Ruth Rowlette, Inc.

Why do people file bankruptcy?

The most common reasons for an individual to file bankruptcy are: on going and uninsured health problems, a divorce where there are insufficient funds to pay joint debts, and excessive use of credit cards.  Additionally, some people are faces with large personal income or sales tax bills that can either be completely erased or repaid at a much lower rate through bankruptcy. Please refer to my brochure, “Bankruptcy and Taxes”, for further details on the issue.

Who can file bankruptcy?

Individuals, partners in partnerships and corporations are all eligible to file bankruptcy. Certain chapters of the bankruptcy code are limited to certain types of debtors or debts and you should consult a bankruptcy professional to determine that correct chapter for your particular situation.  Married persons can file jointly or individually, depending upon their own debts and assets.

How long will it take?

A Chapter 7 liquidating bankruptcy will take approximately 4-6 months from the date of filing to the date of discharge. Once the bankruptcy is filed, your creditors can no longer telephone you or take any collection against you, unless approved by the Bankruptcy Court.  Once you have received a discharge, most debts will no longer be collectable.

What is Chapter 13?

Chapter 13 reorganization allows the debtor to pay off his or her debts (credit cards and mortgage arrearages) over a 36 to 60 month period.  Once the debtor makes the final payment in a reorganization plan, the discharge is entered and the creditors can no longer seek collection against a cosigner or co-debtor at times an important concern.

Where an individual could possibly repay their debt in 12 to 18 months, it is my policy to refer that individual to a credit counseling or bill paying service before filing bankruptcy, since that individual might be able to repay the bills, if taught how to adjust their spending habits and to budget.

Choosing between a Chapter 7 or Chapter 13 proceeding can be a difficult decision and it is best to seek the advice of a legal professional who regularly works in this area.

In my practice, I regularly encounter questions from individuals contemplating filing bankruptcy, so I put these posts together to help answer some of these frequently asked questions.

For more information please contact us for a consultation.

In my practice, I regularly encounter questions that are frequently asked by individuals or small business owners.

What if I simply cannot pay the tax?

This is probably the most often asked question and my first answer is, “If you really do not have the money to pay a tax due, then realistically the government cannot collect it from you.” For some individuals or small business owners, simply presenting the Federal or State collection personnel with an accurate, well documented financial Statement will often be sufficient to stop collection activity. If collection is not halted immediately, then a reasonable payment plan can be put into effect and a wage garnishment or bank levy is released. However, what the Internal Revenue Service (IRS) or Franchise Tax Board (FTB) view as reasonable expenses may not coincide with the amounts you have been spending for living expenses.

I do not owe the tax!

There are many different ways of determining if a taxpayer really is or is not liable for the tax, being collected. In some cases, the taxpayer is being billed in error and the IRS and FTB will cease collection upon showing that collection activity is being directed at the wrong individual. However, the agencies will not simply cease collection unless and until they are convicted that the assessment is in error.

If they would only charge me the tax and not all of these penalties and interest, I could pay that off over time.

These are actually two different issues, so I will address them separately. In certain instances, penalties can be abated upon a showing of reasonable cause. Where the penalty is incorrectly assessed, the amount should be abated. By law, the taxing agencies are entitled to charge interest and it will also not be waived, even in cases of hardship. Also, interest and any applicable penalties are charged until the bill is paid in full.

My current spouse owed a lot of taxes from a prior marriage. The IRS is now trying to collect against my wages, home and bank accounts! What can I do?

The real problem here is a lack of a prenuptial agreement before the second marriage to separate assets and earnings of each spouse against possible debts of the other spouse. One solution is a written agreement, with both parties represented by attorneys, which separates the income and assets. This agreement needs to be filed with the County Recorder for the county of residence and in all counties where either party holds real property. A second resolution might be a bankruptcy of the tax delinquent spouse only, taxes are of a true type that can be discharged in a bankruptcy filing. Please refer to my brochure, “Bankruptcy and Taxes.” A final solution might be divorce or legal separation so that the non-liable spouse’s assets are no longer attachable.
I have been paying on these back taxes forever and they never seem to end.

While it seems that the old taxes never go away, eventually at the Federal Level they are no longer collectable under the statute of limitations. As a general rule, the IRS can collect back taxes for 10 years. Unfortunately, the State has a 20 year statute of limitations for tax collections. Many circumstances can extend these statures and it is best to consult a tax professional to determine the true length of any remaining statutes.

Paying the tax is enough of a burden, why should I hire someone to help me deal with the IRS and spend even more money.

In certain circumstances, the client is the best person to deal the tax problems, if they have the time and emotional energy to keep up the fight. The taxing agencies are complex, multi-layered entitles with very little real decision making authority at lower levels. Having a tax professional with the knowledge of whom to call about a specific problem will make all the difference in terms of time needed to solve a problem, thus saving the client money and a great deal of frustration.

I withheld money from my employees for their personal taxes and social security, and then used it to run my company, keeping everybody working. Now the IRS and EDD are breathing down my neck for the unpaid amounts plus interests and penalties.

As a business owner, you have to fiduciary duty to your employees for the amounts known as “Trust Fund Taxes”, monies withheld from the employee’s salaries for income taxes, social security, disability insurance, etc. Once withheld, the employer is charged with turning them over to the proper taxing authorities on a schedule set by the number of employees, amount of taxes become the personal responsibility of the business owner(s). The IRS and EDD can and will collect personally from partners, S corporation shareholders or the other responsible parties, if they cannot collect from the business itself. Most tax agencies take the position that failure to pay employment taxes is a business problem and not a tax problem.

I was audited and the IRS treated me like I was guilty until I proved to them I was innocent! America I not supposed to work like that, so why can the IRS get away with that attitude?

Part of the answer lies in basic promise of tax collection and that is the idea of voluntary compliance. Ideally, every taxpayer reports all of their income and only takes the deductions that are allowed under a very strict reading of the Internal Revenue Code (IRC), and all these taxes due are paid through withholding or estimated tax payments. For many taxpayers, particularly the self employed or small business owners, the temptation to not report cash income or inflate deduction is strong and only a tax audit (or the threat of one) will be sufficient to ensure that income is properly reported and the deductions are not abused.

The other part of the problem lies in the fact that the IRC is a very complex document an open to interpretation on many levels. What is completely reasonable for the individual as a business, expense is simply unreasonable for another, in any particular circumstances, That is judgment call, which must be made under the entire set of facts and circumstances of an audit.

While it may seem that the auditor is taking a “guilty until proven innocent” attitude, actually he or she is simply looking at the tax return as a whole and not as each individual deduction on it’s own.

As attorneys, we shudder every time we hear the unfortunate axiom; “I put my property into joint tenancy to avoid probate”. While it is quite true that property held in joint tenancy avoids probate, it invites so many other problems that the list of disasters is seemingly endless. So then, let us count the ways…

“I put my son (or daughter) as joint tenant on my home so that it does not go through probate”.

The major problem here is that now Sonny’s creditors can seize his interest in mom’s home and force a sale to pay Sonny’s debts. This cannot possibly happen because the property really belongs to mom and it was left to her by her husband so that she would have a home. The two of them struggled for 30 years to pay off the mortgage. Certainly, the mere face that she executed a simple quilt claim deed to save probate costs can’t result in her losing her home, can it? Yes, it certainly can and it often does. Of course, she won’t have to lose her home if she or Sonny can raise enough money to pay his creditor one half the value of her home. That should be simple enough, but becomes often difficult for mom.

“I put my son and daughter-in-law on my house as joint tenants years ago. She took over the finances in their family, paying all of the bills and handling all of the money. Recently, my son’s wife confessed to him that she has run up the credit cards to their limit and had not been even paying minimums. He only found out about it when he answered the telephone and it was one of their Visa’s. The person on the line informed him that they owed their bank’s Visa card over $9,000. He later found that there were many others with similar amounts. She finally confessed that she had a “minor” drug problem for the past 2 years. My son sees no way out except for filing bankruptcy. Now the Chapter 7 bankruptcy trustee has informed me that he wants me to “buy out” their interest in my home. How can this be, it was my home?”

“My mom put her home in joint tenancy with me so that I could avoid problems on her estate, now my attorney tells me that I have to pay tax on the full $185,000 sale proceeds. How can this be? I was told that the inheritance tax had been abolished years ago?”

That is true, the initiative process abolished California’s onerous inheritance tax in the 1980’s but this is not inheritance tax, it is capital gains tax on the gain in the property and the mortgage was paid off many years ago. The property appreciated, but the appreciation was not something that mom realized, as she never sold the property. Unfortunately, for Sonny, mom did not put the property in a living trust or allow it to pass through the probate; had she done so, it would have received a step up in basis and Sonny would not have been shocked to learn that a sizeable chunk of his inheritance must now go to taxes, But, remember, mom saved those probate and attorney’s fees.

“Several years ago I put my son and daughter-in-law as joint tenants on my house so that it would avoid probate. About five years ago, because of their various business interests, my son and daughter-in-law started filing separate tax returns. Although I had no idea that my daughter-in-law was not paying her taxes, she did not and now the IRS and FTB have caught up and placed tax liens on my house. What can I do about it?”

Unfortunately, it is correct when mom executed that simple quit claim deed; she transferred an interest to each of them. They can sell the interest or give it to another person; the only thing that makes certain that mom’s wishes are carried out is her trust in her son and daughter-in-law to do so.

“Several years ago, I placed my two sons and daughter on my home’s title as joint tenants. Now that it has been appreciated, I want to sell my house take the equity out, and move to a senior citizen’s community. While my older son and daughter are in favor of my desires, my younger son is not, and he refuses to sign a release. How can he do this, it is my home after all?”

“Many years ago when all of this talk about avoiding probate was in the paper, I placed my two sons and daughter on my home’s title as joint tenants. Now I am 68 years old and I have gotten myself into a terrible fix. Between the home shopping network, buying all of my grandchildren expensive gifts, and a few trips to the health spa in Scottsdale, I have gone so far into debt, that I can’t pay the minimum monthly credit card payments, my car insurance, and my prescriptions. My house has $150,000 equity and my savings are almost gone. I am living on my Social Security and on a small pension that my husband left me. Even though I am very ashamed and cannot believe that I am in this fix. I have no choice but to file a Chapter 7 bankruptcy. I could never face my sons and daughter, much less my grandchildren, with them knowing this unbelievable turn of events. My bankruptcy petition has been filed, now my bankruptcy attorney tells me that under the law, the Chapter 7 trustee must go to my children, inform them of the bankruptcy, and ask them if they want to buy out their joint tenancy interest. I am so ashamed that I am thinking of stopping taking my medication, what can I do?”

While the main consideration in selecting a guardian for your children is the love and emotional relationship that will be formed between your children and the person you select, there are other factors that should be considered.

Age

While age in itself does not determine a person’s fitness or unfitness to be a guardian, you should consider whether a particular candidate has the necessary maturity, experience, temperament, patience, and stamina to under take the responsibilities as the guardian of your children. It is generally inadvisable to appoint grandparents or other older persons as guardians of minors. Appointment of grandparents may pose twofold problem. First, they may be too old to take on the rigors of raising young children, and second, where there are two living sets of grandparents, if one is selected, the other set may feel rejected, which in turn will cause an immediate conflict and associated emotional trauma for the children at a time when your family is already in turmoil.

Interest

The individual or individuals selected should have a genuine interest in the welfare of your children, either through family relationship or personal friendship, and should be an individual in whom both you and your children have confidence. You should also consider any possible rivalries between your children and the children of the guardian. In view of the psychological blow your children will be suffering upon your death, the guardian should have some understanding of the emotional problems of children, or should be willing and able to obtain skilled guidance in this area.

Stability

Integrity and stability are essential qualities in a guardian for your children, because the guardian will have the closest contact and influence over your children. A married person is usually nominated as the guardian of the person of a minor. As stability in the marriage is important for a peaceful and secure environment for your children, you may wish to require as a condition of the nomination, that the nominee be married and living with the nominee’s spouse at the time of your death. A change in marital status, however, does not always make the person unacceptable, and a widowed or divorced nominee may still be a very satisfactory guardian.

Accommodation/Capability

The guardian should be physically able to undertake the care off an additional child or children, and should have the time necessary to devote to this task. A family with a number of children or a family in which both husband and wife work may not be the best choice. Children deprived of their parents may derive a sense of security from remaining together with their siblings. If you have more than one child, the guardian should be capable of assuming the care for all of your children, splitting your children into two or more groups may contribute more grief an despair to their lives at an already tragic time.

Personal Situation

The guardian’s personal situation may be important to you: religion, age, marital status, other children, personality traits, smoking, drinking, drug use and other similar factors. The stability of marriage should also be taken into consideration.

Finances

It is important that sufficient funds be available to cover the cost of caring for your children throughout the period of guardianship and, if the children are to live with the guardian, to enable the guardian and family to meet the increased strain on their resources of having a new person or persons added to their household. If you are not able to provide sufficient funds to cover all expenses satisfactorily, the person nominated as guardian should be in financial position to meet the balance of necessary expenses without subjecting the guardian and family to deprivation. Financial difficulties owing to your children’s arrival in the guardian’s family must be avoided to prevent resentments within the family unit.

Willingness

The individual whom you nominate must be consulted in advance so that the person’s willingness to serve can be definitely ascertained. Any alternates or successors must also be consulted. The guardian should be willing and able to give your children an upbringing similar to that which you would of provided financially, socially, morally, and in other ways important to you. Many people facing the decision of who to select as guardian want the guardian to adopt their children. If this is your desire be certain to discuss it with the nominee as well as considering the children’s possible feelings. Would they want to give up your name and their family ties to you and your family? You should also consider the financial considerations of the guardian adopting your children, i.e., the loss of Social Security and other benefits to your children.

Decision

Finally, although it is of little or no help, it might be comforting to know that this decision is one of the most difficult decisions with which a person is faced.

The Advance Health Care Directive (AHCD) is a power of attorney for health care. It is a written instrument in which one person appoints another person to act for him or her in case he or she becomes incapacitated. It was first created as Durable Power of Attorney for Health Care in 1979 and it’s governing law was greatly revised in July 2000.  It only becomes effective and legally enforceable upon the incapacity of the person signing it.  California was one of first states to recognize the need for a legal way for a person to express their wishes in advance of becoming incapacitated and to provide for the need.

While many people believe that a “Living Will” or a “Directive To Physician” purchased as a fill in the blanks form in the stationary store is sufficient to carry out their wishes during a time when they are incapacitated or undergoing a last illness, these documents may not carry the force of law, and therefore cannot guarantee that their wishes will be carried out.  Quite simply, a “Living Will” or “D.P.” can end up having no legal weight. Consequently, if a physician or relative questions the appropriateness of the signing persons wishes to be not kept alive by extraordinary means, or if the hospital declines to remove them from life support equipment because it may fear legal action, neither document will have any power.

Unfortunately, when such a situation arises, the person who has already made their wishes known to relatives and friends cannot assert these wishes in a personal manner because they are incapacitated. Their relatives and friends may have a very difficult, if not impossible, time convincing the health care providers to do so because the evidence of the person’s wishes is usually in the relative starting that “they told me that this is what they wanted or did not want.”

The AHCD takes care of this problem by establishing, with the full power of the law, a personal representative for the incapacitated person, and that personal representative has the legal authority to override any objection by the attending physician, the hospital, any other health care provider, or any relative.

The AHCD, to be valid, must be signed and either witnessed by a notary public or, if not a notary public, then by two adults meeting the following requirements.  Both witnesses must be adults, neither can be either the signing person’s health care provider, nor can they be either the operator or employee of a residential care facility for the elderly.  At least one of the relatives cannot be related to the signing person by blood, marriage, adoption, or entitled to any portion of the signing person’s estate by will or operation of law.

The personal representative or agent in the AHCD cannot be the treating health care provider or it’s employee of the residential care facility for the elderly in which the signing person is living, unless that operator or employee is related to the signing person by blood marriage or adoption.

When a person seeks out an attorney to draft an AHCD, the process should include the asking of a set of very personal questions about how the signer wants to be treated should he or she become incapacitated. There will be some hard decisions to make and they should be given a great deal of thought.  These questions will force the signer to consider many very personal ideas and it is not an easy process.  The idea is that either these issues are addressed now, thought out, and, if necessary, discussed with loved ones or your loved ones will be forced to consider these issues for you when you become incapacitated.  The question that must be addressed is whether it is fair to force your loved ones to make these decisions for you when you cannot.

An AHCD cannot be drafted for a person who is already incapacitated.  Thus it is not a tool to aid a spouse or child in caring for an already incapacitated person. The attorney cannot be acting for a spouse, an adult, child, or a relative.

If the person needing the AHCD is already incapacitated, the only legal way to obtain the same sort of authority is to petition the court to establish a conservator ship of the incapacitated person.  This is not difficult to accomplish but it does take time and does involve the intervention of the Probate Court.

The Selection of an executor and an alternate executor should be based first upon the proposed duties and second, whether the person is responsible a sophisticated enough to step into your shoes to close your estate.

  The executor is compensated for his or her work at the same rate as the attorney assisting him or her.  The basic fee schedule is set out in the California Probate Code and is 4% of the first $100,000, 3% of the next $100,000, 2% of the next $800,000, and 1% of the amount between $1M and $25M. If your estate is larger than $25M, the probate court will set the fees. These statutory fees do not include compensation for any efforts that are required to settle your estate such as the sale of real property, or the sale of stock. These are termed “extraordinary expenses” and are submitted on time spent and dollar per hour basis to the court for approval.

 You might consider whether or not the executor is also a beneficiary of the estate. If this is the case, you might advise him or her to waive the executor’s fee and allow the fee to be distributed to the executor as a bequest so that they will avoid paying income taxes on the fee, which is ordinary income. The choice of an executor should also be based upon knowledge of what is involved in the probate process.

Duties

The following items are the duties of the executor at a minimum:

• Probate of will.
• Advertise Grant of Letters.
• Inventory of safe deposit box.
• Claim for the insurance benefit.
  • Obtain Form 712 from insurance companies.
  • Determine mode of payment.
• Claim for pension and profit sharing benefits.
• Apply for lump sum Social Security benefits and VA benefits.
• Obtain and EIN for the estate from the IRS.
• Open estate checking and savings accounts.
• Write to banks for date of death value.
• Obtain valuation of securities.
• Obtain appraisal of real property and personal property and personal property.
• Obtain last 3 years of Federal income tax returns.
• Obtain last 3 years of cancelled checks.
• Obtain last five years of financials on business interests plus all relevant agreements.
• Obtain copies of all Federal gift tax returns filed.
• Obtain evidence of all debts of decedent and costs of administering estate.
• Determine if any of decedent’s last medical expenses were unpaid at death.
• Determine if the estate received any after death income taxable under Section 691 of the Internal Revenue Code.
•  Determine if there is any State pickup tax on the estate.
• Consider assessing prompt assessment of decedent’s Federal Income Taxes.
• File final Federal and State income tax returns.
• Determine whether the administration expenses and losses of the state to be claimed as an income or an estate tax deduction.
• Obtain alternate valuation date values for federal estate tax return.
• Determine whether decedent possessed any “Flower bonds”, if so, they must be tendered to the Federal Reserve within 9 months of death.
• Determine if it is beneficial to elect an extension of time to pay Federal estate or generation-skipping transfer tax.
• Determine if it is beneficial to elect for special validation on farm or business real estate.
• Determine whether to elect or not to qualify certain terminable interest property for marital deduction.
• Determine if credit exists for prior transfers.
• File Federal estate tax return and California inheritance tax return (if applicable).
• File inventory with court.
• Consider requesting prompt assessment of Federal estate tax return.
• File Federal Fiduciary income tax return.
• Consider redemption under IRC Section 303.
• Apply for any tax waivers that might be applicable.
• File accounting with court.
• Prepare a statement of proposed distribution.
• File schedule o distribution if applicable.

Most probates take between nine months and two years to complete. The person whom you select as executor will have to make several appearances in the probate court of the county in which you resided at the time of your passing. This could be prohibitively inconvenient for someone living in another part of the country.