What is a clawback provision in a bankruptcy filing?

When you file for Chapter 7 bankruptcy, everything you own on that date (as well as certain property you receive in the six months after you file) is part of your bankruptcy estate. If the property is exempt under federal or state law, you get to keep it. However, the trustee may take your nonexempt property, sell it, and distribute the proceeds to your creditors.

The clawback provision allows the trustee to look at your financial transactions before you filed for bankruptcy, to see if you improperly transferred or gave away property that should be part of your estate. If so, the trustee can "claw it back," undoing the transaction and bringing that property into your estate. If the property is not exempt, the trustee can sell it for the benefit of your creditors.

There are two types of transactions that can be voided using the clawback provision: preferences and fraudulent transfers.

• A preference is a payment to a creditor before you filed for bankruptcy. If you paid an "insider" creditor (a relative, friend, or business associate) more than $600 in the year before you filed, it will be considered a preference. Payments of more than $5,475 to regular arms-length creditors in the three months before you filed will also be considered preferences. This money can be clawed back from the preferred creditor and distributed among all of your creditors.
• A fraudulent transfer occurs when you give away money or property, or sell property for much less than it's worth, in order to make sure your creditors can't get it. Often, fraudulent transfers are made to family members, with the understanding that the bankruptcy filer will get the property back once the bankruptcy case is over. The trustee can undo these transfers and take the property back into the bankruptcy estate. And, if the trustee believes the filer was trying to hide assets, the filer's whole case might be thrown out.