What happens to a bankrupt’s property?
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Property that can be taken by the trustee is called ‘divisible property’. This includes houses, land, and motor vehicles worth over $9400 (as at September 2024). The general rule is that all property owned by the bankrupt at the time of the bankruptcy, or acquired during the bankruptcy, is divisible or ‘vests in’ the trustee (Bankruptcy Act s 116(1)(a)). This means that the trustee becomes the legal owner of the property and has a duty to sell the property so that the proceeds can be distributed to creditors. The trustee will also sell any part share that the bankrupt has in jointly owned or mortgaged property.
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Section 116(2) of the Bankruptcy Act and Part 6 division 3 (Property available for payment of debts) of the Bankruptcy Regulations list the property that the trustee cannot take from a bankrupt. Non-divisible property includes:
necessary household property (e.g. beds, fridges);
property the bankrupt uses to earn income, such as tools of trade, plant and equipment, professional instruments and reference books of the bankrupt to the value of $4350 (as at September 2024), and such other items of the same nature as the creditors or the court might allow;
one or more motor vehicles that do not exceed the value of $9400 (as at September 2024) to ensure that the bankrupt has transport during the bankruptcy. This is the auction value of the vehicle. If the vehicle is worth more than this, the trustee can take the vehicle but must refund the bankrupt $9400;
the interest of a bankrupt in a regulated superannuation fund, or a payment from such a fund received on or after the date of bankruptcy, if the payment is not a pension;
the proceeds of certain damages claims for compensation, and any property purchased with the proceeds of such a claim;
policies of life insurance or endowment assurance in respect of the life of the bankrupt or the bankrupt’s spouse, or the proceeds of such policies that are received on or after the date of bankruptcy;
the amount of money a bankrupt holds in a retirement savings account (RSA), as defined in the Retirement Savings Accounts Act 1997 (Cth) (‘RSA Act’), and any payment to a bankrupt from an RSA received on or after the date of bankruptcy if the payment is not a pension;
money paid by way of loan or grants through certain government rural support schemes, generally where the money was for household support or rehabilitation;
a payment to the bankrupt under a payment split under Part VIIIB (Superannuation Interests) of the Family Law Act 1975 (Cth) (‘FL Act’) where the eligible superannuation plan involved is a regulated superannuation fund or an RSA and the payment involved is not a pension under the Superannuation Industry (Supervision) Act 1993 (Cth) or the RSA Act; and
any property that, under an order under Part VIII (dealing with property and maintenance) of the FL Act, the trustee is required to transfer to the spouse of the bankrupt.
Market value of divisible property
When considering whether to seize and sell certain assets, the trustee must have regard to the costs of seizing and selling the asset in relation to the item’s value (e.g. Bankruptcy Regulations reg 27(4)(e)). The trustee must also have regard to any special or health or medical needs of members of the bankrupt’s household and whether the property is reasonably necessary for the functioning of the bankrupt’s household (reg 27(4)(b)(d)).
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The trustee can take any divisible property the bankrupt acquires after the date of becoming bankrupt and before being discharged. This might include:
property given to the bankrupt;
property won by the bankrupt;
property inherited by the bankrupt; or
mortgaged goods paid off during bankruptcy.
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Can a mortgagee sell a security property if the bankrupt does not default on loan payments?
No. A mortgagee retains its right to sell the mortgaged property or goods if the bankrupt defaults under the mortgage during the period of the bankruptcy. However, there must be a default: the Bankruptcy Act prevents a mortgagee from selling property simply because a debtor becomes bankrupt (s 302).
If there is a mortgagee sale, the proceeds will go first to pay the debt owing to the mortgagee. If any money is left over, it will be claimed by the trustee to pay the creditors in the bankruptcy.
Can a trustee sell a security property even if the bankrupt does not default on loan payments?
Yes. Whether or not the bankrupt defaults on loan payments, the trustee can sell mortgaged goods or land if the bankrupt has sufficient equity in them. Equity equals the market value of property minus amounts owed to mortgagees. If the equity is so low that the trustee is not interested in repossession, a bankrupt can keep the mortgaged goods so long as payments to the creditor are maintained.
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The trustee is only likely to claim jewellery, antiques and collections of significant value and does not claim the average wedding or engagement ring.
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A bankrupt can keep trophies and awards that are described in the Bankruptcy Regulations. At present, the Bankruptcy Regulations protect sporting, cultural, military or academic awards made to the bankrupt in recognition of their performance (Bankruptcy Act s 116(2)(ba)(ii); Bankruptcy Regulations reg 28).
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Closing bank accounts
The trustee is entitled to claim money held by the bankrupt in accounts with banks, building societies, etc. In general, the trustee will not close the bankrupt’s bank accounts or stipulate how many accounts the bankrupt can keep open.
If a bank is a creditor in the bankruptcy, a bankrupt could close any old accounts with that bank in order to prevent the bank from attempting to freeze accounts or set off debts.
How much can a bankrupt keep in a bank account?
While all the money in the accounts of a bankrupt vests in the trustee upon bankruptcy, the trustee ‘may make such allowance out of the estate as he or she thinks just to the bankrupt, the spouse or de facto partner of the bankrupt or the family of the bankrupt’ (Bankruptcy Act s 134(1)(ma)).
This means that the trustee may allow the bankrupt to keep some monies in a bank account that are necessary for normal living expenses. If there is money set aside for a specific expense, such as rent, the bankrupt should either make this clear to the trustee or withdraw the money and pay the bill before entering into bankruptcy.
Closure or freezing of account by trustee or bank
If a trustee fails to provide the bankrupt with sufficient funds for living expenses, the bankrupt should contact AFSA which may investigate the matter.
If a bank follows Bankruptcy Act section 125 and freezes its bankrupt customers’ funds (including Centrelink payments) on being advised of the bankruptcy, the bankrupt should give their trustee the account number and the bank’s contact number so the trustee can instruct the bank to unfreeze the funds.
Withdrawing money from bank accounts before bankruptcy
It is not advisable to transfer money to another account or withdraw it before bankruptcy in an attempt to hide the asset from the trustee. Concealing or removing property that is valued $20 or more in the 12 months before bankruptcy is a criminal offence (Bankruptcy Act ss 265(4)(a), (7)). The trustee has the right to investigate the matter and claim the money even if it is not in the bankrupt’s name at the time of the bankruptcy.
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A bankrupt can keep a motor vehicle if their equity in the car does not exceed $9400 (as at September 2024) or more if the court or creditors agree. The bankrupt must use the vehicle primarily for transport. Therefore, if the vehicle is unregistered and just sitting in the garage, the bankrupt will not be able to keep it. If the vehicle is worth more than $9400, the trustee can sell it but must return $9400 to the bankrupt (Bankruptcy Act s 116(2C)).
A bankrupt can keep a mortgaged car provided:
they do not default on payments; and
the equity in the car is so low that it is not commercially practicable for the trustee to seize and sell the car.
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Superannuation received after the date of bankruptcy
In general, the trustee cannot claim superannuation contributions received on or after the date of bankruptcy if the payment is a lump sum. If the payment is a pension, it will be treated as income and the trustee can claim it.
However, trustees are empowered to claw back (reverse) contributions to an eligible superannuation plan made by a person who later becomes bankrupt. This can occur in circumstances where, for example, the property would probably have become part of the bankrupt’s estate, or would probably have been available to creditors if the property had not been transferred and the bankrupt’s main purpose in making the transfer was to defeat creditors by preventing the property becoming divisible among the creditors (Bankruptcy Act s 128B). Section 128C extends this power to contributions made by a third person for the benefit of the bankrupt.
Superannuation received before bankruptcy
The trustee can claim superannuation contributions received by a debtor before the date of bankruptcy.
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The trustee cannot seize:
damages money that the bankrupt has received for a personal injury; or
any property bought with, or substantially the whole property bought with, damages money.
If the trustee sells property and the bankrupt has used damages money to pay some (but not substantially the whole) of the property’s purchase price, the trustee must pay the bankrupt ‘so much of the proceeds of realising the property as can be fairly attributed to the protected [compensation] money’ (Bankruptcy Act ss 116(2)(g), 116(4)).
Pain and suffering vs loss of income component of damages
Courts will not:
split personal injury damages into separate amounts for pain and suffering and income loss;
allow a trustee in bankruptcy to claim the loss of income component of the damages amount paid to a bankrupt. As long as the damages are awarded on a claim for personal injury rather than property, the whole amount of a damages payment is protected by Bankruptcy Act section 116.
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While valuable art collections or antiques will vest with the trustee, the Official Receiver (AFSA) will not claim assets that would be considered normal household property. (For a list of items a bankrupt can keep, see Bankruptcy Regulations reg 27; and ‘Warrant to seize property’ in Chapter 5.2: Are you in debt?)
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Payment of claims
Insurers cannot refuse to pay a claim just because the insured person goes bankrupt. Section 54 of the Insurance Contracts Act 1984 (Cth) requires the insurer to pay a claim if the insured’s conduct did not cause or contribute to the loss. Most insurance claims relate to damage to a house, car or person and have no connection with any conduct leading to bankruptcy.
Cancellation of a policy
Insurers cannot cancel a policy just because a person becomes bankrupt unless the policy has a specific term allowing this to be done.
Note that bankruptcy may make it difficult to obtain or renew some types of insurance policies.
Refusal to cover
Some insurers automatically refuse new applications from bankrupts for insurance coverage. This can be a particular problem for tradespeople who need public liability insurance to work.
If an insurer refuses a claim or cancels a policy
If an insurer does refuse a bankrupt’s claim, or cancels a policy on the sole ground that the insured is a bankrupt without there being a specific term in the contract, the bankrupt should lodge a complaint with the Australian Financial Complaints Authority.
Houses and land
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A trustee can sell a bankrupt’s house or land whether or not it is secured by a mortgage.
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A creditor who holds a mortgage over the property can sell the property without the trustee’s consent if mortgage payments fall into arrears.
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In general, after payment of loans that are secured by a mortgage over the house, legal fees and selling expenses, the proceeds of sale are divided between any joint non-bankrupt owners and the trustee.
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The trustee will not take action to sell property if the bankrupt has no equity in the property. However, the trustee might still lodge a caveat (a statutory injunction) on the title even where there is no equity.
Equity in the property might increase during the time allowed to the trustee to sell the property due either to increases in property values or to payments made by the bankrupt or another person.
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While the trustee generally has an obligation to sell any property, the trustee might choose not to sell property immediately if the bankrupt’s equity (share) is not valuable enough to leave any surplus for the creditors after paying expenses and the trustee’s costs. In such a case, the trustee may be happy to accept an offer from a friend or relative of the bankrupt to purchase the bankrupt’s share.
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WARNING: The trustee retains the power to sell the property even after the bankrupt is discharged. The trustee has this power of sale even if a bankrupt had no equity in the property at the time of bankruptcy, but later builds up significant equity – for example, due to increases in land values.
The trustee has the power to make a claim on any equity that the bankrupt might have in the property for a certain period of time after the bankrupt is discharged (Bankruptcy Act ss 127, 129AA(3)). The length of time available to the trustee to make a claim is:
for property disclosed in the statement of affairs – six years after discharge;
for property acquired before the bankruptcy and not disclosed in the statement of affairs – 20 years from the date on which the person became a bankrupt;
for property that is acquired after the bankruptcy and disclosed to the trustee prior to discharge – six years after discharge; and
for property that is acquired after the bankruptcy and disclosed after discharge – six years after disclosure.
The trustee can extend the six-year period referred to above by giving the bankrupt written notice within the six-year period. The notice can extend the period for up to three years. There is no limit on the number of extension notices that a trustee might give.
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Depending on the facts, a discharged bankrupt might be able to defeat a trustee’s claim for equity built up in a property after bankruptcy.
For example, if the trustee allowed bankrupts with no equity in their property to remain in the property without properly explaining to them that the trustee could later claim the property, the trustee’s behaviour may amount to a representation that the trustee was no longer interested in the property and had abandoned it to the bankrupts.
Family Court issues
Where a bankrupt is involved in family law property or maintenance (financial support) proceedings, the FCFCOA must, on the application of the trustee, join the trustee to the proceedings if the court is satisfied that the interests of the bankrupt’s creditors may be affected by the proceedings (see FL Act pt VIII). Once the trustee becomes a party to the proceedings, the bankrupt is not entitled, to make any submissions in relation to any property that is vested with the trustee without the court’s consent (see FL Act pt VIII). The court is required to consider the effect of any proposed order on the creditors’ ability to recover a debt when making family law property orders.
Where a person becomes bankrupt after the finalisation of family law property or maintenance orders, the trustee may also apply to vary or set aside those orders (FL Act s 79A).
A bankrupt is obliged to tell the trustee if they are involved in family law property or maintenance proceedings. They must also disclose to the trustee any family law property or maintenance orders that they have been a party to.
The above information also applies to a person who has entered into a PIA under Part X of the Bankruptcy Act.
Non-bankrupt spouse contributed more than 50 per cent of sale price and/or mortgage repayments
Get advice, as the non-bankrupt spouse might be able to claim more than 50 per cent of the property.
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The trustee cannot sell a bankrupt’s house if:
the bankrupt bought the house with ‘protected money’; or
the house is subject to a Defence Service Homes Mortgage.
‘Protected money’ is defined in section 116(2D) of the Bankruptcy Act to include money received as damages for personal injuries, money received through a rural adjustment scheme and superannuation money received after the date of bankruptcy (subject to the regulations referred to above under ‘Superannuation’).
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Jointly owned property
If there is jointly owned property (e.g. a joint bank account) the trustee will try to find out the contribution to the property and then claim the proportion contributed by the bankrupt.
Property in the sole name of the non-bankrupt spouse
Where the bankrupt has made no contributions to the purchase of the property
If the non-bankrupt spouse has property in their own name (e.g. money in the bank, a car) and this property has been purchased without the aid of the bankrupt, the trustee cannot take that property.
Property transferred by the bankrupt prior to bankruptcy
The trustee can sometimes claim property that is in the name of the non-bankrupt spouse (or another person) if the bankrupt contributed to the purchase of property and then transferred ownership to the non-bankrupt spouse before the bankruptcy.
These antecedent transactions are void against the trustee, so the trustee can claim property that the bankrupt has transferred:
for no or little consideration in an undervalued transaction within five years prior to bankruptcy if the property was transferred for less than market value (Bankruptcy Act s 120);
to defeat creditors prior to bankruptcy and the bankrupt was insolvent at the time of the transfer (s 121); and
to a third party in an undervalued transaction or to defeat creditors at any time prior to bankruptcy if the transfer was made with the intention of defrauding creditors (s 121A).
A transfer by an insolvent person to a creditor before bankruptcy may give the creditor a preference over the other creditor(s) and is void against the trustee (Bankruptcy Act s 122).
There will be a rebuttable presumption of insolvency for the purpose of point 2 if the bankrupt failed to keep proper books, accounts and records during the time of the transfer or, if they did keep such accounts, failed to preserve them (Bankruptcy Act s 121(4A)).
The trustee will not be able to claim property, even if it falls within the first two of the above categories, if:
the transfer was made in order to pay tax debts or maintenance liabilities (not including liabilities under a binding financial agreement within the meaning of the FL Act); or
the transfer was under a debt agreement; or
the cost of recovering the property would outweigh the benefit to creditors.
What happens to a bankrupt’s property?
Chapter: 5.3: Understanding bankruptcy
Contributor: Paul Latimer, Adjunct Professor, Swinburne Law School; Volunteer lawyer, Fitzroy Legal Service
Current as of: 1 September 2024
Law Handbook Page: 321
Next Section: What happens to a bankrupt’s income?
