Another wormhole

Proposed Law on Bankruptcy Has Loophole By GRETCHEN MORGENSTERN Published: March 2, 2005 The bankruptcy legislation being debated by the Senate is intended to make it harder for people to walk away from their credit card and other debts. But legal specialists say the proposed law leaves open an increasingly popular loophole that lets wealthy people protect substantial assets from creditors even after filing for bankruptcy. The loophole involves the use of so-called asset protection trusts. For years, wealthy people looking to keep their money out of the reach of domestic creditors have set up these trusts offshore. But since 1997, lawmakers in five states - Alaska, Delaware, Nevada, Rhode Island and Utah - have passed legislation exempting assets held domestically in such trusts from the federal bankruptcy code. People who want to establish trusts do not have to reside the five states; they need only set their trust up through an institution in one of them. "If the bankruptcy legislation currently being rushed through the Senate gets enacted, debtors won't need to buy houses in Florida or Texas to keep their millions," said Elena Marty-Nelson, a law professor at Nova Southeastern University in Fort Lauderdale, Fla., referring to generous homestead exemptions in those states. "The millionaire's loophole that is the result of these trusts needs to be closed." Yesterday in Washington, Republicans in the Senate beat back the first in a series of Democratic amendments aimed at softening the effects of the bankruptcy bill on military personnel, and the majority leader of the House vowed to get quick approval of the bill if the Senate did not significantly alter it. "We will grab hold of it just like we did class action if it is a good and clean bankruptcy reform bill," said Representative Tom DeLay, a Texas Republican, referring to the quick action the House took last month on a measure limiting class-action lawsuits. The Senate bill is favored by banks, credit card companies and retailers, who say it is now too easy for consumers to erase their debts through bankruptcy. ... "This is just a way for rich folks to be able to slip through the noose on bankruptcy, and, of course, the double irony here is that the proponents of this bill keep pressing it as designed to eliminate abuse," said Elizabeth Warren, a law professor at Harvard Law School. "Yet when provisions that permit real abuse by rich people are pointed out, the bill's proponents look the other way." ... Money held in asset protection trusts can elude creditors because federal bankruptcy law exempts assets governed by "applicable nonbankruptcy law." Intended to preserve rights to property under state law, the exemption makes it difficult for creditors to get hold of assets that they would not be able to seize through a nonbankruptcy proceeding in state court. Asset protection trusts have become increasingly popular in recent years among physicians, who fear large medical malpractice awards, and corporate executives, whose assets are at greater peril now because of new laws. The Sarbanes-Oxley legislation, for example, requires chief executives and chief financial officers to certify that their companies' financial statements are accurate; anyone who knowingly certifies false numbers can be fined up to $5 million. In addition, under Sarbanes-Oxley, executives may have to reimburse their companies for bonuses or other incentive compensation they received if their company's financial reports have to be restated in later years. ... In some ways, asset protection trusts are similar to the homestead exemption that keeps homes in Florida, Texas and other states out of the reach of creditors. But the bankruptcy law now under consideration limits this exemption to $125,000 for those who purchased the home within 40 months of their bankruptcy filing or for those who have committed securities fraud.