The saying goes, “when it rains, it pours.” Unfortunately, that is often the case with bankruptcy and divorce, where one tends to trigger the other. When faced with options, it may be beneficial to evaluate whether you should file for bankruptcy before or after a divorce. However, divorce tends to be emotionally charged, leaving little room for such considerations. In such instances, where the divorce is followed by bankruptcy, the division of marital debt and obligations (i.e., the allocation of obligations and debts between the spouses) takes center stage. More specifically, the intent behind the resulting allocation of debts and obligations in a divorce is significant. Many bankruptcy-related decisions and outcomes turn on whether each debt or obligation in the equitable distribution or property settlement agreement (i.e. the separation agreement, or divorce decree), is intended to be in the nature of a “domestic support obligation” (“DSO”) or merely the result of an equitable division of assets and obligations.
This distinction between whether a debt or obligation was intended as a DSO, as defined by the Bankruptcy Code, may impact whether an individual should file a chapter 7 bankruptcy or a chapter 13 bankruptcy. It further impacts the application of two bankruptcy super powers, the automatic stay protection and dischargeability, together with other bankruptcy concerns such priority of the claim, avoidance actions, and exemptions. So what exactly is a “domestic support obligation” is the eyes of the bankruptcy courts?
What is a Domestic Support Obligation In Bankruptcy?
In general, a DSO is a debt that is owed to a spouse, former spouse, or child (or parent/guardian of such child), arising from a separation agreement, divorce decree, property settlement agreement, court order, or determination by a governmental unit, that is “in the nature of alimony, maintenance, or support” without regard to whether it is label as such in the divorce agreement or order.
The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 granted greater protections for certain divorce-related debts, which are defined by the term “domestic support obligations” or DSO under the Bankruptcy Code Section 101(14A). Hence, giving great significance to the characterization of the nature of the divorce-related debt or obligation as a DSO, as opposed to an obligation in the nature of a property settlement intended to balance the division of assets between spouses. Among the several protections that require this characterization, issues commonly arises in the context of applying the automatic stay protection (i.e. collection of a DSO during bankruptcy), the dischargeability of debts (i.e. extinguishing unpaid claims at the end of the bankruptcy), and the granting of priority status (i.e. receiving payment before other unsecured creditors).
Is the Divorce-Related Debt in the Nature of Support or Property Settlement?
In many instances, a divorce-related debt or obligation quite apparently falls under the bankruptcy definition of a DSO, a debt that is for actual support or maintenance of financial needs. These more apparent DSOs are commonly labeled as child support, spousal support, or alimony. However, complications arise where the divorce-related debt is not so obviously described, such as an obligation that on the surfaces appears to be part of a property settlement, but is, in fact, intended as a support-related obligation for the benefit of a spouse or child. Generally, if the obligation is essential to enable a party to maintain basic necessities, the payment of the debt is in the nature of support. A support obligation generally looks to the future, whereas a non-support property settlement tends to involve the division of items looking to the past.
The determination between a DSO or a property settlement obligation is fact-sensitive, case-by-case analysis conducted, usually, by the bankruptcy courts. It is a factual determination as a matter of federal law, requiring a bankruptcy court to make its own factual findings as to the nature of a debt, regardless of how it may be labeled in the divorce documents. However, the bankruptcy court may consider the state court's characterization of the obligation in the earlier divorce proceeding.
Generally speaking, whether the obligation is in the nature of alimony, maintenance, or support (a DSO), as distinguished from a property settlement obligation (non-support related), depends on the intent of the parties at the time of entering into the divorce or settlement agreement in creating the obligation and the purpose of the obligation in light of the parties circumstances at the time. If the parties intended for such obligation to arise as a result of a property settlement or division, then the obligation is not a domestic support obligation. Thus, the bankruptcy court must look beyond the language of the divorce or settlement agreement to the intent of the parties and to the substance of the obligation.
The Third Circuit (which includes New Jersey) provides guidance in determine whether a marital obligation is in the nature of support, including (i) examining “the language and substance of the agreement in the context of surrounding circumstances, using extrinsic evidence if necessary,” (ii) in “ascertaining the parties intent [look to] the parties’ financial circumstances at the time of the settlement,” and (iii) “examine the function served by the obligation at the time of the divorce or settlement.” [1] The Third Circuit further provides that "an obligation that serves to maintain daily necessities such as food, housing and transportation is indicative of a debt intended to be in the nature of support."
Factors Considered in a DSO Determination
Bankruptcy courts in making a DSO determination consider many factors, including, but limited to the following:
(1) the amount of alimony, if any, awarded by the state court and the adequacy of any such award;
(2) the need for support and the relative income of the parties at the time the divorce decree was entered;
(3) the number and age of children;
(4) the length of the marriage;
(5) whether the obligation terminates on death or remarriage of the former spouse;
(6) whether the obligation is payable over a long period of time;
(7) the age, health, education, and work experience of both parties;
(8) whether the payments are intended as economic security or retirement benefits;
(9) the standard of living established during the marriage;
(10) the express language of the divorce agreement;
(11) the relative financial positions of the parties at the time of the agreement;
(12) the amount of the property division;
(13) the number and frequency of payments;
(14) whether the agreement includes a waiver of support rights;
(15) whether the obligation can be modified or enforced in state court; and
(16) whether the obligation is treated as support for tax purposes.
Conclusion
The significance of determining whether a divorce-related obligation is intended in the nature of support, or merely the outcome of a property settlement, is often critical in a bankruptcy case. The matter is further complicated by the very “horse-trading” like nature of divorce settlements. Other times the answer is not as obvious if the intention of the parties is not apparent in the divorce or settlement agreement. The DSO determination is substantial, especially in considering whether to file under a chapter 7 or chapter 13 bankruptcy, or when dealing with the dischargeability of divorce-related debts, or in the enforcement of divorce-related obligations during the pending bankruptcy. In fact, it could mean the difference between having a debt wiped clean, or being forced repay the debt in its entirety.
If you are considering bankruptcy involving some form of a support obligation or divorce-related debt, it is important to consult experienced legal counsel that can provide clear options and the associated implications. The Scura Law Firm can help you navigate your options and avoid potential pitfalls. Call one of our experienced attorneys for a free consultation today!
[1] In re Gianakas, 917 F.2d 759, 762 (3d Cir.1990)
