How a bankruptcy case will affect your children is a legitimate concern. Parents may be wondering about things such as:
- Will my children lose property?
- What happens to my children's bank accounts and 529 educational savings accounts?
- Can the bankruptcy court forbid private school?
- What will happen to child support payments?
- Can I get college loans for my children?
Read on for answers to these concerns.
Your Child’s Property
Property in your household is considered yours. For instance, your child’s bedroom furniture, toys, and clothing are your property; even though you gave or "gifted" these items to your child. If the child paid for an item from his or her own money (and you can prove it), then the item is not your property.
In Chapter 13 bankruptcy, you keep all of your property. In Chapter 7, you can keep all exempt property. All states allow you to exempt a certain amount of household furnishings and clothes. The amount and types of property varies by state. But even if your child's furniture and property is not exempt, you will most likely keep them in bankruptcy. This is because the bankruptcy trustee is typically not interested in used furniture or household items unless they are very valuable.
(To learn more about exemptions, see our Bankruptcy Exemptions area.)
Your Childrens' Bank Accounts
Money held in trust for your child is not property of the bankruptcy estate. For instance, if you are the custodian of a bank account set up under the Uniform Gifts to Minors Act or the Uniform Transfers to Minors Act, this money is not your money and you cannot withdraw this money for yourself. Consequently, neither the bankruptcy trustee nor your creditors can get to this money because it legally belongs to your child.
Be advised that any money you transfer into a minor’s bank account before filing bankruptcy is looked upon with suspicion. If you are insolvent (generally, this means that your debts are greater than your assets) at the time you make the transfer, the Chapter 7 trustee can usually get this money.
Child Support Payments
Child support obligations are not dischargeable in bankruptcy. Owed child support obligations are priority debts and are paid first from liquidated assets in a Chapter 7 case. Child support arrears are paid before other creditors in a Chapter 13 bankruptcy. Debts that are “in the nature of support” (for example, medical expenses, educational expenses, etc.) are also excluded from the bankruptcy discharge.
Child support payments must be paid during a Chapter 13 case. The bankruptcy court cannot confirm your plan or grant a discharge in your Chapter 13 case unless you are current on post-filing child support payments.
529 Educational Funds
Educational savings accounts under section 529 of the Internal Revenue Code offer significant tax advantages and protection from creditors. The federal bankruptcy code excludes 529 plan funds from property of the bankruptcy estate. That means that the bankruptcy trustee and creditors cannot collect from this fund. However, there are limits to this protection, as follows:
The beneficiary must be your child, stepchild, grandchild, or step-grandchild. You cannot set up a 529 fund for yourself, then file bankruptcy and protect the money.
Timing of the deposits. When you make the deposits is critical to whether the money is protected. Under federal laws, deposits made within 365 prior to your bankruptcy filing are not protected at all. Deposits made between 365 days and 720 days prior to your bankruptcy filing are exempt up to $6,225 per beneficiary. Any deposit made over 720 days before filing bankruptcy is entirely exempt. Some states alter this protection, so consult your local laws.
Private School Tuition
Tuition for private elementary and secondary schools may or may not be allowed during a Chapter 13 bankruptcy. Congress allows an educational expense of $1,875 per year per child under the bankruptcy means test. Whether you will be allowed to pay more than that is decided on a case-by-case basis.
Chapter 7 bankruptcy won't prevent you from paying for private school tuition.
College Education Loans
Your bankruptcy does not affect your child’s ability to obtain need-based financial aid such as Pell Grants and Stafford Loans. You are disqualified from credit based financial aid like the PLUS (Parental Loan for Undergraduate Students) Loan and the Graduate PLUS Loan if you have declared bankruptcy within the past five years, unless there were extenuating circumstances or you can obtain a creditworthy endorser. Fortunately, your child qualifies for increased unsubsidized Stafford loan limits if you are denied a PLUS Loan. Stafford loans are advantageous because the loan remains in forbearance while the student attends school, while a PLUS Loan is subject to immediate repayment.
(To learn more about financial aid and different loan options, see our Student Loan & Other Special Debts area.)