Bankruptcy & Inheritance – Who Keeps the $$$$$?

Upon bankruptcy, divisible property, which includes but is not limited to a bankrupt’s  house, shares, vehicles in excess of the threshold amount,  vest in the bankrupt estate for the benefit of creditors.

Additionally, after acquired property vests as soon as it is acquired by or devolves on the bankrupt.

The two most common examples of after acquired property are:

  • An interest in a deceased estate, and
  • Lotto / Gambling wins.

A further example is where a bankrupt accumulates funds from their post bankruptcy income, whether such income was subject to compulsory income contributions or not. Where the accumulated income maintains its original character, i.e. cash at bank, it is not available to creditors. However, where the accumulation of income is used to purchase a class of assets, e.g. shares, its nature has changed and these shares are considered after acquired property available to the trustee for the benefit of creditors.

The standard period of a bankruptcy is three years. If a bankrupt is named as a beneficiary in a will of a person who passes away during the period of bankruptcy, the inheritance vests in the bankrupt estate.

Whilst a bankrupt may think that by not disclosing this inheritance it will keep it out of the reach of their trustee and creditors, to do so is fraught with danger. Non disclosure and concealment is an offence and the penalty ranges from a fine to imprisonment.

Many advisors plan for all scenarios – but timing is of the essence. Upon the passing of the deceased it is too late to change the will.

Life tenancies can be created in a property. This can delay a bankruptcy trustee from realising a property inherited by a bankrupt from being sold until the occupant to whom the life tenancy has been granted, vacates the property. Ultimately however, when this occurs, the property which vested at the date it was inherited will be sold by the trustee. In the event that there are multiple beneficiaries, it is often prudent for the non bankrupt beneficiaries to negotiate with the bankruptcy trustee to acquire the bankrupt estate’s interest in the property.

A testamentary trust is a trust created by a person’s will which does not come into effect until the person dies. Upon death the terms of the will causes the testamentary trust to be created and the assets of the deceased estate will be transferred to the testamentary trust in accordance with the will. Generally speaking, for estate planning purposes, a testamentary trust is a discretionary trust, allowing its trustee to have full discretion regarding distributions.

In summary

  • If a person dies and one of their beneficiaries is bankrupt at that time, the bankrupt beneficiary’s inheritance is after acquired property that vests in their bankrupt estate. The inheritance is not protected and would be used to satisfy the beneficiary’s creditors.
  • However, if on the deceased’s death the assets were held in a testamentary trust, then as the assets are not owned by the bankrupt beneficiary, they are not available to the bankrupt’s creditors.

There are further asset protection benefits afforded by testamentary trusts and you are encouraged to discuss your will or the wills that may provide you with an inheritance with your advisors.