California Court Allocates Community Property in Light of Bankruptcy Discharge

In divorce proceedings, California courts generally have the authority to divide the community estate equally between the spouses. The community estate includes assets and debts that have been accumulated throughout the marriage, with certain limited exceptions. As one can imagine, there are many factors that can complicate this stage of the process, such as disputes over the character of alleged “marital” property. Another issue concerns the effect of a bankruptcy filing by one of the spouses: what then happens to the remaining assets? Are they still divided evenly? For any questions concerning the division of marital assets, you are strongly encouraged to seek the guidance of an experienced San Diego family law attorney as early as possible in the proceedings.

In a recent divorce case, the wife filed for Chapter 7 bankruptcy protection in 2007, a year after the parties filed for divorce. As part of the filing, the wife listed the jointly held family residence – known here as the Westminster property. The home was valued at $400,000 with almost $300,000 in the following secured claims: 1) a first trust deed for $195,009, and 2) a second trust deed in the amount of $103,000 held by State Farm Bank. As part of the Chapter 7 filing, the bankruptcy court granted the wife a discharge from her debts. In 2013, the sale of the Westminster home resulted in a net amount of $176,580 (after payment of closing fees and the secured loans).

She sought an order to distribute the proceeds from that sale, but not in equal amounts. She claimed that since she was not responsible for the debt owed to State Farm Bank, due to her bankruptcy discharge, she should receive a larger portion of the proceeds. She argued that $47,844 should be taken from her husband’s share and added to hers. The trial court agreed and granted the wife’s motion and awarded her $134,096 and her husband $42,490. The husband appealed.

The issue on appeal was whether the bankruptcy law bars the equal distribution of proceeds of the Westminster home because it would, essentially, enforce the Bank’s debt against the wife after her Chapter 7 discharge. The court reviewed the purpose and structure of Chapter 7, pointing out that the law provides a method for insolvent debtors to create a fresh start, without their preexisting debt. One section of the bankruptcy code suggests that all community property in a marriage is deemed property of the “estate,” even in cases where one spouse files for bankruptcy. Under established law, the court pointed out that “perfected liens” and other secured interests (like the State Farm Bank claim) pass through bankruptcy unaffected. The court concluded that the only effect of the discharge of the wife’s debt with respect to the Westminster property was to take away the Bank’s right to pursue the wife personally for the amount owed. Therefore, the lien was still in place against both spouses even after the bankruptcy discharge.

The court reversed the lower court’s decision, concluding that the distinction between secured and unsecured debt affects the outcome of this case. Under community property principles, the spouses must bear the burden of the secured debt equally. The court concluded that such a result is “wholly consistent with the Bankruptcy Code.”

This case nicely and clearly illustrates the complications that can arise during a divorce proceeding. This is just one area where it helps to know and understand the laws affecting your case. For help with your divorce, it is important to contact an experienced attorney. Roy M. Doppelt has been representing parties involved in family law disputes for more than 20 years. Our office serves clients throughout Southern California, including San Diego, Encinitas, La Jolla, and Chula Vista. For a free consultation, contact Doppelt and Forney, APLC through our website, or give us a call toll-free at (800) ROY IS IT (769-4748).

Related Blog Posts:

California Court Identifies Two Approaches to the Division of Community Property

California Supreme Court Reviews Community Property Statute in Divorce Case

California Court Reviews State Laws Affecting “Transmutation” of Separate Property in Divorce

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