Wondering what happens if you are bankrupt and have not yet done a property settlement with your former partner? This article explores the effect of declaring bankruptcy on property settlement.
What is bankruptcy?
Bankruptcy is a legal process that takes effect when a person cannot pay their debts as and when they fall due. Upon a person reaching bankruptcy, a trustee is appointed by the Australian Financial Security Authority to manage the bankrupt person’s estate including all their assets and payments due to creditors.
Bankruptcy trustee’s property and Bankrupt’s right to litigate
s58 of the Bankruptcy Act 1968 provides that the bankrupt’s property (assets owned by him) held at the time he/she is bankrupt and during the period of bankruptcy, vests with the trustee.
The ability to litigate when you are bankrupt is quite limited. You can still be a party to the proceedings, but arguably, the bankrupt spouse cannot have an order for the alteration of property interests in their favour.
It is not uncommon for property settlement proceedings to involve the parties and the bankruptcy trustee, and the non-bankrupt will in those circumstances have to negotiate a settlement with the non-bankrupt spouse.
What is the power of the Family Law Courts to deal with Bankruptcy matters?
s79 and s90SM of the Family Law Act, in relation to bankruptcy matters, provides as follows:
(1) In property settlement proceedings the court can make such orders as it considers appropriate upon the breakdown of a marriage of de facto relationship.
(a) altering the interests of the parties to the marriage in their property
(b) in the case of bankrupt property where the bankrupt is a party to the proceedings, altering the interests of the bankruptcy trustee in the vested bankruptcy property.
(c) an order for a settlement of property in substitution for any interest in the property
(d) an order requiring either/both of the parties to the marriage/relationship/the bankruptcy trustee to make for the benefit of either/both the parties to the marriage/relationship/child of the relationship, such settlement/transfer of property as the court determines.
s79/s79SM (1)(d) provides that in family law proceedings, orders can be made for the benefit of the parties to the marriage or a child of the marriage, not for the benefit of the trustee.
The section provides for the involvement of the bankruptcy trustee in litigation to the extent that the litigation involves vested bankruptcy property and where an application is made for property settlement involving a bankrupt party, the bankruptcy trustee should be joined to the proceedings: s79(1)(11) / s90SM Family Law Act.
But can orders be made in favour of the Bankrupt or the Bankruptcy trustee?
s35(1) and s35(1A) of the Bankruptcy Act 1966 provide that if at the particular time a party to the marriage/relationship is bankrupt and the trustee of the bankrupt estate is a party to the property settlement proceedings, spousal maintenance proceedings, an application under s79A (to alter property settlement orders) or an applicant under s90K to set aside a binding financial agreement, the Family Court of Australia has jurisdiction for the matter and all matters connected with the bankruptcy being bankrupt.
Matrimonial cause is defined in s4 of the Family Law Act as proceedings between a party to a marriage and the bankruptcy trustee of a bankrupt party to the marriage.
Because of s79(1)(b) and s4 of the Family Law Act, it is arguable that the Court only has power to make an order altering interests in vested bankruptcy property in favour of the non-bankrupt spouse but not in favour of the trustee.
If any orders were made altering the interested in vested bankruptcy property in favour of the bankrupt, being a party to the marriage, that property would then vest in the trustee. As such, it appears to be the case that the Court does not have power to make orders that property be transferred to the bankrupt as that would in effect result in the property being vested in the trustee and not for the benefit of the bankrupt party: Redmond v Stolz (No3] .
Finally, it should be noted that s75(2)(ha) and s90SF(3)(i) of the Family Law Act states that of the range of factors that the court can take into account when making property settlement orders, one of them is the effect of any proposed orders on the a bility of a creditor of a party to recover the creditor’s debt. This would include the trustee.
What happens when a party becomes bankrupt during proceedings? – Stay of legal proceedings
In Sloan & Sloan  FamCA 610, the husband became bankrupt during proceedings for parenting and property orders. The issue was whether or not the husband could continue with his application, which he brought before becoming bankrupt.
Justice Gill stated that the right to litigate family law property proceedings does not vest in the trustee because such a right is personal to the bankrupt, except where the proceedings affect the quantum of the bankrupt estate, meaning a bankrupt spouse may commence proceedings but any property settlement obtained by the bankrupt party will become the property of the bankruptcy trustee and be applied to meet their debts.
Consequently, whilst a bankrupt spouse may commence property settlement proceedings, any property settlement obtained by the bankrupt party will become the property of the bankruptcy trustee and be applied to meet their debts. As stated above, it is questionable whether the Court has the power to make such orders altering property interests to the bankrupt party for this reason.
S60 of the Bankruptcy Act 1968 allows civil proceedings to be stayed where a person who commenced proceedings becomes bankrupt, enabling trustee to become party to proceedings & secure property to satisfy debts.
The Court in that case held that proceedings can be continued if a person becomes bankrupt but if trustee is joined to proceedings, any settlement obtained by bankrupt party will become property of the bankruptcy trustee and applied to meet their debts.
Ultimately, the proceedings (including parenting and property settlement proceedings, were also stayed so that the trustee could be joined as a party.
My former partner has been declared bankrupt – what do I do?
If you become aware that your former partner has been declared bankrupt, this may have a significant impact on your property proceedings/ability to negotiate a settlement.
You should obtain urgent legal advice on the impact of this on your ability to negotiate a settlement of assets.
Contact one of our experienced Brisbane Family & Divorce Lawyers to have a confidential discussion about your individual circumstances.