Pursuing Marital Property Before and After Dissolution of Marriage.
You just obtained a whopping judgment for your client against XYZ Corporation, which promptly closes its doors. Fortunately, your client was prudent enough to obtain the personal guarantee of XYZ’s principal, Harry, and you have judgment against him as well. Your friendly real estate professional values Harry’s modest Santa Barbara residence in seven figures, but the property profile you obtain reveals that title is currently held by his spouse, Wanda. You record an abstract of judgment naming Harry and the Corporation as judgment debtors. Fortunately for you and your client, Family Code § 910 provides that a non-debtor spouse’s share of community property is liable even if he or she is not a party to the debt or the judgment. Recording the judgment against Harry probably stops a title company from insuring title and effectively prevents sale of the property. Once your lien is in place, several factors will affect your ability to levy upon and force the sale of the property to satisfy your client’s judgment.
WAS THERE A FRAUDULENT TRANSFER?
The primary weapon in your arsenal is the Uniform Fraudulent Transfer Act (UFTA), which allows you to set aside fraudulent conveyances made within the last four years (or one year from discovery, if later, up to a maximum of seven years after the transfer). CC § 3439.09.
There are two types of fraudulent transfers which may be set aside, those based upon actual fraud and those based upon constructive fraud. Each type has different elements of proof. Actual fraud results from a transfer intended to harm existing or future creditors, regardless of fair consideration or resulting insolvency. While it is often difficult to find direct evidence of actual fraud, it may be presumed from circumstantial evidence, Aggregates Associated, Inc. v. Packwood (1962) 58 Cal2d 580, 588, 25 Cal Rptr 545, and the standard of proof is preponderance of the evidence. Liodas v. Sahadi (1977) 19 Cal3d 278, 291-292, 137 Cal Rptr 635. Factors commonly considered by the courts when determining whether there is sufficient circumstantial evidence to establish actual fraud are those such as whether a confidential relationship exists between the parties, whether the property transferred represents a significant portion of the transferor’s assets, whether the transfer renders the transferor insolvent, and whether there was fair consideration given for the transfer. The latter two factors are not necessary for a finding of actual fraud, but, if they exist, may be considered circumstantial evidence of an improper transfer. If the transfer to Wanda was recent, if the residence was Harry and Wanda’s primary asset, and if Harry received nothing of value in return, your chances of setting aside the transfer based on actual fraud are excellent.
The most common form of constructive fraud is a transfer lacking fair consideration which renders the debtor insolvent. Only creditors existing at the time of transfer are protected. Insolvency is determined as of the time of the transfer. The significant difference between actual and constructive fraud is that once proof of insolvency and lack of reasonably equivalent value are established, constructive fraud is presumed to exist, regardless of any fraudulent intent on the part of the transferor. Stearns v. Los Angeles City School Dist. (1966) 244 Cal App2d 696, 727, 53 Cal Rptr 482. If the recent transfer to Wanda left Harry unable to pay his bills, you may be able to establish constructive fraud as well as actual fraud.
Another bonus: in 2003 the Supreme Court determined that a fraudulent conveyance action, since it seeks to void “transfer of title of specific real property,” supports the filing of a lis pendens under CCP § 405 et seq. Kirkeby v. Superior Court (2004) 33 Cal4th 642. You file a Notice of Pendency of Action to make sure that no reputable title company will insure a transfer.
HOW WAS TITLE HELD PRIOR TO TRANSFER?
You want a free bite of the discovery apple before you file your fraudulent transfer action, so you set up an Order For Appearance and Examination (Debtor’s Exam) on Wanda under CCP § 708.020 as “a third person who has possession of control of property belonging to the judgment debtor.” The marital privilege does not apply in such a proceeding. CCP § 708.130(b). Furthermore, if you describe the real property in the application, service of the order on Wanda creates a lien on the residence.
You are hoping to learn that title to the residence was held by Harry and Wanda as community property prior to the transfer to Wanda. If so, your fraudulent conveyance action will seek recovery of the entire community property interest in the residence. If instead it was held in joint tenancy, Harry and Wanda each held their interest as separate property before Wanda acquired sole title, and her separate property interest, under Family Code § 913(b)(1), is not responsible for Harry’s debt incurred during marriage. Family Code § 2581 to the contrary, which states that property acquired during marriage in joint tenancy is presumed to be community property, applies only “for the purpose of division of property on dissolution of marriage…” and provides no assistance to general creditors. In the event Harry and Wanda held title as joint tenants prior to the transfer of Harry’s interest to Wanda, Wanda’s separate property interest may be immune from your fraudulent transfer attack. Whether the property was acquired in joint tenancy, whether the transfer into joint tenancy occurred within the fraudulent transfer statute of limitations and whether the XYZ debt, or other substantial debts, existed at the time of the transfer may all be important issues.
HAVE HARRY AND WANDA SPLIT UP?
If Harry and Wanda have dissolved their marriage, they may have obtained the Family Law court’s approval of a marital settlement agreement which allocated the family residence to Wanda. Prior to 2003, it was undecided whether Family Code § 916, which protects property transferred to a spouse incident to a divorce from the debts of the other spouse, prevented a fraudulent transfer attack on property allocated by a court approved marital settlement agreement. Fortunately for your creditor client, the Supreme Court determined in Mejia v. Reed (2003) 31 C4th 657, 3 CR3d 390, that the UFTA applies to property transfers made pursuant to a marital settlement agreement. The same rule applies as well to transmutations of property which occur during marriage. Family Code § 851. See, e.g.., Marriage of Haines (1995) 33 CA4th 277, 39 CR2d 673.
WHAT ABOUT BANKRUPTCY?
You have all your liens in place, and you receive Harry’s Chapter 7 bankruptcy notice in the mail. His filing may substantially reduce your ability to enforce the XYZ judgment, especially if he and Wanda held title as joint tenants prior to the transfer to Wanda. First, your liens, if established within 90 days of the bankruptcy filing, will likely be avoidable as preferences under 11 U.S.C. § 547(b). Next, bankruptcy caselaw confirms that if marital real property is held in joint tenancy, the debtor spouse holds his or her undivided interest as separate property. In re Rhoads, 130 B.R. 565 (Bankr.C.D.Cal.1991); In re Reed, 940 F.2d 1317 (9th Cir.1991). Fortunately for your client, the bankruptcy courts have determined that when determining the amount of equity available for creditors, the secured debt is deducted from gross proceeds of sale rather than from the proceeds of debtor’s one-half interest (see, In re Reed, supra), but the bad news is that the entire homestead deduction is allocated against the debtor’s one-half share. The negative effect on your collection efforts can be significant. If we assume Harry and Wanda’s home is held in joint tenancy and worth $1,000,000, with a total encumbrance of $800,000, Harry’s half amounts to $100,000. After deducting his homestead exemption, which is likely $75,000, but can be as much as $150,000 if Harry is over 65 or disabled (CCP 704.730), the amount of equity remaining is hardly enough to justify a forced sale. It’s time to review the circumstances of the transfer into joint tenancy in hopes that you can find grounds to set it aside as a fraudulent transfer. If you are unsuccessful, you will be stuck trying to satisfy the XYZ judgment from any corporate assets you can locate.
In order to effectively enforce a judgment against marital property, a creditor must examine the interplay between the Family Code and the UFTA to determine whether any title transfers may be set aside as fraudulent conveyances. If so, the likelihood of successful collection will be further enhanced if title to real property is held as community property rather than in joint tenancy.