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Community Property and
the Bankruptcy Estate

This discussion of community property is from “Overview of Arizona Divorce Principles for Bankruptcy Practitioners” by John McKindles

John McKindles

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Table of Contents

A. Community Property

B. Separate Property

C. Liability for Debts of Spouse

D. Jurisdiction to Control and Dispose of Community and Separate Property Assets

E. Jurisdiction to Determine Separate Property Rights

F. Jurisdiction Over Allocation and Disposition of Debt

G. ERISA Retirement Plans and the Bankruptcy Estate

H. Community Property and the Bankruptcy Estate

I. Priority of Past Due Support Over Other Creditors

J. Protection of Dissolution and Lien Rights

K. Advisability of Joint Bankruptcy Filing and Conflict of Interest Problems

L. Impact on Future Community Property Interests

M. Impact of Discharge on Secured Debts

Mesa divorce and community property attorney John McKindlesThe debtor’s interest in community property is a part of the bankruptcy estate, consonant with 11 USC § 541(a)(2). Also, please see Flexmaster Aluminum Awning Co., Inc. v. Hirschberg (Ariz. App. Div.1 1992) 173 Ariz. 83, 839 P.2d 1128.

Further, the Bankruptcy Courts are compelled to look to the state property law in order to determine the extent of the property which is to be included in the bankruptcy estate. In Re Mantle, 153 F.3d 1083, Bankr.1.REP. (C.A. 9, 1998). The case goes on to state that all community property not yet divided by a state court at the time of the bankruptcy filing is property of the bankruptcy estate.

In the Flexmaster case, a creditor brought a claim against both a husband and wife on the basis of a debt incurred by the husband prior to marriage. The husband filed the petition for bankruptcy. The wife moved for summary judgment, which was granted by the court. The Court of Appeals reversed, holding that if the husband’s debt was discharged in bankruptcy, no debt existed for which the community was liable; but the creditor was required to include the non-debtor spouse in the action in order to establish the limited liability of community property for the separate premarital debt, since the non-debtor spouse’s interest in community property essen­tially included the right to litigate both the premarital debt and the value of the debtor spouse’s contribution to the community which might be subject to collection. The court cited A.R.S. § 25­215 in this regard. Generally, property of the bankruptcy estate includes all community property of the married couple, even if only one of the couple files for bankruptcy. The only exception to this would be property which is otherwise exempt from execution by creditors under the Arizona Homestead Exemption Statutes. A.R.S. § 33-1101 et seq. If both spouses file, each spouse is entitled to the homestead exemption allowances in the full amount, except for the residence exemption itself

The Bankruptcy Court obtains jurisdictional authority to exercise administration, possession and control over the whole of the community estate, not just the debtor spouse’s one-half share of that estate, if only one of the couple files bankruptcy. The non-debtor spouse essentially stands in the shoes of a creditor to the estate and the Bankruptcy Code supersedes the statutory management and control provisions of A.R. S. § 25-214, together with the automatic preliminary injunction which is issued by the Superior Court at the divorce commencement.

Unless a “Lift Stay” order is issued from the Bankruptcy Court specifically authorizing an action to proceed, the divorce proceeding is stayed, with certain exceptions. The Superior Court, once the stay has been lifted, resumes control over the termination of the marriage, care, custody (officially termed "decision-making authority") and control of the minor children and the division of exempt property. Any other ruling regarding property distribution and debt allocation must necessarily abide the Bankruptcy Court’s jurisdiction and termination of its control over those issues. As a practical matter, the Superior Court judges will routinely place a divorce action on the inactive calendar for dismissal once notification of the filing of bankruptcy has been filed with the Superior Court.

Even if the “Lift Stay” order is secured from the Bankruptcy Court, unless it holds other­wise, the divorce court during the pendency of the bankruptcy proceeding does not axiomatically receive authority to enter orders concerning any property of the bankruptcy estate, including non­exempt community property of the bankruptcy estate.

Certain exceptions to the automatic stay include the collection of alimony, maintenance or support from property that is not property of the estate and the commencement or continuation of an action for establishment of paternity or modification of an order for alimony, maintenance or support.

Any act taken in violation of the stay subjects the acting party to sanctions under 11 USC § 362(h) and any orders entered by the Domestic Relations Court during this pendency would be void. However, an action pending to enforce child support which was pending at the time of fil­ing bankruptcy is not stayed under 11 USC § 362(b)(2), except to the extent that access is sought to property of the estate.

Post-petition wages earned by a Chapter 7 debtor are not property of the estate and con­sequently the stay would not affect the enforcement of child support order against post petition wages. However, there are some exceptions to this, regarding earnings of certain professionals.

The automatic stay also does not apply to prevent enforcement of pendente lite orders so long as they are in the nature of support.

Again, the practitioner may be compelled to do some persuading of the Family Court Judge to hear any actions without obtaining a lift stay order, given the penchant by the Superior Court toward simply shifting the case to the inactive calendar.

There is still some question as to whether the debtor spouse may continue to pursue the Superior Court Domestic Relations matter without first requesting Stay Lift.