee. In the court’s opinion, upon the sister’s resignation, all legal and equitable title to the Trust assets merged and the spendthrift protection of the trust was lost. The debtor argued that he was not the sole beneficiary because his future lineal descendants were also beneficiaries of the trust. Having no children, the court ruled that only vested interests prevent merger and that potential beneficiaries (the future lineal descendants of the beneficiary) were not sufficient to prevent a merger. In addition, the court determined that it did not matter that the trust limited distributions to ascertainable standards as “ ‘[t]he extent of a trustee’s discretion is irrelevant to the validity of a spendthrift provision; the spendthrift attribute either exists or it does not.’” (Citing In re Shurley, 171 B.R. 769).
iv. In addition, in IRS CCA 200614006 (decided Nov. 30, 2005; released Apr. 7, 2006), the IRS Chief Counsel issued guidance regarding federal preemption of spendthrift trusts. The IRS stated that “Spendthrift provisions, which are state-created exemptions, cannot defeat a federal tax lien…the spendthrift provision of the trust, however effective against certain creditors’ claims, is clearly ineffective at insulating assets of the trust from levy by the Service, provided that such assets are first found to constitute the ‘property’ or ‘right to property’ of the taxpayer.” It further states that the taxpayer who is an income beneficiary of the trust, at a minimum, has the right to all of the current income of the trust and is not subject to discretion on the part of the trustee. This mandatory distribution of income is a property right of the taxpayer subject to levy by the IRS. In addition, in this matter the beneficiary was also the beneficiary of certain distributions of principal at stated dates. Because the right to these distributions was vested, the IRS can levy the future payment, but cannot accelerate the right to payment. If the Trustee intentionally makes distributions of funds encumbered by the lien and the funds disappear into the “stream of commerce” the IRS can also sue the Trustee for tortuous conversion of the federal tax lien.
v. In In re Ciano, 22 Fla. L. Weekly Fed. B 455 (Bankr. N.D. Fla. Aug. 6, 2010), debtor filed a claim of exemption with respect to an interest in an inter vivos trust. The creditor objected and sought a determination that the trust assets, two life insurance policies, were property of the bankruptcy estate. In validating the spendthrift provision, the judge exclaimed that because the trust instrument prohibited alienation of the debtor’s interest by involuntary act or invitum by his creditors, and the debtor could not exercise absolute dominion or control over the trust assets, the trust and its corpus did not become property of the bankruptcy estate by operation of Bankruptcy Code § 541(c)(2).
3. Domestic Self-Settled Asset Protection Trusts.
Thirteen states have adopted a version of self-settled asset protection trust legislation. See ALASKA STAT. §34.40.110; COLO. REV. STAT. § 38-10-111 DEL. CODE ANN. TIT. 12, §§3570-3576; HAW. REV. STAT. § 554G; MO.REV. STAT. §§456.5-505; N.H. REV. STAT. ANN. § 564-B:8-814; NEV. REV. STAT. §§116.010-166.170; OKLA. STAT. ANN. tit. 31, § 13, 16; R.I. GEN. LAWS § 18-13-2; S.D. CODIFIED LAWS §§55.16-1–55-16-17; TENN. CODE ANN. § 35-16-104, 107; UTAH CODE ANN. §25-6-14; WYO. STAT. §§4-1-505 & 4-10-510–523. A few are discussed below.
a. Delaware Law. On July 9, 1997, Delaware enacted a law providing that assets held in a Delaware trust may be protected against claims from the donor’s creditors when: (i) the trustee was vested with the power to distribute assets back to the donor; (ii) the trustee was restricted from distributing trust assets to any person other than the donor without the donor’s approval; and (iii) the donor had the power to determine who, other than donor’s creditors, were to receive trust assets upon donor’s death. The law also purports to permit the donor to make a completed gift to the trust while remaining an eligible beneficiary of the trust. Additionally the rule against perpetuities is generally not applicable to restrict the duration of a Delaware trust.
In order to be afforded these protections under Delaware law, the Trustee must: (i) be a resident individual or an entity authorized under Delaware law to act as a trustee subject to federal or state regulatory supervision and (ii) maintain or arrange for custody in Delaware of all or a portion of the assets transferred to the trustee, maintain records for the trust, prepare the fiduciary income tax return for the trust, and otherwise materially participate in the administration of the trust.
However, there are a few exceptions which permit a donor’s creditors to access donor’s assets. The first exception is for creditors resulting from either personal injury or property damage who became creditors before the Trust’s creation. There is also an exception for debts related to domestic relations obligations, for fraudulent transfers and fraudulent financial statements.
b. Alaska Law. In April, 1997, Alaska enacted a law which also provides beneficial asset protection opportunities. Among the most important aspects of the Alaska law are: (i) the trustee is vested with the power to distribute assets back to the donor; (ii) the rule against perpetuities is repealed with respect to Alaska trusts, and (iii) the law purports to allow a donor to make a completed gift for estate tax purposes while remaining an eligible beneficiary of the trust. Under Alaska’s new law, the donor’s interest in a trust created by said donor is not subject to the claims of his or her creditors unless the transfer is deemed fraudulent. It is important to note that to obtain the benefits of Alaska’s new law, the trust terms must clearly state that the donor is eligible to receive distributions at the discretion of the trustee. Those touting the benefits of an Alaska trust contend that under the new law: (i) a transfer to an Alaskan trust is a completed gift, and (ii) the assets in a properly drafted Alaskan trust should be excluded from a donor’s gross estate for federal estate tax purposes, even when the donor and members of his or her family are eligible to receive distributions in the discretion of the trustee, who is not the donor.
c. Other States. Missouri was actually the first state to adopt legislation under which a self-settled trust with a spendthrift clause would be protected from future creditors. John A. Warnick & Sergie Pareja, Selling a Trust in the 21st Century, 16 PROBATE & PROP. 53 (Mar./Apr. 2002). The law restricts the settlor from: (i) being the sole beneficiary, (ii) retaining the power to revoke or amend the trust or (iii) retaining the right to a specific portion of the trust. Id.
Delaware and Alaska followed in 1997 with their legislation. Then in 1999, Nevada and Rhode Island created legislation permitting similar trusts. For a detailed summary of the various statutes and how they differ from each other, see Stewart E. Sterk, Asset Protection Trusts: Trust Law’s Race to the Bottom?, 85 CORNELL L. REV. 1035, 1037 (2000). In 2003, Utah, in 2004 Oklahoma, in 2005 South Dakota, and in 2007 Tennessee and Wyoming joined the list of states permitting self-settled trusts. Colorado also has a limited domestic asset protection statute; however, Colorado practitioners disagree about whether or not the statute qualifies. See Rothschild, Staying Out of Reach, TR. & EST., Jan. 1, 2011, at 33; Shaftel, IRS Letter Ruling Approves Estate Tax Planning Using Domestic Asset Protection Trusts, 112 J. TAX'N 213 (Apr. 2010); Rothschild, et. al., IRS Rules Self-Settled Alaska Trust Will Not Be In Grantor's Estate, 37 EST. PLAN. 3 (Jan. 2010); Shaftel, Comparison of the Twelve Domestic Asset Protection Statutes: Updated Through November, 2008, 34 ACTEC J. 293 (2009); Rothschild & Soukavanitch, The United States of Asset Protection, TR. & EST., Jan. 1, 2008, at 38.
Note. It has yet to be determined whether trusts established under the laws of Alaska or Delaware (or any other state with similar laws) will survive attack by creditors in instances where the settlor/beneficiary is not a resident of the state. For a discussion on the benefits and potential problems with self-settled trusts, see Thomas O. Wells, Domestic Asset Protection Trusts--A Viable Estate And Wealth Preservation Alternative, FLA. BAR. J. (May 2003). As one commentator has noted, even though, technically, the law of the situs of the trust applies in determining whether the trust interest can be reached by creditors, it is questionable whether courts will blindly follow the laws of other states when such laws are deemed in violation of public policy. See Spero, Chapter 6. In addition, as Spero notes, there are several different scenarios arising with respect to the forum used for the enforcement of a creditor’s claim (e.g. state, bankruptcy or other federal court in or outside Delaware or Alaska) which may lead to different outcomes. Outcomes may also differ as a result of the residence of the settlor/beneficiary in Alaska or Delaware (or any other state with similar laws), and the trust assets being held in the state where the trust has its situs.
4. Irrevocable Trusts - Created by Person other than Grantor.
a. General. It is well settled that if a spendthrift trust is created by a grantor for another person, pursuant either to the trust language or the application of local law, the trust estate will not be available to the grantor’s individual creditors. See, In re Knowles, 123 B.R. 428 (Bankr. M.D. Fla. 1991).
b. Definition. A “spendthrift trust” is defined as a trust imposing, by its terms or by statute, a valid restraint on voluntary and involuntary transfer of the interest. In re Edgar, 728 F. 2d 1371, 1372 (11th Cir. 1984) (quoting the Restatement 2nd of Trusts, § 152 (2)).
When the debtor can exercise dominion over trust property, a creditor can reach the debtor’s interest in a spendthrift trust even if the debtor did not create the trust. In re May, 83 B.R. 812, 814 (Bankr. M.D. Fla. 1988). As stated in May:
NOTE: In re Kane. The Bankruptcy Court for the Southern District of Florida in In re Kane, 336 B.R. 575 (Bankr. S.D. Fla. 2006) found that a debtor’s interest in his employee stock ownership plan met the requirements for a spendthrift trust and therefore was excluded from his estate as exempt property. The court determined that the interest was deemed a spendthrift trust because the debtor “had no right or ability to reach his vested interest in his ESOP by terminating his employment prior to attaining” a retirement age of 65, could not compel a distribution of any portion of his vested interest and was unable to borrow against his interest.
c. Level of Asset Protection.
i. Alimony and Support. The Florida Supreme Court, basing its opinion in part on the law in other jurisdictions, has held that disbursements from spendthrift support trusts can be garnished for alimony or incidental awards of attorney’s fees before such disbursements reach the debtor/beneficiary. The ruling was also noted to be applicable to child support. See, Bacardi v. White, 463 So. 2d 218 (Fla. 1985).
However, it appears that Florida Statutes § 736.0504(2) provides protection for assets in a Florida discretionary trust even with respect to a child or former spouse. Until a case addresses whether a discretionary trust can be garnished to satisfy a debtor beneficiary’s obligation for child support or a judgment in the form of support resulting from a divorce, the author prefers jurisdictions like Alaska or Nevada for parents who want to protect their children from child support or judgments in the form of support. See ALASKA STAT. § 34.40.110; NEV. REV. STAT. § 163.417 (1)(c)(1), (2); 163.419(4); 166.08.
ii. Spendthrift Trust Can Protect Funds from Judgment Creditor of Beneficiary.
(1) In Scheffel v. Krueger, 146 N.H. 669 (N.H. 2001), the New Hampshire Supreme Court validated the protection that can be afforded by “spendthrift” provisions in a trust. The trust beneficiary was criminally and civilly liable for sexual assault; in 2001, a judgment was entered against him in the amount of $551,286.25.
The beneficiary’s grandmother created an irrevocable trust for his benefit in 1985. He was not able to invade the trust corpus until he turned 50 (he was 35 at the time of the trial) although he did have the right to request income. The Trustee could also make distributions (of income or principal) if the funds were necessary for the beneficiary’s maintenance, support and education. The trust further provided that the trust assets were not assignable by the beneficiary and could not be reached by his creditors (typical spendthrift provisions).
The New Hampshire Supreme Court found that the spendthrift provisions protected the trust assets from the reach of the beneficiary’s judgment creditor. The New Hampshire legislature had previously repudiated any “public policy” argument that would have allowed for the creditor to reach the trust. Although the facts in this particular case were unfortunate, due to the egregious behavior of the beneficiary, the fact that the assets of the trust were still protected demonstrates that the spendthrift provisions will be given strict enforcement.
(2) In In re Coumbe, 304 B.R. 378 (B.A.P. 9th Cir. 2003), the bankruptcy Trustee was unable to include a trust of which the debtor was the sole trustee in debtor’s bankruptcy estate. Debtor’s mother created a testamentary trust for the primary benefit of debtor and his sister and the secondary benefit of her grandchildren. Upon the mother’s death, the trust was divided equally between the debtor and his sister and each was named the sole trustee of their respective trust, which contained a spendthrift provision. Each child’s children were the successor trustees as well as the remainder beneficiaries. Debtor later filed for bankruptcy and the Trustee argued that it was not a valid spendthrift trust since the debtor was the sole trustee. On appeal, the Appellate Panel affirmed the bankruptcy court which held that under Arizona law (§ 14-7706(A)), a spendthrift trust was “valid even if the beneficiary” as “one of the multiple beneficiaries of the trust is the sole trustee of the trust.” Nonetheless, it is still risky to have a beneficiary serve as sole trustee of a trust if asset protection is a primary concern.
(3) It is worth noting that a Mississippi case, Sligh v. First National Bank of Holmes County, 704 So. 2d 1020 (Miss. 1997), indicated that “public policy” should act to remove the protection of spendthrift provisions in regard to tort judgment creditors. However the Mississippi legislature subsequently enacted a specific statute that essentially overturned the opinion and restored the primacy of the spendthrift provisions (see § 89-1-43 Miss Annotated Statutes).
(4) A Maryland Appellate Court in Duvall v. McGee, 375 Md. 476 (Md. 2003), refused to follow the Mississippi court’s extension in Sligh of the class of persons who were entitled to invade a spendthrift trust in satisfaction of a judgment to include a tort judgment holder on “public policy grounds.” The judgment holder was the personal representative of a decedent who was murdered by the tortfeasor. The judgment holder brought suit against the tortfeasor which resulted in a settlement of $100,000 in compensatory damages and $500,000 in punitive damages. Part of the settlement included the judgment holder waiving claims to all forms of garnishment or attachment in the tortfeasors interest in a spendthrift trust his mother had created and of which he was a permitted beneficiary. When the trustee stopped making payments to the tortfeasor suit was initiated.
(5) Likewise, in the case of Doksansky v. Norwest Bank, N.A., 615 N.W. 2d 104 (Neb. 2000), the Nebraska Supreme Court protected trust assets from the beneficiary’s ex-spouse who was seeking child support.
(6) If courts are willing to protect trust assets from creditors, even those who have sympathetic appeal, it seems clear that spendthrift provisions can be quite effective in protecting assets.
iii. Both the federal government and state governments are able to satisfy tax claims against the beneficiary of a spendthrift trust. “The government does not stand in the shoes of an ordinary creditor seeking to attach distributions from a spendthrift trust. Consistent with the imperative nature of tax collection, Code § 6321 gives the government an advantage over ordinary creditors in collection matters. Moreover, the rationale for shifting the risk of default to creditors, who ought to examine the terms of a trust before agreeing to accept the right to future distributions as collateral, does not apply to the government, which imposes the income tax unilaterally and without reference to spendthrift protections.” Internal Revenue Service v. Orr (In re Orr), 180 F.3d 656, 663 (5th Cir. 1999).
i. Notwithstanding the fact that trustees must govern themselves in accordance with fiduciary obligations, having a trustee who is also the beneficiary of an asset protection trust, raises the appearance of impropriety and may hinder the ability of a court to impartially consider the facts. Consequently, practitioners should generally avoid naming the individual seeking asset protection planning a trustee of any trust. The above advice holds true regardless of whether the individual creates the trust or whether the trust is created for such individual’s benefit.
In addition, practitioners should recommend to their clients that spouses of doctors, lawyers, architects, accountants or other professionals consider leaving their inheritances in spendthrift and/or discretionary trusts, so as to provide estate, income, and asset protection benefits rather than providing outright devises. Generation skipping tax savings dovetail into such an asset protection plan. This also holds true to the parents of such professionals and persons with personal guarantees or other potential creditor exposure.
ii. In restructuring the estate plans for spouses and parents of a person considering asset protection, crummey powers should generally be avoided. The reason for avoiding crummey powers is that the lapse of a crummey power (even to the extent of the greater of $5,000 or 5% of the gross estate) arguably creates a grantor trust and, at least to such extent may be reachable by creditors. In addition, bankruptcy trustees have the authority to exercise crummey powers, which increases the need to provide flexibility in irrevocable crummey trusts to enable the grantor to specify whether future gifts to the trust are subject to a crummey power.
iii. With regard to planning for expectancies from other family members, it is important to be mindful of 11 U.S.C § 541(a)(5) of the Bankruptcy Code. It states that property received by the bankruptcy debtor, within one hundred eighty (180) days after filing a bankruptcy petition, whether by bequest, devise or inheritance, through a property settlement arrangement incident to a divorce or through beneficiary designation on an insurance policy or a retirement or similar plan, becomes part of the bankruptcy estate.
iv. If it is too late to consider asset protection and the person is about to receive or has recently received an inheritance, the use of disclaimers may be possible in certain jurisdictions. Fla. Stat. § 732.801(6) disallows the use of a disclaimer made while the beneficiary is insolvent.
e. Uniform Trust Code Controversy. A number of states have adopted the Uniform Trust Code over recent years (or significant portions thereof). A number of national commentators have questioned whether the Uniform Trust Code curtails asset protection created by irrevocable third party trusts. While this issue is beyond the scope of this article, reference is made to several of the numerous articles on this subject. See Alan Newman, Spendthrift and Discretionary Trusts: Alive and Well Under the Uniform Trust Code, REAL PROP. PROBATE & TRUST J. (Fall 2005); Mark Merric & Steven J. Oshins, How Will Asset Protection of Spendthrift Trusts Be Affected by the UTC?, 31 EST. PLAN. 478 (Sept, Oct and Nov. 2004).
F. Exempt Property.
1. State Law Exemptions. The Bankruptcy Code, as amended by the 2005 Bankruptcy Act provides that the applicable law will be that of the state in which the debtor has been domiciled for the greater part of 730 days preceding the filing of the petition in bankruptcy. Bankruptcy Code § 522(b)(1). Accordingly, simply relocating assets to a preferential jurisdiction will not necessarily provide the debtor with the benefits of such state’s exemption statutes.
2. Conversion of Assets. An important issue is the extent to which non exempt assets may be converted into exempt assets. This is generally discussed in the section, below, entitled “Fraudulent Conveyances.” However, as a possible foreshadowing of things to come, Florida enacted legislation making it fraudulent to transfer assets into an exempt form if such transfer is undertaken to hinder, delay or defraud creditors. Fla. Stat. §§ 222.29 and 222.30. It is difficult to determine what transfers may satisfy this requirement as the Florida Supreme Court in Havoco found that certain egregious conduct was not sufficient.
3. Fraudulent Conveyance Issues. Notwithstanding the result in Havoco, the laws regarding fraudulent conveyance should be carefully analyzed before converting assets from a nonexempt form to an exempt form. The consequences are not merely that a bankruptcy trustee will bring the property back into the bankruptcy estate, but a discharge in bankruptcy may be denied under Bankruptcy Code Sections 727(a)(2) and 523(a)(2). This could subject the debtor to the worst of all worlds since the debtor will have suffered through the publicity and administration of a bankruptcy and will not have obtained a discharge. For further discussion on the potential consequences of fraudulent conveyances see the discussion of this outline, below entitled “Fraudulent Conveyances.”
4. Roundabout Techniques. Although similar to converting nonexempt assets to exempt assets, another asset protection technique may be possible and not appear to be as suspect as converting nonexempt assets to exempt assets. The technique is paying down non-dischargeable debts; the concept is that the debtor should pay down those debts that are nondischargable in bankruptcy, such as Federal and state income taxes which do not fit the definition of dischargeable taxes under Bankruptcy Code Section 507(a)(7).
5. Federal Tax Liabilities. Neither exemptions provided by states nor those provided under the Bankruptcy Code will restrict the IRS from placing a levy on pension plan benefits. In Shanbaum v. United States, 32 F.3d 180 (5th Cir. 1994), the court held that the anti-alienation provisions for pension plan benefits under ERISA do not prevent the IRS from levying against these benefits in order to satisfy the taxpayer/recipients’ Federal tax liability. The court pointed out that under Code § 6331, the IRS can levy against all of a taxpayer’s property; the court further stated that although Code § 6334 lists property that is exempt from tax levy, pension plan benefits are not exempt from collection. Code § 6334(c). It should be noted, however, that certain taxes are, nevertheless, dischargeable in bankruptcy under Bankruptcy Code § 523(a).
6. Case law - Degree of Conversion. Whether the foregoing techniques of converting non-exempt assets into exempt assets will result in a denial of a discharge in bankruptcy generally will depend upon the degree of conversion that takes place.
a. In re Zouhar. The widely cited case of In re Zouhar, 10 B.R. 154 (Bankr. D.N.M. 1981), perhaps summed up the philosophy of the courts best. The court in that case denied a discharge where a prebankruptcy pre-payment of the debtor’s son’s tuition and the acquisition of an exempt annuity left the debtor insolvent. Nevertheless the debtor had a net worth of $130,000 and an income of $70,000 per year.
Although the court recognized the general right to utilize legal exemptions, including the right (under the then existing law) to convert non-exempt assets into exempt assets, the court indicated that the degree of planning had crossed the threshold of acceptability. The court stated that there is a principle of too much; phrased colloquially, when a pig becomes a hog, it is slaughtered. This is also referred to as the “pig theory.” Generally, a wholesale sheltering of assets which otherwise would go to creditors is asking for trouble.
However, there are numerous factors courts generally look to other than the size of the transfers. Such factors include (i) the extent to which the debtor made misrepresentations to creditors in an effort to delay them while the debtor engaged in asset protection planning; (ii) the extent to which the transfers left the debtor solvent; and (iii) how close prior to filing a bankruptcy petition the transfers occurred. For further discussion on the potential consequences of converting non-exempt assets into exempt assets see the discussion of this outline, below entitled “Fraudulent Conveyances.”
b. In re Coplan. In re Coplan, 156 Bankr. 88 (Bankr. M.D. Fla. 1993), is indicative of what can happen when a debtor attempts to establish a domicile in Florida to take advantage of its liberal exemption laws and then subsequently declares bankruptcy. The following opening sentence of the court’s opinion foreshadows the court’s holding:
The Coplan court went on to hold that, in light of all the facts and circumstances, the debtor had engaged in fraudulent prebankruptcy planning by applying the proceeds of $228,000 from the sale of his home in Wisconsin to the purchase of a home in Florida. The facts and circumstances cited by the court include (i) the fact that at the time the debtor sold his home in Wisconsin, his S corporation was in trouble; (ii) the debtor personally guaranteed the debt of the primary creditor of the S corporation; (iii) the debtor turned down one or more job offers in Wisconsin in order to move to Florida to find employment; and (iv) the debtor waited 1 year and 5 days after the purchase of the Florida home to file a bankruptcy petition. Nonetheless, the court did allow the debtor a homestead exemption of $40,000 which is the amount he was entitled to under the Wisconsin homestead provisions. It is important to note that Coplan was decided prior to Havoco.
Note: As a result of the 2005 bankruptcy Reform Act it will be much more difficult to forum shop for a state’s more liberal bankruptcy laws.
G. Pension Funds and IRAs.
1. Keogh Plans. In In re Baker, 401 B.R. 500 (Bankr. M.D. Fla. Jan. 29, 2009), the debtor was self employed and the only participant in a Keogh fund. The debtor claimed the Keogh fund exempt under Florida Statute § 221.21(2)(a)(1) which provides an exemption for pension money and certain tax-exempt funds. The debtor submitted letters from the IRS stating that the terms of the profit sharing plan do not affect the plan’s acceptability under section 401 of the Internal Revenue Code as evidence that the Keogh plan qualified as exempt under Florida Statute § 221.21(2)(a)(1). The court held, however, that a self employed/sole participant plan was not contemplated by state legislators when drafting section 221, and therefore, the Keogh fund is not exempt. On appeal, In re Baker, 590 F.3d 1261 (11th Cir. 2009), the United States Court of Appeals for the Eleventh Circuit reversed, holding that § 222.21(2)(a)(1) requires that a profit-sharing plan qualify under I.R.C. § 401(a), not that the plan comply with the Employee Retirement Income Security Act.
For a discussion on how the 2005 Bankruptcy Act affects pension funds and IRAs, please see Richard R. Gans & Kristen M. Lynch, How Protected are Your Clients’ Retirement Accounts After the 2005 Bankruptcy Act?, FLA. BAR J. (Nov. 2005) attached as Exhibit D.
2. Roth IRAs. In In re Asunmaa, 2010 Bankr. LEXIS 901 (Bankr. M.D. Fla. Mar. 31, 2010), the debtor deposited $20,000 that he received from a federal tax refund into a Roth IRA ten days before his bankruptcy filing. He claimed the funds as exempt under §222.21(3), arguing that the funds were not part of a fraudulent conversion because they were exempt pursuant to Publ. L. 110-458 Title I, §125, 122 Stat. 5115 (2008) which allowed Northwest Airlines employees to contribute stock distributions to a Roth IRA. Since the debtor never used the funds from his stock distribution, the court sided with the trustee in holding that the debtors had fraudulently converted the funds used in opening the Roth IRA. The court reasoned that “the debtors needed to deposit the Northwest stock into a Roth IRA in order to take advantage of the Airline Exemption. The debtors did not do as instructed and cannot now contend that their 2008 tax refund somehow is covered by the Airline Exemption.”
In U.S. v. Rosin, 2010 U.S. Dist. LEXIS 20113 (M.D. Fla. Feb. 9, 2010), the court held that although IRA accounts that are used for maintenance and support of the debtor and his family are exempt from garnishment under §222.21(2)(a), where state law conflicts with a federal Medicare fraud statute, the state law is preempted.
3. Inherited IRAs. On August 14, 2009, a Florida Court held in Robertson v. Deeb, 16 So. 3d 936 (Fla. 2d DCA 2009), that an inherited IRA is not exempt from creditors. The Court’s rationale was that since the IRA did not originate with the debtor and was not something established by the debtor to defer taxation on income or preserve assets for retirement, that the inherited IRA are essentially liquid assets that a beneficiary could access without penalty and as such the creditor should be able to get at it.
On January 11, 2010, the U.S. Bankruptcy Court in the District of Minnesota, relying on new language in the 2005 Federal Bankruptcy law, ruled in In re: Nessa, 2010 Bankr. LEXIS 40 (Bankr. D. Minn. 2010), that inherited individual retirement accounts are protected from creditors (up to $1 million). The judge in that case took the position that an inherited IRA is still a retirement account, protected from creditors in the hands of the beneficiary in the same manner as in the hands of the original owner.
Less than three months after the decision in Nessa, on March 5, 2010, a Federal Bankruptcy Court in Texas took the opposite view to Nessa in In re: Chilton, 426 B.R. 612 (Bankr. E.D. Tex. 2010). Based on the same material facts of Nessa, the Bankruptcy Court in Chilton focused on the language of the 2005 Federal Bankruptcy law, which provided for exemption of “retirement funds.” (Emphasis added). The Chilton opinion stated that the purpose of the exemption for retirement accounts stemmed from public policy instituted by Congress that would create a system that would provide an opportunity for individuals to set aside retirement savings on a tax-sheltered basis, the distribution from which would commence upon age 70½. The Chilton opinion concluded that “the funds contained in an inherited IRA are not funds intended for retirement purposes but, instead, are distributed to the beneficiary of the account without regard to the age or retirement status.” Therefore, such funds should not receive favorable treatment equivalent to funds set aside for retirement purposes.
In an interesting article by Kristen Lynch and Linda Suzzanne Griffin, written prior to the Chilton decision, the authors contend that the Florida Appellate Court reached an incorrect conclusion in the Robertson decision. Nonetheless, the authors’ emphasize that “it is extremely important that the law is clearly interpreted” and, as such, they expect that the position of the Robertson decision “will not be the final answer to this timely issue.” However, in the current environment the authors recommend that in order to protect the IRA, the owner should name a spendthrift trust as beneficiary rather than naming the beneficiary directly. In addition, where the owner is concerned about existing or potential creditors of a beneficiary, the authors recommend the purchase of annuities by the IRA, which provides an added layer of protection.
On August 18, 2010, In re Ard, 435 B.R. 719 (Bankr. M.D. Fla. 2010), was decided. The case followed Chilton and Robertson, stating that:
Id. at 722. In the same month as Ard, a California Court followed Nessa, while at the same time criticizing and distinguishing Chilton. The court in In re Weilhammer, 2010 Bankr. LEXIS 2935 (Bankr. S.D. Cal. Aug. 30, 2010), held that funds in an inherited IRA are retirement funds within the definitional constraints developed in Chilton. The court noted that the closest question, when considering the application of § 522 (b)(3)(C) to an inherited IRA, was “whether the funds in an inherited IRS are ‘retirement funds’ within the meaning of section 522(b)(3)(C).” Id. at *14. The Chilton court failed to enforce 522 (b)(3)(C)’s plain language as it read the statute as meaning the "debtor's retirement funds." In so doing, Chilton arguably added a word to the statute, creating a limitation unintended by Congress and inconsistent with the statute's plain meaning.
Id. at *16-17. However, in In re Thiem, 2011 Bankr. LEXIS 376 (Bankr. D. Ariz. Jan. 19, 2011), the court, while specifically disagreeing with the ruling in Chilton, Ard, and Robertson, ruled an inherited IRA to be exempt under Arizona law. The court agreed with Nessa, Weilhammer, and In re Tabor, 433 B.R. 469 (Bankr. M.D. Pa. 2010), that neither § 522 (b)(3)(C) nor § 522 (d)(12) required retirement funds to be those originally created by the debtor-beneficiary to be an exempt asset. In citing to Nessa, the court emphasized that “[w]hile the Chilton court warned that allowing the exemption would mean writing ‘retirement’ out of ‘retirement funds,’ the Nessa court countered that disallowing the exemption would be writing in the ‘debtor's retirement funds’ where the statute only says ‘retirement funds.’”
On March 16, 2011, the United States District Court for the Eastern District of Texas reversed Chilton in Chilton v. Moser, 2011 U.S. Dist. LEXIS 27002 (E.D. Tex. Mar. 16, 2011). The court noted at the outset that the Bankruptcy Court did not have the benefit of considering Nessa, Thiem, or Weilhammer before making its decision. Further, the court stressed the plain meaning of the language of § 408(e), as it states that any individual retirement account is exempt from taxation. “Direct transfer from an account exempt from taxation under Section 408 does not cease to qualify for the exemption, simply due to the transfer.” Id. at *9.
The Florida legislature is considering legislation in 2011 that would further clarify that inherited IRAs and other qualified retirement accounts would continue to be protected to the beneficiary upon death of the participant.
H. Family Limited Partnerships.2
In addition to the typical benefits of FLPs for income and estate tax purposes, the following benefits are also frequently touted:
1. maintain control of Family Assets;
2. consolidate fractional interests in Family Assets;
3. increase Family wealth;
4. establish a method by which annual gifts can be made without fractionalizing Family Assets (subject to the issue discussed in Hackl v. Commissioner, 335 F.3d 664 (7th Cir. 2003);
5. continue ownership of Family Assets and limit the rights of non-Family to acquire interests in Family Assets;
6. provide protection to Family Assets from future claims against members of the Family;
7. prevent the transfer of a Family member’s interest in the Partnership as a result of a failed marriage;
8. provide flexibility in business planning not available through trusts, corporations, or other business entities;
9. facilitate the administration and reduce the cost associated with the disability or probate of the estate of a member of the Family;
10. provide a mechanism to resolve disputes which may arise among the Family in order to preserve family harmony, and to avoid a trial by jury and the expense and adverse publicity associated with litigation;
11. promote the Family’s knowledge of and communication about Family Assets;
12. diversify Family Assets in investments of all types and kinds; and
13. manage investments, primarily, to derive capital growth therefrom through any combination of capital appreciation and reinvestment of income; and secondarily, to receive income therefrom to the extent that such receipt is not inconsistent with the derivation of capital growth.
Family Limited Partnerships have been the focus of a number of recent and not so recent articles, some of which include: Daniel S. Kleinberger, Carter G. Bishop, and Thomas Earl Geu, Charging Orders and The New Uniform Limited Partnership Act: Dispelling Rumors Of Disaster, 18 PROBATE & PROP. 30, (July/Aug. 2004); Daniel H. Ruttenberg, The Tax Court's Execution Of The Family Entity: The Tax Court's Application Of Internal Revenue Code Section 2036(A) To Family Entities, 80 N. DAK. L. REV. 41 (2004); Elizabeth M. Schurig and Amy P. Jetel, A Shocking Revelation! A Charging Order Is The Exclusive Remedy Against A Partnership Interest: Fact Or Fiction?, 17 Probate & Property 57, (Nov./Dec. 2003); Katherine D. Black, Stephen T. Black, Michael D. Black, When a Discount Isn't a Bargain: Debunking the Myths Behind Family Limited Partnerships, 35 U. WEST. L.A. L. REV. 302 (2003); Mitchell M. Gans & Jonathan G. Blattmachr, Strangi: A Critical Analysis and Planning Suggestions, 100 Tax Notes 1153 (Sept. 1, 2003); Susan Kalinka, Estate of Strangi II: IRS Wins Another Battle in its War Against FLPs, 2003 TNT 145-34 (July 28, 2003); Courtney Lieb, Comment: The IRS Wages War on the Family Limited Partnership: How to Establish a Family Limited Partnership That Will Withstand Attack, 71 UMKC L. REV. 887 (Summer 2003); David Pratt & Jennifer E. Zakin, Estate of Thompson: Respecting the Formalities of the Family Limited Partnership, 77 FLA. BAR J. 51 (Mar. 2003); Mezzullo, Family Limited Partnerships and Limited Liability Companies, 812-1st T.M. (2002); Andrew J. Willms, Drafting Tips to Obtain Maximum Tax Savings From Family Limited Partnerships, 24 TAX’N FOR LAW. 196 (Jan./Feb. 1996); Jones, Family Limited Partnerships Achieve Tax and Non-Tax Goals, 23 TAX’N FOR LAW. 196 (Jan./Feb. 1995); Kathryn G. Henkel, How Family Limited Partnerships Can Protect Assets, 20 EST. PLAN. 3 (Jan./Feb. 1993); S. Stacy Eastland, Family Limited Partnerships: Non-Transfer Tax Benefits, 7-APR PROBATE & PROP. 10 (Mar./Apr. 1993).
14. Creditors Are Generally Limited to Charging Orders. One of the primary reasons for using a family limited partnership as an asset protection technique is that creditors of a partner cannot attach or levy upon the partnership property, unless the partnership also happens to be liable on the obligation in question. Florida Statute § 620.8501 provides that “[p]artnership property is owned by the partnership as an entity, not by the partners as co-owners. A partner has no interest that can be transferred, either voluntarily or involuntarily, in specific partnership property.” Section 620.1703 provides, in part, as follows:
Effective January 1, 2006, Florida’s Revised Uniform Partnership Act of 2005 provides enhanced asset protection for partners of Florida Limited Partnerships and Limited Liability Limited Partnerships (described below) executed thereafter. Fla. Stat. § 620.1703 now provides that a judgment creditor is entitled to only a charging lien and has no right to foreclose on a debtor’s interest in a limited partnership or receive the underlying partnership assets. This makes Florida Limited Partnership interests among the best in the country when it comes to asset protection of partners.
Other cases addressing the charging order issue include:
a. In Atlantic Mobile Homes, Inc. v. Le Fever, 481 So. 2d 1002 (Fla. 4th DCA 1986), where the court recognized that it would be inappropriate to liquidate a partnership to satisfy claims sought against an individual partner debtor. See also In re Stocks, 110 B.R. 65 (Bankr. N.D. Fla. 1989), which held that a charging order obtained by a judgment creditor against a debtor’s limited partnership interest only entitles the creditor to the rights of an assignee of the partnership interest; namely, to share in the profits and surplus of the partnership, not to exercise the rights or powers of a partner (so as to prevent disruption of the partnership business). The Stocks Court distinguished its facts from those impacting a Florida general partnership under the pre-Revised Uniform Partnership Act, which allowed a right of foreclosure for a general partnership interest. The court stated:
b. In Givens v. National Loan Investors L.P., 724 So. 2d 610 (Fla. 5th DCA 1998), where the appellate court held that under the Florida Revised Uniform Limited Partnership Act, a judgment creditor could only obtain a charging order against the limited partner’s interest, and could not foreclose on the partnership interest itself (as it can under Florida Statute § 620.8504(3)). In so doing, the appellate court reversed the lower court’s ruling that Florida law permitted the execution sale of a limited partnership interest in order to satisfy the judgment obtained by the creditor. The opinion in Givens stated:
c. See also, First Union National Bank v. Allen Lorey Family Limited Partnership, 34 Va. Cir. 474 (Va. Cir. Ct. 1994), where the Virginia Court looked to Florida law for interpretation of the Uniform Partnership Act and held that “since the creditor only has the right to an assignment of the debtor’s partnership share of profits, not to overall partnership assets, and since only a partner may move the Court for dissolution of the partnership [pursuant to Virginia law], the beneficiary of a charging order does not have standing to move the Court for a dissolution of the limited partnership.”
d. It is important to note, however, that certain courts have adopted the minority view and will look for ways to assist creditors, regardless of whether a charging order has been issued. In the context of a divorce proceeding, the appellate court in Schiller v. Schiller, 625 So. 2d 856 (Fla. 5th DCA 1993), held that the district court should award from other assets to the creditor an amount equal to the debtor’s value in the partnership. The Florida Fifth District Court of Appeals relying on sections of the Florida partnership statutes that have since been superseded, went on to state that the district court could retain jurisdiction to enforce the charging lien by: (i) sale of the partnership interest, (ii) appointment of a receiver to obtain payments, or (iii) taking such other actions that the partner whose interest was the subject of the charging lien could have taken with regard to the partnership.
As noted by Ritchie W. Taylor, Note and Comment: Domestic Asset Protection Trusts: The “Estate Planning Tool of the Decade” or a Charlatan?, 13 BYU J. PUB. L. 163, 165 (1998), family limited partnerships have suffered “several setbacks as more ends-minded judges and sympathetic juries have looked beyond legal details and have pierced through these entities in their search for funds to satisfy judgments…” Some of the setbacks have occurred in California where courts have been liberal in piercing though limited partnerships. In Crocker Nat. Bank v. Perroton, 208 Cal. App. 3d 1 (Cal. App. 1st Dist. 1989), the California Court of Appeals addressed the question whether a charged limited partnership interest was subject to foreclosure and sale. The court held that the debtor’s partnership interest could be sold where (1) the creditor had a charging order, (2) all the non-debtor partners agree to the sale, and (3) the judgment remained unsatisfied. Then in 1991, a California Appellate Court held in the context of a general partnership that the consent of the non-debtor partners was unnecessary to foreclose upon a partnership interest. In Hellman v. Anderson, 233 Cal. App. 3d 840 (Cal. App. 3d Dist. 1991), the court held that a judgment debtor’s interest in a general partnership may be foreclosed upon and sold, even if the other partners do not agree, provided the sale does not unduly interfere with the partnership’s business. The appellate court remanded the case in order for the trial court to determine whether foreclosure would unduly interfere with the partnership business of the non-debtor partner.
In the Pennsylvania case of In re Allen, 228 B.R. 115 (Bankr. W.D. Pa. 1998), the court addressed the issue as to whether the charging order is the sole means by which a creditor may attach a partnership or limited partnership interest and concluded that it is not. The court stated that there were numerous statutes providing for garnishing a partner’s interest in a partnership and that it would be inconsistent for the court to determine that the charging order was the sole means. The court acknowledged that Pennsylvania adheres to the minority view. Other states that appear to follow the minority view include: New Jersey (FDIC v. Birchwood Builders, 240 N.J. Super. 260 (N.J. App. 1990)); New York (Princeton Bank & Trust Co. v. Berley, 57 A.D.2d 348 (N.Y. App. Div. 1977)); and Arizona (Bohonus v. Amerco, 124 Ariz. 88 (Ariz. 1979)). While the FDIC and Bohonus cases permitted the sale of the debtor’s partnership interests, no case permits the sale of partnership assets. Florida should consider a statute making a charging order the exclusive remedy.
15. Creditors May Have Adverse Income Tax Consequences From Charging Order. Based upon Revenue Ruling 77-137, some tax commentators believe that a judgment creditor must pay income taxes on the profits and income attributable to a partnership interest over which he holds a charging order even if no income is distributed by the partnership. Rev. Rul. 77-137, 1977-1 C.B. 178. The Revenue Ruling was based upon a limited partnership formed in a state following the Uniform Limited Partnership Act. The limited partner assigned his partnership interest to a third party. The limited partnership agreement provided “that assignees of limited partners may not become substituted limited partners in the partnership without the written consent of the general partners.” However, a limited partner was permitted to irrevocably assign his right to the profits and losses, including distributions without the consent of the general partners. The Ruling held that since the assignee acquired substantially all of the limited partner’s dominion and control over the partnership interest, the assignee is treated as a substituted limited partner for Federal income tax purposes. See also Katherine D. Black, Stephen T. Black & Michael D. Black, When a Discount Isn’t a Bargain: Debunking the Myths Behind Family Limited Partnerships, 32 U. MEM. L. REV. 245, 342 (Winter 2002) (recognizing that a creditor who becomes a limited partner “also receives the taxable income distributions the other partners receive. Thus, a creditor holding a charging order may be allocated taxable income from the partnership without a concurrent cash distribution.”) Consequently, “creditors often will shy away from a family limited partnership interest.” Willms, 24 TAX’N FOR LAW. 196, 197 (1996).
This exposure to potential income tax by a creditor on phantom income has been referred to as the “KO by the K-1.” See Oshins, Family Wealth Protection and Preservation, 132 No.2 TRUSTS AND ESTATES 38 (Feb. 1993). Spero has written that “the income tax consequences of a charging order imbues the partnership interest with a negative value and may prove to be a substantial inducement for the creditors to settle their claims.” Asset Protection, ¶ 9.02. In addition to the negative inducement, it is often possible for the general partner of a family limited partnership to take a reasonable salary for its services while delaying distributions to its partners.
At least one tax commentator questions the appropriateness of the position that a judgment creditor with a charging lien must pay income taxes on the profits or income attributable to the charging lien. See, Mezzullo, 812-2nd T.M. 39, Family Limited Partnerships and Limited Liability Companies stating that:
16. Interrelation with Estate Tax, Income Tax and Succession Planning. As was discussed supra, the use of family limited partnerships as an asset protection tool is in addition to its use for estate tax and income tax. However, family limited partnerships also help with succession planning. Although beyond the scope of this outline, family limited partnerships help with succession planning by shifting income (primarily for children over 14), retaining control with senior family members and possible death tax savings through the use of valuation discounts. Properly planned gifts of limited partnership units serve as an excellent tool to take advantage of annual exclusion and unified credit exemptions. By dividing control of the general partner and avoiding direct control in any single general partner, significant valuation discounts should be available for gifts of limited partnership units and upon death, with respect to partnership interests retained by the decedent.
17. Effective January 1, 2006, Florida’s Revised Uniform Partnership Act of 2005 provides enhanced asset protection for partners of Florida Limited Partnerships and Limited Liability Limited Partnerships (described below) executed thereafter. Florida Statute § 620.1703 now provides that a judgment creditor is entitled to only a charging lien and has no right to foreclose on a debtor’s interest in a limited partnership or receive the underlying partnership assets. This makes Florida Limited Partnership interests among the best in the country when it comes to asset protection of partners.
I. Limited Liability Companies (LLC), Limited Liability Partnership (LLP) and Limited Liability Limited Partnership (LLLP).
Significant changes were made in 1999 to the Florida Limited Liability Company Act (Chapter 608) Florida Statutes, to the Florida Revised Uniform Limited Partnership Act (Chapter 620.101) and to the Revised Uniform Partnership Act of 1995 (Chapter 620.81001). These changes are important for asset protection.
1. General Partnership. Florida Statute § 620.9001 permits a general partnership to become a limited liability partnership. After the general partnership obtains approval from the same number of partners needed to amend the partnership agreement, it must then file a statement of qualification with the Department of State. FLA. STAT. § 620.9001 (2002).
Florida Statute § 620.8101 defines a limited liability partnership as “a registered limited liability partnership registered under former sections 620.78-620.789 immediately prior to the effective date of this act or a partnership that has filed a statement of qualification under section 620.9001 and has not filed a similar statement in any other jurisdiction.” Accordingly, a partner in a general partnership can take advantage of the protection offered by a limited liability partnership once the other partners approve the change in entity and a statement of qualification has been filed.
An obligation incurred as a limited liability partnership is solely the obligation of the partnership. FLA. STAT. § 620.8306(3) (2002). However, a partner will not be held personally liable, directly or indirectly, for such an obligation solely by reason of being or acting as a partner. Id.
An action may be brought against the partnership or any or all of its partners to the extent not inconsistent with section 620.8306. FLA. STAT.. § 620.8307(3) (2002). Unless there is a judgment against a partner, the partner will not be held personally liable, directly or indirectly, for judgments against the partnership. FLA. STAT. § 620.8307(3) (2002). A judgment creditor of a partner may perfect a judgment lien but may not proceed against the assets of the partner to satisfy a judgment arising from a partnership obligation, unless the partner is personally liable. FLA. STAT. § 620.8307(4) (2002).
2. Limited Partnerships. Florida Statute § 620.187 permits a limited partnership to become a limited liability limited partnership. The limited partnership must (i) obtain the approval from the same number of limited partners needed to amend the limited partnership agreement, (ii) file a statement of qualification pursuant to section 620.9001(3) and (iii) comply with the name requirements of section 620.9002. FLA. STAT. § 620.187(1) (2002). Florida Statute § 620.187(3) states that section 620.8306(3) and section 620.8307(2) apply to both general and limited partners of a limited liability limited partnership. Accordingly, both general and limited partners are protected from liability and will not be held personally liable for an obligation of the limited liability limited partnership. FLA. STAT. § 620.8307.
3. Limited Liability Company. An LLC is a hybrid entity, in that it can be used to shield investors and active participants in the same way as a corporation. It also has many of the asset protection features of a family limited partnership in addition to the flow-through taxation of a partnership. FLA. STAT. §§ 608.401-608.705. Other benefits include enhanced asset protection and beneficial Florida income tax and Federal estate tax treatment. Nonetheless, for the reasons stated below, the author continues to use family limited partnerships.
a. LLC - Benefits. Neither members nor managers are liable for the debts, obligations or liabilities of the limited liability company, by reason of being a member or serving as a manager. FLA. STAT. § 608.4227(1). Similarly, so long as the manager or member act in good faith reliance upon the provisions of the LLC’s articles of organization or operating agreement, such manager or member shall not be liable to the LLC or to any other member or manager. FLA. STAT. § 608.4227(2).
Any judgment creditor of a member is limited to a charging lien against the member’s interest in the LLC for the amount of the judgment. FLA. STAT. § 608.433(4). To the extent so charged, the judgment creditor has only the rights of an assignee of such interest. Id. The assignee cannot exercise any rights or powers of a member unless the assignee becomes a member. FLA. STAT. § 608.432(2)(a). The assignee may become a member with the unanimous consent of all members other than the member assigning the interest. FLA. STAT. § 608.433(1). This consent must be in writing. FLA. STAT. § 608.4232. Without becoming a member, the assignee is restricted to partaking in such profits and losses, such distribution or distributions, and receiving such allocation of income, gain, loss, deduction, or credit or similar item to which the assignor was entitled. FLA. STAT. § 608.432(2)(b).
b. In re Albright, 291 B.R. 538 (Bankr. D. Colo. 2003). Debtor, who is the sole member and manager of a Colorado LLC, filed for Chapter 7 bankruptcy protection. The trustee sought to compel the LLC to sell real property it owned. Debtor argued that trustee was limited to a charging order against the LLC and could not take over its management.
The Colorado Revised Statutes § 7-80-702 states that “where a single member files bankruptcy while the other members of a multi-member LLC do not, and where the non-debtor members do not consent to a substitute member status for a member interest transferee, the bankruptcy estate is only entitled to receive the share of profits or other compensation by way of income and the return of the contributions to which the member would otherwise be entitled.” Id. at 540 n7.
The Colorado court went on to say that charging orders exist to protect other members of an LLC from involuntarily having to share governance responsibilities with someone they did not choose. Accordingly, charging orders protect the autonomy of the original members of an LLC. However, in a single-member entity, there are no non-debtor members to protect. Thus, the limitation of a charging order serves no purpose in a single-member limited liability company, because there are no other parties’ interests affected. Id. at 541.
It would appear a similar result could occur under Florida’s LLC statute. Section 608.4237 states that a member will cease to be a member of an LLC, if the member either (i) makes an assignment for the benefit of creditors, (ii) files a voluntary bankruptcy petition or (iii) is adjudicated bankrupt, unless otherwise provided in the articles of organization, operating agreement, or upon the written consent of all members. Consequently, if the sole member of a single member LLC becomes bankrupt, the member would generally cease to be a member of the LLC. Florida Statute § 608.441 would then cause the single member LLC with no members to dissolve.
c. FTC v. Olmstead, 528 F.3d 1310 (11th Cir. 2008). In Olmstead, the defendants operated a credit card scam by which they sent out solicitations that created the impression that, for a small sum, the consumer would receive a platinum visa with a $5,000 credit line. When the consumers received their cards, they were not Visa or Mastercard, but a card only usable at the debtor’s personal merchandise catalog or website. The FTC filed an action claiming that the Defendants violated federal law prohibiting unfair or deceptive trade practices and the district court entered summary judgment against the defendants for more than $10 million in restitution. The FTC moved to compel the defendants to surrender their membership in the LLCs and the defendants objected, stating that under Florida law, a debtor only has the rights of an assignee. The Florida Limited Liability Act (the “LLC Act”), Florida Statute § 608.433(4) states: “…the Court may charge the limited liability company membership interest of the member with payment of the unsatisfied amount of the judgment with interest. To the extent charged, the judgment creditor only has rights of an assignee…” The defendants contend that there is no distinction between a single member LLC and a multiple member LLC and thus a charging order is the only remedy a creditor may obtain against a sole member LLC. The FTC argues that a charging order is senseless in the statutory context because the common law statute originated to protect nondebtor partners or members from being forced into partnership with a creditor, which is lost in the context of a single member LLC as there are no other members needing protection. In addition, the FTC points to the fact that, under other closely related provisions of the LLC Act, an assignee can become a member with the consent of the other LLC members other than the judgment debtor. (See Fla. Stat. § 608.432(1) and § 608.433(1)); and an LLC member ceases to be a member upon the assignment of the LLC interest (see Fla. Stat. § 608.432(2)). In addition, the FTC notes that if a single member LLC were subject to only a charging order, then the LLC could no longer have any members and, under Florida law, would have to be dissolved. The Court held that Florida law was “not sufficiently well established for [the Court] to determine with confidence whether the district court’s surrender order is permissible…” Thus, the Court certified this question to the Florida Supreme Court:
Whether, pursuant to Fla. Stat. § 608.433 (4), a court may order a judgment debtor to surrender all “right, title and interest” in the debtor’s single member limited liability company to satisfy an outstanding judgment.
In Olmstead v. FTC, 44 So. 3d 76 (Fla. 2010), the Florida Supreme Court rephrased the certified questions to be whether Florida law permits a court to order a judgment debtor to surrender all right, title, and interest in the debtor's single-member limited liability company to satisfy an outstanding judgment. The Court answered the question in the affirmative and held that there was no reasonable basis for inferring that the provision authorizing the use of charging orders under Florida Statute § 608.433 (4) established the sole remedy for a judgment creditor against a judgment debtor’s interest in a single-member LLC. Thus, the singlemember LLC was not provided charging order protection. The majority went on to state that “the charging order provision establishes a nonexclusive remedial mechanism. There is no express provision in the statutory text providing that the charging order is the only remedy that can be utilized with respect to a judgment debtor’s membership interest in an LLC.” Id. at 81-82.
Judge Lewis’ dissenting opinion in Olmstead creates great uncertainty within the LLC law in Florida as he states, “the principals used [by the majority] to ignore the LLC statutory language under the current factual circumstances apply with equal force to multimember LLC entities and, in essence, today’s decision crushes a very important element for all LLCs in Florida. If the remedies available under the LLC Act do not apply here because the phrase ‘exclusive remedy’ is not present, the same theories apply to multimember LLCs and render the assets of all LLCs vulnerable.” Id. at 84. Lewis further stated that “[b]y relying on an inapplicable statute [Florida’s Revised Uniform Limited Partnership Act of 2005 and the Revised Uniform Partnership Act of 1995], the majority ignores the plain language of the LLC Act and the other restrictions of the statute, which universally apply the use of the charging order to judgment creditors of all LLCs, regardless of the composition of the membership. The majority opinion now eliminates the charging order remedy for multimember LLCs under its theory of ‘nonexclusivity’ which is a disaster for those entities.” Id. at 89. See Barry A. Nelson, Olmstead: Right Result, Wrong Reason, Estates, Gifts and Trusts J. (Sept. 2010) attached as Exhibit I.
J. Section 529 – Qualified State Tuition Programs (“QSTP”).
See discussion in the article by Richard R. Gans and Kristen M. Lynch, entitled How Protected are Your Clients’ Retirement Accounts After the 2005 Bankruptcy Act?, FLA. BAR J. (Nov. 2005) attached as Exhibit D.
As a result of changes to Florida Statutes § 222.22 and the enactment of 11 U.S.C. §541 (b)(6), a significant issue is whether a debtor is entitled to claim a college savings plan account as exempt under bankruptcy law. § 222.22 (1) exempts moneys paid to qualified tuition programs authorized by I.R.C. § 529. However, §541 (b)(6) states that a bankruptcy estate does not included funds used to purchase a tuition credit or funds contributed to a §529 account not later than 365 days before filing a bankruptcy petition. Although this issue has not been addressed by a Florida court, a Wisconsin court in In re: Bronk, 2011 Bankr. LEXIS 73 (Bankr. W.D. Wis. Jan. 7, 2011), denied the debtor’s exemption of a college savings plan account because only the beneficiary’s right to qualified withdrawals from a college savings account were exempt. The debtor in Bronk contributed funds from a mortgage on his home to fund college savings plans for the benefit of his grandchildren in May of 2009, then subsequently filed bankruptcy on August 5, 2009. The court noted the importance of the debtor’s ownership over the account since the debtor was depositing money as opposed to being a beneficiary of the account. Since the Wisconsin legislature provided specifically for the “beneficiary’s right to qualified withdrawals” as being exempt, the court ruled that the debtor’s absolute control over the accounts subjected the property to the control of the bankruptcy estate.
A. Life Insurance.
Estate planning often dictates that a life insurance policy be held in an Irrevocable Life Insurance Trust. If the designated beneficiary of a life insurance policy may have creditor problems, the use of a spendthrift trust can be advantageous for asset protection, estate tax and generation-skipping transfer tax purposes.
1. General Rule. Florida Statute § 222.13(1) provides as follows:
2. Beneficiary Not Protected. Florida Statute § 222.13 does not extend to bar claims against the beneficiary of a life insurance policy. In In re Zesbaugh, 190 B.R. 951 (Bankr. M.D. Fla. 1995) the court held that the beneficiary of a life insurance policy could not exempt the proceeds of her deceased husband’s life insurance from her creditors under Florida Statute § 222.13. The opinion in Zesbaugh states that the statute was intended to prohibit the insured’s creditors from reaching the proceeds intended for the beneficiary does not protect the proceeds against the beneficiary’s own creditors.
B. Cash Surrender Value of Life Insurance Policies and Proceeds from Annuity Contracts.
1. General Rule. Florida Statute § 222.14 provides as follows:
2. Protection of Cash Value owned by Insured. The cash surrender value of a life insurance policy is only exempt when the insured is the debtor. In In re Allen, 203 B.R. 786, 795 (Bankr. M.D. Fla. 1996), the court determined when the person whose life is insured is not the debtor, Florida Statute § 222.14 does not permit another person to claim the cash surrender value as exempt. Life insurance agents often market life insurance policies which have split ownership, the death benefit is owned by a life insurance trust and the cash value held by the insured’s spouse. Under the Allen decision the cash value in the hands of the insured’s spouse would not be creditor protected.
3. Liberal Construction for Annuity Contracts. It appears that an annuity can be arranged through an institution or it may be privately established. Similar to the homestead exemption, application of the exemption for annuity contracts must be liberally construed in favor of debtors. In re Mart, 88 B.R. 436 (Bankr. S.D. Fla. 1988). In Mart, the court held that a privately endowed annuity agreement in which the debtor’s daughter was the trustee was exempt under the Florida Statute. There, the trustee received Ohio real estate and a secured note for $500,000. The debtor and his wife then received a fixed payment of $3,000 per month. Id. However, while the exemption under Mart was broadly interpreted, the facts of each case are so very different. For example, In re Brown, discussed above in Article IV “ASSET PROTECTION TECHNIQUES,” Paragraph E “Domestic Trusts.,” SubParagraph IV.E.2.b.ii “Irrevocable Trusts - Created by the Grantor.,” “Assets Usually not Fully Protected.,” raises concern regarding the degree to which an income interest in a charitable remainder unitrust trust may be exempt from creditors.
Unless the creation of the annuity constitutes either a fraudulent transfer or conversion of nonexempt assets to exempt assets, the proceeds of an annuity contract are generally exempt from creditors. LeCroy v. McCollam, 612 So. 2d 572, 574 (Fla. 1993); In re Solomon, 95 F.3d 1076, 1078 (11th Cir. 1996); In re Covino, 187 B.R. 773, 779 (Bankr. S.D. Fla. 1995); In re Mackey, 158 B.R. 509, 511 (Bankr. M.D. Fla. 1993). It is not the annuity itself that is protected by Florida Statute § 222.14, but rather the proceeds from the annuity contract.
4. Single Payment Annuities are Exempt from Creditors. As stated supra, Florida Statute § 222.14 provides that “[t]he cash surrender values of life insurance policies issued upon the lives of citizens or residents of the state and the proceeds of annuity contracts issued to citizens or residents of the state, upon whatever form, shall not in any case be liable to attachment, garnishment or legal process in favor of any creditor of the person whose life is so insured or of any creditor of the person who is the beneficiary of such annuity contract, unless the insurance policy or annuity contract was effected for the benefit of such creditor.”
In the case of In re Alan L. Goldenberg, 253 F.3d 1271 (11th Cir. 2001), the court considered whether a single payment annuity (an annuity that accrues interest until maturity, but it does have a surrender value) could be reached by creditors in bankruptcy. Dr. Goldenberg was sued by a patient for negligently performing a gall bladder surgery on her. The jury returned a verdict of approximately $4 million and the doctor had no malpractice insurance. The doctor filed for bankruptcy and listed $3.8 million of assets; in addition the doctor had approximately $3.75 million of exempt (protected) assets including a $2.5 million IRA and annuities valued at $355,000. The creditors argued that these annuities were not exempt under Florida statute 222.14. Consequently, they argued that they could reach the surrender values because the contracts were not mature and thus the surrender values did not constitute “proceeds of an annuity contract.” The Eleventh Circuit certified the question to the Florida Supreme Court for interpretation of Fla. Stat. 222.14. The Florida Supreme Court in Goldenberg v. Sawczak, 791 So.2d 1078 (Fla. 2001), in a unanimous decision determined that if there is a surrender penalty, the proceeds of an annuity contract are exempt. Therefore, the Eleventh Circuit found the annuities exempt.
5. Owner or Issuer of Annuity Can Raise Prohibition Against Garnishment. In Windsor-Thomas Group Inc. v. Parker and American General Life Insurance Co., 782 So. 2d 478 (Fla. 2d DCA 2001), the court concluded that the proceeds of an annuity contract were not subject to attachment, garnishment, or legal process in favor of creditors. The court held that either the owner of the annuity contract or the issuer of the annuity contract could raise the exemption.
6. Third Parties Protected. The exemption benefits not only the annuitant, but also third party beneficiaries. In In re Ebenger, 40 B.R. 463 (Bankr. S.D. Fla. 1984) the Bankruptcy Court rejected the argument that the exemption should have a strict construction. The court determined that the term beneficiary includes “the person for whose benefit property is held in trust.” Consequently, the court found that the lump sum value of an annuity contract was exempt from third party beneficiaries creditor claims.
7. Structured Settlement Annuities Protected. In two cases involving the same married couple, the court held that the proceeds of an annuity furnished pursuant to a “structured settlement agreement” representing the settlement of a personal injury lawsuit were exempt from the claims of creditors. See In re Benedict, 88 B.R. 387 (Bankr. M.D. Fla. 1988) and In re Benedict, 88 B.R. 390 (Bankr. M.D. Fla. 1988).
The Florida Supreme Court in In re McCollam, 612 So. 2d 572 (Fla. 1993), resolved any potential confusion when it held a “structured settlement agreement,” which required funds in a wrongful death action be paid in the form of an annuity were exempt. The Court reasoned that the plain and ordinary meaning of the term “annuity” required such a holding, if the Florida legislature intended to limit the exemption to particular annuity contracts, it would have included such restrictive language.
8. Lottery Issues. Notwithstanding the liberal treatment normally granted to annuities under Florida’s exemption statute, two Bankruptcy Courts in Florida have ruled that lottery proceeds from Arizona and Connecticut lottery winners paid in the form of an annuity were not exempt. Ruff v. Dixson, 116 F.3d 491 (11th Cir. 1997), rev’g 153 B.R. 594 (Bankr. M.D. Fla. 1993). In In re Pizzi, 153 B.R. 357 (Bankr. S.D. Fla. 1993), the Bankruptcy Court for the Southern District of Florida held that Connecticut lottery proceeds did not constitute an exempt annuity. In Pizzi, the court explained that the money was being paid directly from the insurance company to the State of Connecticut, and the State of Connecticut was making payments to the debtor. The obligation of the State would continue if the insurance company defaulted. In addition, the court reasoned that there was no privity between the debtor and the insurance company.
a. Selling a Lottery Annuity For The Present Day Value Is Protected. The court in In re Jack, 297 B.R. 279 (Bankr. S.D. Fla. 2003), held that the debtor did not violate the Florida Public Education Act Section 24.115 which prohibits anyone from assigning their interest in the lottery. It found that the “statute in no way precludes a trust beneficiary from assigning or otherwise hypothecating his interest in the trust, nor would it preclude a shareholder of a corporation, which had won a lottery prize, from selling, assigning or otherwise hypothecating his shares in the corporation.” It went on to add that the plain language of the statute only “precludes the assignment of any person’s right to a prize.”
The facts in that case include a debtor who through his revocable trust submitted a winning Florida Lottery ticket for collection. The prize consisted of twenty annual payments of $337,000. After winning the lottery, the debtor amended his revocable trust so thathe was the beneficiary of an 83.4% interest and a trust for his wife the beneficiary of a 16.6% interest. A few years later, debtor and his wife assigned all their interests in the Trust to a third party in exchange for a payment representing the present value of the annuity payments. The third party later sold their interest to yet another party. Debtor in 2000 filed for bankruptcy and the Trustee sought to have the assignment of their beneficial interest voided as violating the Florida Public Education Act.
9. Annuity Exemption Limited to Structured Settlements. Florida Bankruptcy Courts further distinguished the In re McCollam decision, supra, concerning the status of structured settlement agreements qualifying as exemptions under Florida law. In Guardian Life Ins. Co. v. Solomon (In re Solomon), 95 F.3d 1076 (11th Cir. 1996) rev’g 186 B.R. 535 (Bankr. S.D. Fla. 1995) aff’g in part and rev’g in part 166 B.R. 998 (Bankr. S.D. Fla. 1994), the court distinguished the facts therein from those in McCollam, stating that Solomon involved an annuity contract in which the debtor was neither an owner nor a beneficiary. The court further stated that the agreement provided that the debtor would have no legal or equitable interest, vested or contingent, in the annuities. In so holding, the court stated that the purpose of the statute is not to shield all debts or “accounts receivable” structured to resemble annuities from a debtor’s bankruptcy estate. The court stated that McCollam requires the existence of an actual annuity contract before a series of payments may be exempt under Florida Statute § 222.14.
a. In re Turner. The Bankruptcy Court followed the Solomon decision in In re Turner, 332 B.R. 461 (Bankr. N.D. Fla. 2005), where debtor claimed that proceeds from a settlement agreement should be exempted because they were part of an annuity contract. The court stated that in order for the settlement proceeds to be exempt, debtor would either have to be a beneficiary to the annuity or the agreement should constitute an annuity contract. However, the court found that debtor was not a beneficiary because she was only listed under “measuring lives” and only her husband and children were listed as beneficiaries. In looking at the language of the agreement to determine whether there was an intent to create an annuity contract, the court found no words to indicate such an intent: (i) the agreement was labeled “Release of All Claims;” (ii) the debtor was not referred to as “beneficiary” or “payee” anywhere in the agreement; and (iii) there was no indication in the agreement that the “proceeds were to be paid under an annuity contract.”
10. Ownership. The In re Benedict decisions, supra, held that there was no requirement that the annuity itself be issued to a resident of Florida, but merely that the proceeds of the annuity contract be paid to a resident of Florida.
11. Annuity Proceeds Exempt. Finally, the In re Benedict decisions held that the annuity proceeds retain their exempt character even after they were deposited into the spouse’s bank account. The court concluded “so long as the funds can be properly traced into the account and are readily accessible to the debtor, the funds retain their exempt status.” Can this position create planning possibilities?
12. Certificate of Deposit Acquired with Life Insurance Proceeds Exempt from Garnishment. In Faro v. Porchester Holdings, Inc., 792 So. 2d 1262 (Fla. 4th DCA 2001), the Florida Fourth District Court held that the cash surrender value of life insurance policies were exempt from garnishment under Florida Statute § 222.14 (2000) even when converted to purchase a certificate of deposit. The statute indicates that the cash surrender value of life insurance proceeds, “upon whatever form”, shall not be liable to attachment, garnishment or legal process in favor of any creditor of the insured. FLA. STAT. § 222.14. Consequently, the court held that Florida Statute § 222.14 applied to the certificate of deposit purchased with the cash surrender value proceeds of a life insurance policy. However, in Milligan v. Trautman, 496 F.3d 366 (5th Cir. 2007) the United States Fifth Circuit Court of Appeals in Texas held that the cash surrender value of a surrendered life insurance policy was no longer exempt from the debtor. In this case because the debtors’ were in financial trouble the husband surrendered a whole life insurance policy on his life. The policy had a surrender value of $95,000 and an outstanding loan balance of approximately $67,000, yielding a difference of $27,913. While they received a check for said amount the debtors did not cash it. Electing the Texas exemptions, the debtors included the un-cashed life insurance check under the exemptions. The Court in Texas held that, where an individual surrendered his whole life insurance policy and in return was given a check for the policy’s value, such cash was not exempt as life insurance. They based this holding on the fact that “benefits are things to be provided to an insured or beneficiary. Conversely, the cash from a surrendered whole life policy goes not to the (former) insured or (former) beneficiary, but the (former) owner of the policy.” In this case the check went to Mr. Trautman as the owner of the policy and not as the insured. “Benefits,” once created remain protected as long as they are traceable, however, the protection ceases when the policy is surrendered. Although Milligan is a Texas case, it may provide support to a bankruptcy trustee when faced with similar facts to distinguish the Faro case (where the life insurance policy was not surrendered) and accordingly disallow any exemption for the cash proceeds. In Faro the insured owner did not completely surrender the life insurance policy, but instead borrowed out the cash surrender value of the policy in order to purchase the certificate of deposit.
13. Swiss/Liechtenstein Annuities. Some practitioners are also suggesting annuities issued by Swiss or Liechtenstein insurance companies for a number of reasons including creating diversification of investment in an offshore jurisdiction. See Alexander A. Bove, Jr., Asset Protection Offered by Swiss Annuities in Asset Protection Strategies: Wealth Preservation Planning with Domestic and Offshore Entities, Vol. II, 2 ed. Alexander A. Bove, Jr., editor (ABA Section of Real Property, Probate and Trust Law 2005).
14. Case Law.
a. In In re Kimmel, 131 B.R. 223 (Bankr. S.D. Fla. 1991), shortly after a physician was involved in an automobile accident, he purchased various investments. The investments consisted of various items covered by Florida exemptions. Although the funds for certain of these investments were obtained from IRA’s which, presumably, were exempt in the first instance, the funds for one investment were derived from the sale of the physician’s Jaguar. The bankruptcy judge noted that the physician had a pattern of asset protection over the years. The judge further commented that the investment in life insurance policies, although made after the accident occurred, was made before the liability for the accident was determined. Therefore, the court held investing the proceeds from the sale of the Jaguar into a life insurance policy with a cash value of $22,000.00 (even though made after the automobile accident) was not a fraudulent transfer!
b. In In re Davidson, 178 B.R. 544 (Bankr. S.D. Fla. 1995), the court found husband and wife both engaged in questionable activities prior to filing for bankruptcy. Wife utilized $100,000 of previous non-exempt funds to purchase annuities within nine months from the date the bankruptcy petition was filed. Annuities were purchased subsequent to creditor filing a law suit against debtors and one day prior to creditor obtaining a judgment. Accordingly, the court held that the annuities were purchased with “an intent to hinder or delay” the creditor. Consequently, the court denied wife’s bankruptcy discharge under Bankruptcy Code § 727(a)(2).
It should be noted that at the time the case was decided Florida did not have a law prohibiting the use of exemptions as a consequence of fraudulent conduct. Florida Statute § 222.30 applies to conversions of non-exempt assets on or after October 1, 1993. The wife’s conversion occurred in 1991 and 1992.
c. In In re Mackey, 158 B.R. 509 (Bankr. M.D. Fla. 1993), the court held that the “debtor is not entitled to exempt the annuities purchased on the eve of bankruptcy because debtor had the intent to delay or hinder creditors.”
Debtor sold her business and related property; one month after the sale, debtor filed for bankruptcy. Debtor utilized the proceeds from the sale to invest in annuities, the day after the sale took place. When filing her bankruptcy petition, debtor did not mention the sale. When challenged by the court as to why the sale was missing, debtor said she forgot to list it in addition to some stock. The court determined from “the totality of the circumstances debtor intended to hinder, delay, or defraud creditors by placing the sale proceeds into exempt annuities.” Id. at 513.
d. Charitable Remainder Trusts. See the discussion above in Article IV “ASSET PROTECTION TECHNIQUES,” Paragraph E “Domestic Trusts.,” Subparagraph IV.E.2.b.ii, “Assets Usually not Fully Protected” on In re Brown, in which debtor created a charitable remainder unitrust with a spendthrift provision. The spendthrift provision was found to be against public policy. Consequently, upon debtor’s filing for bankruptcy, creditor was able to attach debtor’s right in the property which was the income stream for the remainder of debtor’s life.
15. Planning. Practitioners should consider using private annuities in intrafamily transactions; they provide asset protection benefits in addition to income and estate tax benefits. Such planning may be initiated through defective grantor trusts for income tax purposes (minimizing income tax consequences typically resulting from private annuity transactions) that are effective for estate tax purposes.
C. Disability Benefits.
Disability income benefits received under an insurance policy are exempt from seizure or levy except when the policy is procured for the benefit of a creditor. In re Dennison, 84 B.R. 846 (Bankr. S.D. Fla. 1988). Florida Statute § 222.18 exempts disability payments from legal process. Crotts v. Bankers & Shippers Ins. Co., 476 So. 2d 1357 (Fla. 2d DCA 1985).
D. Workers Compensation.
1. Proceeds received pursuant to a worker’s compensation settlement have been held to represent a debtor’s right to receive disability benefits within the meaning of 11 U.S.C. § 522(d)(10)(C), and therefore are exempt assets. Furthermore, the court in In re Green, 178 B.R. 533 (Bankr. M.D. Fla. 1995), found that “because the funds used to purchase the certificate [of deposit] are traceable to the [workers compensation] settlement proceeds which represent debtor’s right to receive a disability benefit” that the certificate of deposit was exempt.
2. Treasury bonds and mutual fund shares purchased in brokerage account which was funded with a portion of debtor’s lump sum workers compensation settlement are exempt. In re Harrelson, 311 B.R. 618 (Bankr. M.D. Fla. 2004), almost 19 months before filing for bankruptcy, the debtor transferred $40,000 from her lump sum workers compensation settlement in the amount of $76,120.54 to a brokerage account within which bonds and mutual fund shares were purchased. Upon filing for bankruptcy, the Trustee sought to include the brokerage account in the bankruptcy estate on the basis that the bonds and mutual funds were not exempt. The bankruptcy court cited Broward v. Jacksonville Medical Center, 690 S.2d 589 (Fla. 1997) where the Florida Supreme Court construed Florida Statute § 440.22 to hold that it exempts workers compensation from creditors. The Broward court held that workers compensation benefits remain exempt once placed in the hands of the beneficiary. Accordingly, the bankruptcy court held that the debtor’s “workers’ compensation benefits invested in publicly traded securities retain their character as workers compensation benefits ‘in the hands of the beneficiary’.”
1. Exemption and Extent Thereof. Florida Statute § 222.11 became effective on October 1, 1993. Prior to that date Florida exempted from creditors claims all wages of the “head of a family.” The Statute limits the wage exemption to $500.00 per week; creditors may not attach wages in excess of $500.00 per week unless the debtor agrees in writing. Thus, from a practical standpoint, it appears that the law only applies to the extent creditors require debtors to waive the exemption in writing in exchange for receiving an extension of credit. To benefit from the wage exemption:
2. “Head of Family” Requirement. In In re Weinshank, 406 B.R. 413 (Bankr. S.D. Fla. 2009), the debtor claimed that the $4,500 he had in a bank account was exempt wages as defined under Florida Statute § 222.11. The bankruptcy trustee argued that the debtor is not entitled to the exemption because he is a single man without children, and therefore is not a head of family. However, the court disagreed stating that such an interpretation would render subsection (2)(c) of the statute superfluous, which states that “Disposable earnings of a person other than a head of family may not be attached or garnished in excess of the amount allowed under the Consumer Credit Protection Act.” The court therefore allowed the debtor to exempt funds traceable to wages earned within six months, in accordance with the statute.
3. “Salary or Wages” – Defined for Purposes of § 222.11. In Brock v. Westport Recovery Corp., 832 So.2d 209 (Fla. 4th DCA 2002), the court quashed the continuing writ of garnishment because Appellant’s earnings were not “salary or wages” within the meaning of Florida Statute § 77.0305 which refers to Section 222.11.
The court in determining what classifies as earnings stated, “the relevant inquiry is often whether a person’s employment is a salaried job or is in the nature of running a business. … For the exemption to apply, the debtor must not only perform personal services to the business, he must also receive regular compensation dictated by the terms of an arms-length employment agreement.” When the debtor determined the amount and timing of compensation, the debtor was not entitled to the exemption.
The opinion stated that “[a]n employee has regular earning pursuant to an employment agreement. He or she is paid directly for personal labor or services. By contrast, this debtor and others similarly situated who run their own businesses, have control over the timing and amount of their compensation. Certainly, the legislature did not intend to exempt all funds a person chooses to draw from a business where the individual has full discretion over what expenses to pay or not pay in order to fund the draw.”
The court determined that the services Appellant performed were more in the nature of a business and not performing a job. As a result, they were not wages. Since they were not wages, the Appellant was not entitled to the § 222.11 exemption.
In In re: Pellegrino, 2009 U.S. Dist Lexis 43100 (S.D. Fla. May 15, 2009, the debtor, a doctor that owned his own practice, claimed certain accounts were exempt from creditors’ reach as they are “wage accounts.” After review of account records, the Court determined that money taken did not appear to be wages and therefore the wages claimed as exempt were not exempt. Instead the money seems to be passive income and then was later deposited into a joint account with his mother which also tainted those accounts. Interestingly the debtor did take a W-2 showing the money as wages; however, the trustee was able to prove that this was merely a label and not reality. The court noted that an important factor was the fact that the debtor did not have an Employment Agreement, which appears to be a favorable factor for maintaining this exemption.
In In re: Holmes, 414 B.R. 868 (Bankr. S.D. Fla. 2009), a bartender claimed that his tips, which were paid as part of his bi-weekly checks, were wages. The court agreed with this rationale. Additionally, the Trustee was unable to establish that the debtor was an independent contractor and not an employee. This raises the issue of whether gratuities, if simply taken home and not paid as part of the paycheck, would not have been exempt.
In In re McDermott, 425 B.R. 848, 852 (Bankr. M.D. Fla. 2010), the debtors claimed an exemption for funds contended to represent earnings as a head of family, while the trustee objected, claiming that the funds were instead equity withdrawals from the debtors’ business. The court, in siding with the trustee, concluded that the deposited funds did not constitute “wages” under § 222.11 (1)(a) since the husband
Id. at 851-52.
Planning. In planning to take advantage of the wage exemption under Florida Statute § 222.11, the employer/employee relationship must be clearly established. The relationship can be established by using an employment agreement and ensuring that the employee is paid a wage (at least as frequently as other employees).
4. Independent Contractors. There has been a split in the Florida courts as to whether the earnings of an independent contractor are protected by Florida Statute § 222.11.
a. In In re Glickman, 126 B.R. 124 (Bankr. M.D. Fla. 1991) the court found that nothing in the wage statute limits its protection to employees. The court then went on to add that amounts owed to a dentist who was an independent contractor were exempt because it was owed for personal labor and services.
b. In In re Pettit, 224 B.R. 834 (Bankr. M.D. Fla. 1998), the Bankruptcy Court held that commissions and bonuses earned by debtor are exempt earnings pursuant to Florida Statute § 222.11 even though the debtor was labeled an independent contractor. The Pettit noted that it would not base its decisions solely on whether a debtor is labeled an employee or independent contractor. Consequently, the court adopted a totality of the circumstances approach to determine whether debtor’s compensation constituted exempt earnings pursuant to Florida Statute § 222.11.
The court stated the debtor was an independent contractor whose duties were essential to a job and not in the nature of running a business. He received regular compensation dictated by the terms of an arm’s length employment agreement, although such agreement was oral. The company owner had complete discretion as to the timing and the amount of debtor’s compensation and could adjust it if he chose to do so. Accordingly, the court held that, in light of all of the circumstances, debtor’s commission and bonuses were exempt earnings pursuant to Florida Statute § 222.11. In deciding this case, the court did a survey of the case law with respect to said statute both before and after its amendment in 1993.
The court noted that most Florida Bankruptcy Courts have held that money due for personal labor or services can only be earned by an employee; consequently, wages paid to an employee are exempt, whereas compensation paid to an independent contractor is not. The court also noted that in 1993, the Eleventh Circuit Court of Appeals in Schlein v. Mills (In re Schlein), 8 F.3d 745 (11th Cir. 1993), addressed the issue of whether Fla. Stat. § 222.11 exempts compensation of independent contractors. In that case, the debtor conceded he was an independent contractor but argued that the phrase “money due for personal labor or services” was not limited to earnings of employees. The court disagreed and held that “earnings” of an independent contractor are not money due for personal labor or services and were thus not exempt pursuant to Florida Statute § 222.11. In October, 1993, the Statute was amended and the term “earnings” was substituted with “money or other thing due to any person… or the personal labor or service of such person,” and the term “earnings” was defined as compensation paid or payable in money of a sum certain for personal services or labor whether denominated as wages, salary, commission or bonus. The court noted that only two cases have dealt with the effect of the amendment in Schlein:
i. In In re Zamora, 187 B.R. 783 (Bankr. S.D. Fla. 1995), the debtor, a sole practitioner, owned a law practice and a marina. The Zamora court held that cash in bank accounts belonging to debtor’s law practice and marina as well as accounts receivable from his law practice were not exempt earnings pursuant to Florida Statute § 222.11. The court pointed out that in addition to performing personal services as a business, the debtor must receive regular compensation dictated by the terms of an arm’s length employment agreement to perform services that are much like a job. In Zamora, the court found that the debtor was in complete control of the business, the amount of his compensation and terms of his employment.
ii. Compensation earned by attorney is not protected from garnishment. Creditor was successful in garnishing attorney’s wages by serving writs on attorney’s clients. In Vining v. Martyn, 858 So.2d 365 (Fla. 3d DCA 2003), the appellate court stated that Attorney was not able to seek the exemption from garnishment under Florida Statute § 222.12 because the proceeds from Attorney’s law practice did not qualify for the exemption as having been derived from “personal labor or service.”
iii. In In re Lee, 190 B.R. 953 (Bankr. M.D. Fla. 1995), the court stated that the Schlein holding that the exemptions do not extend to earnings of an independent contractor still controlled. Accordingly, the court held that insurance renewal commissions earned by an independent contractor were not exempt pursuant to Florida Statute § 222.11.
c. In In re Branscum, 229 B.R. 32 (Bankr. M.D. Fla. 1999) follows Schlein and disallows the wage exemption for independent contractor fees paid to a private investigator.
Planning. To avoid arguments for employees of closely held businesses, such as those raised above, employment agreements should be utilized to reflect employee wages. Furthermore, temptation should be avoided to take compensation as funds become available. A line of credit should be considered so the employee can receive regular wages based upon anticipated annual earnings.
All of the asset protection techniques discussed herein are potentially subject to being set aside as a fraudulent transfer. Florida enacted the Uniform Fraudulent Transfer Act (the “Act”) on January 1, 1988, which replaced the Uniform Fraudulent Conveyance Act. The Bankruptcy Code also addresses fraudulent conveyances in Section 548.
Obviously, the determination as to whether a fraudulent transfer occurred will depend upon when the debt was contracted or the liability incurred. Precedent supports the position that one can engage in asset protection transfers as insurance against “possible” future creditors (i.e., the mere possibility that a creditor may in the future exist). Indeed, such case law suggests that asset protection planning, in and of itself, can be a reason to transfer property. However, as suggested throughout this outline, asset protection planning should generally be a byproduct of estate and other tax planning. See Exhibit G for an example of the type of questions a judgment debtor might be asked post judgment.
B. “Badges of Fraud” May Constitute a Fraudulent Transfer.
1. Laboratory Corp. of America v. Professional Recovery Network, Etc., 813 So.2d 266 (Fla. 5th DCA 2002), was an action against a successor corporation alleging that successor corporation was formed for purpose of defrauding predecessor corporation’s creditors, that successor was alter ego of predecessor and was a mere continuation of predecessor’s business, and that there was a de facto merger of corporations, rendering successor liable for predecessor’s debts. A continuation of business resulting in liability of the successor corporation for its predecessor’s debts occurs when the successor corporation is merely a continuation or reincarnation of the predecessor corporation under a different name. A successor corporation is deemed to have received fraudulently transferred assets where several badges of fraud can be found in the record, including the transfer of predecessor’s customers, receivables, accounting system and database to successor without consideration, and the transfer of predecessor’s vehicles to owners of corporations at far less than market value. The fraudulent nature of a transaction may be found to exist in the transfer of assets of a corporation without consideration or for grossly inadequate consideration to a successor corporation to the prejudice of creditors for the benefit of the same individuals who constitute the beneficial owners of each of the corporations involved.
2. Hurlbert v. Shackleton, Jr., M.D., 560 So. 2d 1276 (Fla. 1st DCA 1990). The appellate court reversed and remanded the case to the trial court. The case dealt with debtor who after losing his medical malpractice began transferring individually owned assets to himself and his wife, either as tenants-by-the-entireties or as joint tenants with rights of survivorship. Debtor continued to practice medicine but on a part time basis and in less risky areas of the practice.
On February 20, 1984 debtor committed malpractice during treatment of a patient. Patient filed her complaint on September 12, 1985 and obtained a final judgment on March 4, 1986 in the amount of $222,469. The judgment was recorded on March 11, 1986. Between October 1984 and June 1985 (after the malpractice was committed and before the suit was filed) debtor and his wife acquired several investments, some of which were new and others the result of debtor transferring title to individually owned assets to himself and his wife as joint tenants.
Patient began proceedings against debtor and his wife in 1988. Shortly thereafter patient died. Thus, creditor joined debtor’s wife as the personal representative of his estate. The court focused its intention on whether the transfers debtor made were in the nature of defrauding “possible” or “probable” subsequent creditors, rather than whether he intended to defraud patient or anyone else. Finding that patient was a “possible” future creditor, the court said it found no cases permitting transfers as being fraudulent as to “possible” future creditors.
Appellate court stated the proper focus should have been on whether debtor had the actual fraudulent intent at the time he transferred the assets to he and his wife. The fact that patient was not an existing judgment creditor when the transfers were made requires patient to show that the assets were transferred with actual fraudulent intent. If patient successfully shows such intent, such assets transferred with the intent are subject to satisfying the judgment debt.
3. Sweeney, Cohn, Stahl & Vaccaro v. Kane, 6 A.D.3d 72 (N.Y. App. Div. 2d Dep’t 2004) held that creditors could successfully defeat the debtor’s asset protection plan by reverse piercing the corporate veil. The debtor was executrix of an estate in which she had a dispute with a law firm (one of the two creditors) over legal fees. Debtor hired a second law firm (also a creditor) to resolve the dispute. Once the dispute was settled, debtor refused to pay the settlement to the first law firm and then refused to pay the second law firm for their fees. This suit commenced.
Prior to the second law firm arriving at a settlement with the first law firm, debtor transferred a significant sum of money to a Florida corporation she formed with her husband. They were the sole shareholders and held title to the stock as tenants-by-the-entirety. Once the entity was formed, they then had the corporation enter into a contract to purchase title to property that became their home. At all times in question, the debtor and her husband resided in New York and debtor’s husband practiced dentistry in New York.
The trial court granted debtors summary judgment in that Florida law controlled the issue of piercing the corporate veil and because the corporate stock was owned as tenants-by-the-entirety, the creditors were unable to reverse-pierce the corporate veil. The appellate court, however, found that it could apply Florida law to the issues. It stated that “under Florida law, when outsiders seek to pierce the corporate veil the existence of control by the shareholder is not enough; there must also be a showing of improper conduct such as to mislead creditors or to work a fraud on them or to use the corporation as a means of evading liability with respect to a transaction that was personal and not corporate.” It went on to note that “the remedy is equally available, however, to hold the corporation liable for the debts of controlling shareholders where the shareholders have formed or used the corporation to secrete assets and thereby avoid preexisting personal liability.”
It found that debtor’s husband acted in concert with debtor to hinder the creditors and went so far as to initially claim he was the sole owner of the Florida corporation. Consequently, the court found that he was not an innocent shareholder who would be impacted by the corporate piecing. The appellate court held that there was nothing holding it from applying Florida law to reverse piece the corporate veil which would ultimately permit the sale of the New York property to satisfy the judgments.
4. In re Kelly, 2007 U.S. Dist. LEXIS 64174 (M.D. Fla. Aug. 30, 2007). In this case, the debtors attempted to claim $8,897.40 of the $13,000 cash surrender value of an Insurance Policy as an exempt asset in bankruptcy. Close to the time when they filed for bankruptcy, the debtor transferred a non-exempt asset, $8,897.40 in cash, to repay a loan taken out on an exempt asset, the $13,000 cash surrender value of a Life Insurance Policy. The debtor stated that she made the transfer knowing that the cash surrender value of the policy was exempt under Florida statute. The Trustee objected to its exemption claiming that the conveyance was fraudulent. Florida law disallows an exemption if the conveyance is the result of a fraudulent transfer. Holding that the funds were not exempt, the court declined to accept the debtors’ proposition that the receipt of value for their expenditure of $8,897.40 barred the bankruptcy court from finding fraud, stating that the receipt of value from the transaction is just one factor among many that courts may consider in evaluating whether a debtor acted with fraudulent intent in converting non exempt assets into exempt assets. The reviewed several “badges of fraud” used in determining whether an exemption should be disallowed. The Court found that: (1) the debtor retained control over the money because she could borrow against the policy at any time; (2) the debtor was insolvent at the time of the payment of the money to the insurance company; (3) the timing of the payment to the insurance company was less than two months prior to filing for bankruptcy; and (4) the loan was not due to be repaid at the time of the transfer of the money to the insurance company.
5. Dowling v. Davis, 295 Fed. Appx. 322 (11th Cir. 2008), the debtor was married in 2003. On his wedding day he transferred $2.2 million to a tenants by the entirety account. Several days later, the couple used $1.9 million from the account to purchase a Florida homestead. The debtor had a known creditor at the time of the marriage. The creditor argued that the transfer to tenancy by the entirety was voidable under FUFTA. Under Florida Statute § 726.108(1), the first transferee of a voidable transfer can be held liable to the creditor for the value of the asset transferred for the amount necessary to satisfy the creditor’s claim. Defendants argue that, since the assets transferred to the tenancy by the entirety account were used to purchase homestead property, the transfer was not voidable. The court disagrees stating that it is irrelevant to the determination of the legitimacy of the initial transfer what the transferee later did with the transferred assets. The creditor’s claim against the wife as transferee is valid.
However, Davis’s legal troubles were not over. In In re Davis, 403 B.R. 914 (Bankr. M.D. Fla. 2009), the debtor was now placed in involuntary bankruptcy. The principal issue was whether the debtor could claim his homestead exempt as tenants by the entirety property when he was ineligible to claim the homestead exemption under Florida law because the property was purchased with fraudulently transferred funds in violation of Bankruptcy Code section 522(o). The court stated that, for a transfer to be voidable under BAPCPA, adversarial proceedings must be brought. The court, therefore, held that since the creditor failed to challenge the transfer of assets to homestead within the statutory period, the debtor was entitled to the tenants by the entirety exemption. The creditor then argued that since the creditor was able to get a judgment against the debtor’s wife for the fraudulent transfer, he was a debtor of both husband and wife and should be able to reach the couple’s joint property. The court disagreed stating that “[t]wo separate judgments do not create a joint debt.” The court quoted In re Ramsurat, 361 B.R. 246, 255 (Bankr. M.D. Fla. 2006), which states “where spouses incur debts separately, ownership of property as tenants by the entirety prevents creditors from reaching the debtor’s assets.” The court found that “[a]s there is no joint debt in this case, there is no joint creditor who has the ability to execute against tenancy by the entirety property.” See also Republic Credit Corporation v. Upshaw, 10 So. 3d 1103 (Fla. 4th DCA 2009), above.
6. US v. Kapila, 402 B.R. 56 (Dist. S.D. Fla. 2008). The debtor made an irrevocable election to carry forward his net operating losses on the advice of his accountant (he was planning on selling his business in the next year and would benefit from the deduction). The debtor could have instead elected to apply the loss to the two preceding tax years to offset past tax liability and receive a refund. The buyer backed out and the debtor filed for bankruptcy. The trustee argued the net operating loss election constituted a fraudulent transfer to the US under Bankruptcy Code section 548(a). The US Government argued that (1) the deduction is not an interest in property, (2) the carry forward election is not a transfer, and (3) the trustee cannot avoid an election. The court disagreed on all counts, stating that the bankruptcy code is to be liberally construed to protect the rights of creditors; therefore, the election did constitute a fraudulent transfer and could be avoided by the bankruptcy trustee.
7. In re: Booth, 417 B.R. 820 (Bankr. MD Fla. 2009). The Bankruptcy Court for the Middle District of Florida rejected a creditor’s claim that the debtor purchased homestead property in anticipation of filing for bankruptcy. The debtor purchased her homestead using funds from her IRA, from her daughter, and from a brokerage account. Two months later, she filed for bankruptcy. The trustee objected to the homestead exemption claiming the debtor used non-exempt funds to purchase the homestead with the intent to hinder, delay or defraud her creditors. The presumption in Florida is that a debtor's homestead exemption claim is valid. The court found the debtor's testimony credible that she did not intend to file for bankruptcy at the time of purchasing the home and therefore the homestead was exempt.
8. SEC v. Solow, 682 F. Supp. 2d 1312 (S.D. Fla. 2010). Here, the SEC contended, and the court agreed, that Mr. Solow’s claim that he failed to pay amounts due under a Final Judgment because of a “negative net worth” were made in bad faith. The court found that Mr. Solow’s “negative net worth” was the result of hard work by Mr. Solow and his attorneys to give the Solow’s assets “an opaque appearance.” The court determined that Mr. Solow was in civil contempt due to his failure to comply with the underlying order. The court found that Mr. Solow went to great lengths to shelter personal assets from the reach of creditors. Emphasizing the court’s position in Hodgson v. Hotard, 436 F.2d 1110, 1116 (5th Cir. 1971) and in Piambino v. Bestline Products, Inc., 645 F.Supp. 1210, 1215 (S.D. Fla. 1986), “while inability to pay is a defense to civil contempt, inability to pay is not a defense if the contemnor created the inability. Stating that “[t]his Court has broad equitable powers to reach assets otherwise protected by state law to satisfy disgorgement.” Mr. Solow was ordered to surrender to the custody of the U.S. Marshall’s Office until he complied with the underlying order. He was released from prison by court order dated June 4, 2010.
9. In re: Friedlander Capital Management Corp., 411 B.R. 434 (Bankr. SD Fla. 2009). The debtor was a Connecticut corporation owned by a securities trader indicted for violation of the SEC regulations. The creditors of the debtor claim that a $500,000 no interest loan to a company owned by the securities trader's former wife was a fraudulent transfer. The company repaid the loan to the couple's joint account rather than to the debtor. The former wife (who never made a withdrawal from the joint account) stated that she believed the loan was from her husband and not the debtor. The former wife claimed that her repayment to her husband constituted repayment to the debtor under a theory of reverse veil piercing. The court agreed with the former wife and the trustee could not recover against her.
C. Crime--Fraud Exception to Attorney-Client Privilege.
1. In re Campbell, 248 B.R. 435 (Bankr. M.D. Fla. 2000). The debtor filed an objection to creditor’s motion to compel debtor’s counsel to produce documents. Debtor asserted the attorney-client privilege and attorney work product as defenses. The creditor alleged that non-exempt assets were converted to exempt assets with the intent to hinder, delay or defraud creditor. Consequently, the attorney client privilege should fail under the crime-fraud exception to the privilege. Id.
The court in Campbell, found that the crime-fraud exception to the attorney-client privilege applied. The creditor did raise sufficient inferences that the transfer may have been fraudulent. The Bankruptcy Court concluded that the creditor was entitled to certain documents that might be part of a fraudulent plan.
The crime-fraud exception is associated with clients who consult lawyers for advice in pursuing a fraudulent undertaking. Id. at 10. See also, In re Warner, 87 B.R. 199 (Bankr. M.D. Fla. 1988). If advice is obtained with respect to past crimes or misconduct, then it is privileged. However, advice sought in contemplation of commission, prior to commission, or during the commission of a fraudulent undertaking prior to the commission of a fraudulent event, is not privileged. Id. at 10.
2. To invoke the crime-fraud exception to the attorney-client privilege a two part test must be satisfied. First, a party must provide, “prima facie evidence showing that the client was engaged in criminal or fraudulent conduct when he sought the advice of counsel, that he was planning such conduct when he sought the advice of counsel, or that he committed a crime or fraud subsequent to receiving the benefit of counsel’s advice.” Campbell, citing In re Grand Jury Investigation (Schroeder), 842 F.2d 1223, 1226 (11th Cir. 1987). Second, the party must also show that the attorney’s advice was obtained in furtherance of the criminal or fraudulent activity or closely related to it. Id.
First Union National Bank v. Turney, 832 So. 2d 768 (Fla. 1st DCA 2002), involved a trust beneficiary’s action against trustee bank, alleging breach of fiduciary duty. The trial court was affirmed in admitting communications between bank and its attorneys regarding deliberate nondisclosure during efforts to obtain general releases of beneficiary’s claims and deliberate non-disclosure in connection with plan to create grounds for statute of limitations defense to beneficiary’s claims. The court stated that if a client communicates with an attorney in order to obtain advice or assistance in perpetrating what the client knows to be a crime or fraud, the communication loses its privileged character. The opinion states that the party seeking to defeat the claim of attorney-client privilege utilizing the crime-fraud exception must first put on a prima facie case that the crime fraud exception applies. Disputed documents themselves cannot be used for this purpose unless the party asserting the privilege consents. By inviting trial court to review documents it claimed were privileged, defendant waived the requirement that plaintiff make a preliminary showing that crime-fraud exception was applicable without resort to the documents. After reviewing the disputed documents, the appeals court confirmed that the trial court properly conducted a full evidentiary hearing before ruling that the documents were admissible.
3. It is interesting to note that while the crime-fraud exception fails to protect communications between an attorney and the client, the creditor may not have legal recourse against the attorney. In BankFirst v. UBS Paine Webber, Inc., 842 So. 2d 155 (Fla. 5th DCA 2003), which was decided on February 14, 2003, a creditors claim against the debtor’s team of financial and legal advisors was dismissed. In order to obtain a loan for his corporation, debtor made a personal guarantee. Once business became difficult, debtor went to his financial planner seeking ways to protect his assets. Financial planner sent debtor to attorney who with full knowledge of debtor’s desire to hide assets from a creditor advised debtor to establish an offshore trust. Court found that neither section 222.30 of the Florida Statutes nor chapter 726 “creates a cause of action against a party who allegedly assists a debtor in a fraudulent conversion or transfer of property, where the person does not come into possession of the property.” Id. at *2. But note, other states do provide for such a cause of action, and if in Florida a conspiracy can be shown in which the attorney participated, liability may exist.
The dissent felt that there were sufficient facts to permit creditor to move forward on its claim of a conspiracy on the part of the debtor’s financial and legal team. Dissent stated “if it is fraud for a debtor to convey assets to avoid creditors, what possible policy reason is there to immunize a lawyer who knowingly and willingly makes it possible for his client to commit this fraud? Is it because one who wishes to defraud his creditors has a right to competent legal assistance to do so or is it merely a way of protecting the species?” Id. at *5. Believing there was no such reason to immunize lawyer, dissent felt that equity demanded creditor obtain recourse. “I believe BankFirst stated a cause of action for civil conspiracy and, if those transferred assets are no longer subject to recovery, or to the extent they are not, then it is only equitable and just that damages (paid by the attorney) be substituted in lieu of such assets.” Id. at *7.
D. Validity of Asset Planning.
1. Protection for Debtors. There are many cases in which courts have found debtors who engaged in asset protection acceptable when such planning was begun well in advance of financial and/or legal difficulties. In re Oberst, 91 B.R. 97, (Bankr. C.D. Cal. 1988); Klein v. Klein, 112 N.Y.S.2d 546 (N.Y. Sup. Ct. 1952); Wantulak v. Wantulak, 67 Wyo. 22 (Wyo. 1950). As stated in Oberst:
Key factors in determining whether a fraudulent transfer has occurred include the timeliness of when a transfer occurs as well as the extent of the transferor’s solvency. If, after a transfer occurs, the transferor has retained sufficient assets to satisfy existing claims, then it would be difficult to make a case that the previous transfer was fraudulent. In US v. Evseroff: 2007-1 U.S. Tax Cas. (CCH) P50, 222 (E.D. N.Y. 2006), the defendant, was informed by the IRS in 1990 that he had $227,282 in taxes and penalties owed. In addition, in January 1991, the defendant received a detailed document inaccurately estimating the interest owed at around $800,000. Then, in September 1991, the defendant purchased a home in Florida for $230,000, which was later seized by the IRS. In January 1992, the notice of deficiency was received by the defendant indicating a liability of over $700,000. In April the defendant filed a petition challenging the Notice. In June of 1992, the defendant executed a trust document naming his sons as beneficiary and a family friend as trustee. He placed $220,000 in the trust and in October placed a New York home in the trust as well. At the time of these transfers, the defendant had sufficient assets after the transfer to satisfy all of his debts, including the potential tax liability. In November of 1992, the Tax Court issued a judgment against the defendant for approximately $770,000. The IRS then attempted to establish that the transfers to the trust were fraudulent transfers. The defendant claimed that his motivation in setting up the trust was for estate planning purposes and not to avoid paying the IRS, he stated that he was concerned that his wife, whom he was separated from, would take a portion of his estate that he wanted to leave to his sons. In addition, once the Trust was created, the defendant did not exercise control over the home and, because he lived in the New York home, paid rent and costs to the Trust pursuant to a valid lease agreement. The government argued that the defendant was committing fraud and the trust should be set aside. The Court determined that, despite the fact that the transfer was gratuitous and without consideration, because the defendant never exercised control over the property in the trust and because his assets exceeded his liabilities at the time of the transfer, the transfers to the trust would not be set aside and was not fraudulent. For a more detailed discussion on this case, see Steve Leimberg’s Asset Protection Planning Newsletter #100 (Apr. 2, 2007) www.leimbergservices.com.
2. Protection for Third Parties Assisting with Asset Protection. In Freeman v. First Union National Bank, 865 So. 2d 1272 (Fla. 2004), which was decided on January 29, 2004, the Florida Supreme Court reviewed a question of Florida law certified by the Eleventh Circuit Court of Appeals. The question was whether the Florida Uniform Fraudulent Transfer Act (“FUFTA”) created a cause of action for damages in favor of a creditor against an aider or abettor to a fraudulent transaction. The case stemmed from a suit brought against First Union by victims of a ponzi scheme. They alleged that despite First Union having knowledge of litigation instituted against one of its clients, it continued to permit its client to transfer millions of dollars off shore, even after an injunction was issued. After reviewing the FUFTA, the Court concluded that it “was not intended to serve as a vehicle by which a creditor may bring a suit against a nontransferee party for monetary damages arising from the non-transferee party’s alleged aiding-abetting of a fraudulent money transfer.”
E. Bankruptcy Code.
1. Denial of Bankruptcy Protection. Bankruptcy Code § 727(a)(2) permits a court to deny bankruptcy protection to a debtor who transfers property within one year of filing the bankruptcy petition with intent to hinder, delay, or defraud a creditor. Bankruptcy Courts in Florida have applied this sanction to debtors who intentionally defraud creditors by converting non-exempt assets into homesteads on the eve of bankruptcy. In re Covino, 187 B.R. 773 (Bankr. S.D. Fla. 1995); In re Barker, 168 Bankr. 773 (Bankr. M.D. Fla. 1994); In re Collins, 19 B.R. 874, (Bankr. M.D. Fla. 1982). However, a creditor asserting intent to defraud by a debtor under Bankruptcy Code § 727(a)(2) has the burden of establishing actual fraudulent intent, constructive fraud is not enough. See In re Burzee, 402 B.R. 8 (Bankr. M.D. Fla. 2008).
2. Trustee May Avoid Debtor’s Transfer. Bankruptcy Code § 548(a)(1) enables a Trustee to void a debtor’s transfer made within one year of petitioning for bankruptcy, if made with the intent to hinder, delay or defraud a creditor. In In re South Florida Title, Inc., 104 B.R. 489, (Bankr. S.D. Fla. 1989), the court imposed an equitable lien on exempt homestead property purchased while the debtor was solvent and within three months of petitioning for bankruptcy. Bankruptcy Courts also have authority to deny conversions of non-exempt assets to exempt property if made with fraudulent intent.
3. In Re Harwell. In In re Harwell, 628 F.3d 1312 (11th Cir. Fla. Dec. 29, 2010), Thomas Clay Hill obtained a $1.396 million judgment in Colorado against debtor Billy Jason Harwell on July 12, 2005. Hill sought to domesticate his Colorado judgment in Florida because Harwell owned interests in two Florida businesses. Shortly after the judgment, Harwell entered into settlement agreements with the two Florida businesses that provided he would receive money in three installments. Harwell did not disclose this on post-judgment interrogatories from Hill. The two businesses deposited the funds owed Harwell into attorney Steven D. Hutton’s trust account. Hutton had been engaged to represent Harwell in disputes with other investors in the two businesses. On October 10, 2005, Harwell filed for Chapter 11 bankruptcy protection in Colorado. The Chapter 7 Bankruptcy Trustee filed a complaint against Hutton, seeking return of the $500,000 in payments that the two businesses had sent him. The case was transferred to Florida where the issue was framed as whether there were theories in which a Chapter 7 Trustee could go after a lawyer for personal liability where the lawyer is the mastermind and facilitator of the fraudulent conveyances? On Hutton’s motion for summary judgment, the United States Bankruptcy Court for the Middle District of Florida ruled, affirmed by the district court, that Hutton was not an initial transferee of Harwell’s money because Hutton never had dominion and control over the money Hutton kept in his trust account for Harwell. Citing Freeman, the bankruptcy court determined that the Florida Uniform Fraudulent Transfer Act did not allow the Trustee to assert a cause of action against Hutton for either aiding and abetting or civil conspiracy if Hutton was not the “initial transferee” of the money within the meaning of the Bankruptcy Code. On appeal to the United States Court of Appeals for the Eleventh Circuit, the court held that Hutton was not entitled to judgment as a matter of law on the "initial transferee" issue. Hutton was the initial recipient of the debtor's funds, and fact issues existed as to whether the attorney could escape "initial transferee" status based on the "mere conduit or control" test. The mere conduit or control test considers whether the intermediary acts without bad faith and is simply an innocent participant to the fraudulent transfer. The attorney must show that he or she has acted in good faith and to have been an innocent participant in the transfers into and out of the trust account. The court noted Hutton’s use of the settlement proceeds to transfer money to certain creditors, Harwell’s family members, and Harwell himself, even though Hill was actively pursuing collection of his million dollar judgment. Thus, summary judgment was not appropriate since notwithstanding the appearance that Hutton acted in bad faith, the bankruptcy court, for purposes of its summary judgment ruling, never made findings regarding bad faith but rather assumed Hutton was the mastermind of a fraudulent transfer scheme. As no factual findings had been made regarding the attorney's control of the funds or bad faith, remand was required.
F. Florida Statutes § 726.105(1).
1. Definition of Fraudulent Transfer. FLA. STAT. § 726.105(1), transfers fraudulent as to present and future creditors are transfers made or obligations incurred by a debtor, whether the creditor’s claim arose before or after the transfers were made or the obligation was incurred, if the debtor made the transfer or incurred the obligation:
a. With actual intent to hinder, delay or defraud any creditors; or
b. Without receiving a reasonably equivalent value in exchange for the transfer or obligation, and the debtor:
i. was engaged or was about to engage in a business or transaction for which the remaining assets of the debtor were unreasonably small in relation to the business or transaction; or
ii. intended to incur, or believed, or reasonably should have believed that he would incur, debts beyond his ability to pay as they became due.”
2. Factors to Be Considered In Determining Intent. Florida Statute § 726.105(2) provides that various “factors” may be considered in determining the debtor’s actual intent. The factors include whether:
a. the transfer or obligation was to an insider;
b. the debtor retained possession or control of the property after the transfer;
c. the transfer or obligation was disclosed or concealed;
d. the debtor had been sued or threatened with a suit prior to making the transfer or incurring the obligation;
e. the transfer involved substantially all the debtor’s assets;
f. the debtor absconded;
g. the debtor removed or concealed assets;
h. the value of the consideration received by the debtor was reasonably equivalent to the value of the assets transferred or the amount of obligation incurred;
i. the debtor was insolvent or become insolvent shortly after the transfer was made or the obligation was incurred;
j. the transfer occurred shortly before or after the debtor incurred substantial debt;
k. the debtor transferred essential assets of the business to a lienor, who, in turn, transferred them to an insider of the debtor.
3. Fraudulent Transfers as to Present Creditors Only. Under Florida Statute § 726.106, transfers made or obligations incurred are fraudulent as to present, but not future creditors if they are made by the debtor:
a. without receiving reasonably equivalent value and while the debtor is insolvent or becoming insolvent as a result of the transfer or obligation; or
b. to an insider for an antecedent debt who had reasonable cause to believe the debtor was insolvent and the debtor was, in fact, insolvent; an exception may be available to the extent that an insider gave new value.
4. Statute of Limitations. Florida Statute § 726.110 specifically sets forth the time limits for bringing an action under the Act. When an action is based upon fraudulent conduct, it must be brought within four years after the transfer was made or the obligation was incurred, or, if later, within one year after the fraud was or reasonably should have been discovered. When the action is based upon fraudulent acts, the four-year limitations period applies without the one-year “discovery” add-on. Where an action is based upon a preferential transfer to an insider, the action must be brought within one year after the transfer was made or the obligation was incurred.
5. In re Mizrahi. The court in In re Mizrahi, 179 B.R. 322 (Bankr. M.D. Fla. 1995), addressed both Florida Statute §§ 726.105(1)(a) and 726.105(1)(b). In that case, on the day before a corrected judgment was entered against debtors, in an amount close to $7 million, they amended the provisions of their trust. The amendments substantially limited their right to alter and amend the trust; it provided that upon revocation, the assets would be distributed to their children. Additionally on the same day they amended their trust, debtors made numerous transfers into the trust for which they received no consideration. The court found that Fla. Stat. § 726.105(1)(b) mandated a finding that a fraudulent transfer occurred, and that the same result could be achieved under Florida Statute § 726.105(1)(a). The court stated that given the facts and circumstances of the case, the debtor’s primary purpose in transferring the properties was to put such properties out of the reach of creditors.
6. In re Jennings. In determining whether a transfer of property was a fraudulent transfer, the court in In re Jennings, 332 B.R. 465 (M.D. Fla. 2005), used the factors of Florida Statute § 726.105(2) to determine whether Jennings, the debtor, made the transfer with the intent to hinder, delay or defraud a creditor. The court stated that the most important issue in this case was the timing of the transfer. Jennings purchased a single premium annuity (i) after he was sued by the plaintiff, Maxfield; (ii) after Maxfield’s attorney sent a letter with his opinion of the facts and law of the case stating that Maxfield only had to prove Jennings to be one percent at fault in order for Jennings to be jointly and severally liable for the estimated $10,000,000 - $12,000,000 in economic damages; and (iii) during a time when Maxfield sought “detailed information concerning Jennings’ assets. Jennings argued that he did not believe a judgment would be entered against him individually and that he purchased the annuity because he had no other plans for money during retirement. The court found that Jennings believed the stakes were too high and purchased the annuity as an “insurance policy of sorts” and, based on the timing and chronology of events, the annuity was purchased “to keep the money beyond the reach of Maxfield.” The court looked at other factors, such as Jennings’ retention of control over the money used to purchase the annuity, however the timing was the most “significant issue” in the proceeding.
7. In re Lowery. The creditor in In re Lowery, 335 B.R. 199 (M.D. Fla. 2005), argued that the debtor’s annual payments to a life insurance policy constituted a fraudulent conversion because the debtors did not receive a “reasonably equivalent value in exchange for” the annual payments they made. FLA. STAT. §726.106(1). The difference between the annual payments made and the cash value of the policy was $2,462.45. The court determined that the difference was nominal and did not render the policy worthless or worth substantially less than what the debtors paid for it. Therefore, the transfer was not fraudulent and the policy was exempt. On October 9, 2007, in In re Lowery, 250 Fed. Appx. 911 (11th Cir. 2007, the United States Eleventh Circuit Court of Appeals reversed and remanded this ruling for further proceedings to determine whether there was an intentional fraudulent conveyance.
8. In Re: Coady, 588 F.3d 1312 (11th Cir. 2009). In In Re: Coady, the court denied the discharge of a debtor who, with the intent to shield assets from his creditors, had diverted the fruits of his labor to increase the value of his wife's businesses and then used business assets to support his personal lifestyle. The debtor devoted his time and talents to increasing the businesses' value, but whatever increase in equity came about in the future through his labor would be protected from his creditors, while being available for his benefit or to fulfill his legal obligations of support for his family. In addition, the debtor used his wife’s business accounts for personal use. The court determined that the debtor had an equitable interest in his wife’s business and therefore such equitable interest precluded discharge of his debt.
G. Florida Fraudulent Asset Conversions Statute.
In addition to the Uniform Fraudulent Transfer Act, effective October 1, 1993, Florida Statute § 222.30 was created entitled “Fraudulent Asset Conversions.” Although the Uniform Transfer Act prohibits the transfer of property by a debtor to a third party with the intent to hinder, delay or defraud a creditor, a fraudulent conversion does not involve a transfer to a third party, but rather, a transfer of non-exempt assets into exempt property. Such a conversion may not be fraudulent per se. However, such conversions are fraudulent if made with the intent to avoid creditors. To establish fraudulent intent, this Statute adopts the analysis used to prove a fraudulent transfer. The court considers such factors as whether the debtor was insolvent at the time of transfer, or whether the transfer included substantially all of the debtor’s assets. Each case is determined according to its particular facts. Federal Bankruptcy law does not specifically prohibit fraudulent conversions; however, courts have utilized other provisions of the Bankruptcy Code to penalize debtors who fraudulently convert assets to exempt property while seeking bankruptcy protection.
H. 10 Year Lookback For Fraudulent Conversions Into Homestead Under 2005 Bankruptcy Act.
The 2005 Bankruptcy Act added Section 522(o), which effectively overrules Havoco and Cuneo in the context of a federal bankruptcy proceeding. Section 522(o) denies homestead protection to the extent that the value of a homestead is attributable to any portion of a debtor’s property that the debtor disposed of in the 10-year period ending on the date of the filing of the bankruptcy petition with the intent to hinder, delay or defraud a creditor and that the debtor could not exempt, if on such date the debtor had held the property disposed of. As noted above, it appears that this provision applies only if the debtor files for bankruptcy, and would not apply in a Florida state court action.
As explained in the overview to this outline, estate planning and asset protection planning must be coordinated. By way of illustration, if a husband and wife have all of their assets held jointly as tenants-by-the-entirety, they would miss the opportunity to use the unified credit when the first spouse passes away. In addition, it is possible that the spouse with the potential liability would survive, thereby exposing all of the family’s assets to the surviving spouse’s creditors.
There are many exempt assets under current law. Coordinating an estate plan with asset protection permits clients to take advantage of estate planning techniques while protecting assets from creditors. For example, there are different types of life insurance products that provide for large cash values to be accumulated very early in the life of the policy. Such value would be part of the gross estate of a decedent, regardless of whether held in a revocable trust or directly, and thus, would be available to utilize the unified credit in the decedent’s estate. While the individual is alive, Florida Statutes provide asset protection as previously discussed. In addition, other exempt assets may also be held to utilize the unified credit, i.e., homestead property, annuities, etc.
However, pressure is mounting to reduce the allowable exemptions available under the Florida Statutes. One member of a Florida Non-Profit Government “Watch Dog” group states that the legislature should at the very least: (i) place a dollar limit on life insurance policy cash surrender values that are exempt; (ii) place a dollar limit on pension, profit sharing and other retirement plans that are exempt; (iii) force debtors to sell their share of jointly owned properties; and (iv) place a constitutional amendment on the ballot limiting the amount of equity in homestead, adjusted for inflation, that can be protected from creditors under Florida’s unique homestead exemption provision.). Given the perception that Florida has become a debtor’s haven and given the increasing pressure to limit the exemptions available in Florida, now more than ever, it is important to coordinate asset protection with estate planning.
VIII. LEVELS OF PLANNING
A. The Ideal Candidate for Asset Protection Planning.
The ideal candidate for asset protection planning is the client who is acting well in advance of any potential problems. Such client is solvent and under no current threat (e.g. asserted claim, institution of legal action etc.) from existing or subsequent creditors. Rather, this client is only protecting himself against “possible future creditors.” With respect to such a candidate, virtually all of the estate planning/asset protection vehicles are available.
B. Client With Potential Problems.
Fewer tools are available with respect to a client who is concerned about a specific matter even though he is acting before the matter is resolved (e.g. after the accident but before the trial). With respect to such a client, the amount of potential exposure must be quantified so that any asset protection planning can leave the client solvent at least to the extent of this exposure. However, oftentimes effective planning can be accomplished.
C. Client with a Judgment.
With respect to a client who has a judgment against him or her or where the judgment is imminent, the advisor must be careful about assisting the client with respect to fraudulent conveyances. The advisor should not participate in a knowing fraud on existing creditors. See Florida Rules of Professional Conduct § 4-1.2(d)(for lawyers). Nevertheless, there are certain actions that can be taken. For example: The estate plans of the client’s spouse and parents should be revised to avoid outright bequests to the existing debtor. Testamentary spendthrift trusts created by his wife and parents should be considered as an alternative. Furthermore, assets that are currently exempt for the debtor, such as tenancy by the entirety property, can be restructured to avoid the adverse consequences which would occur if the debtor’s spouse died during the negotiation or bankruptcy process, leaving the debtor spouse with full ownership of the previously owned joint asset.
As discussed above, the ability of a debtor to forum shop for another state’s homestead and/or more lenient bankruptcy exemptions has been significantly curtailed by the 2005 Bankruptcy Act. The number of cases interpreting the Act since enactment indicates that debtors and creditors are likely to take contrary positions when interpreting the Act. The courts are likely to be busy interpreting the consequences of the 2005 Bankruptcy Act and this outline is likely to be outdated shortly after its publication.
As discussed in this outline proper planning can enable clients to protect significant assets from the reach of judgment creditors. Just like insurance is a hedge against certain losses, proper asset protection planning may enable a family to protect its resources.
1 For a discussion of the 2005 Bankruptcy Act’s effect on Florida homestead see: Barry A. Nelson, How Does the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 Affect Florida Homestead? Many Unanswered Questions., 79 No. 10 FLA. BAR J. 22 (Nov. 2005), attached as Exhibit B; Barry A. Nelson, Rasmussen Court Allows Both Spouses $125,000 Exemptions and Protects Appreciation within 1,215 Days of Bankruptcy, 81 FLA. BAR J. 43 (Jan. 2007) attached as Exhibit C.
2 For a discussion on the changes to Florida’s Limited Partnership Act, see Brian C. Sparks, Florida’s New Limited Partnership Act: Provisions of Interest for Estate Planning and Asset Preservation Purposes, FLA. BAR J. (Nov. 2005).
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These materials are intended to assist readers as a learning aid but do not constitute legal advice and, given their purpose, may omit discussion of exceptions, qualifications, or other relevant information that may affect their utility in any planning situation. Diligent effort was made to insure the accuracy of these materials, but Nelson & Nelson, P.A. assumes no responsibility for any reader's reliance on them and encourages all readers to verify all items by reviewing all original sources before applying them. The reader should consider all tax and other consequences of any planning technique discussed. Anyone reviewing these materials must independently confirm the accuracy of these materials and whether any cases or ruling have been superseded. An attorney in the state of domicile of any potential debtor should be engaged for any individual planning.
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