Your spouse’s personal liability for your business debts could also affect your decision about filing for Chapter 7 personal bankruptcy. For instance, if your spouse is liable for your business debts and has assets or income to lose, it might make sense for both of you to file for personal bankruptcy.
Whether your spouse is liable for your business debts turns mostly on where you live. So, it’s time for a little geography lesson.
Community Property States
In the community property states (listed below), all income either spouse earns during marriage, as well as all property bought with that income, is community property, owned equally by husband and wife. For the most part, any debt incurred by one spouse during marriage is owed by both of them, too; it’s a community debt, and the spouse’s creditor can go after community property as a source of repayment (although they rarely do when the debt is in one spouse’s name). So, if you live in a community property state, you may want to file for bankruptcy to wipe out your business debts and protect your community income and property; even if you currently have little or no income, your spouse may have a good job.
Community Property States: Alaska (couples can elect to treat their property as community property), Arizona, California (community property law also apply to registered domestic partners), Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin.
Common Law Property States: Everywhere else.
Common Law States
The law works differently in what we refer to as “common law” marital property states (that is, the states that don’t appear on the list of community property states, above). In these states, debts incurred by one spouse—even during the marriage—are generally that spouse’s debts alone, and only that spouse’s income and property are liable for the debt. Debts are jointly owed by both spouses only if they were jointly undertaken. A debt might be jointly owed if any of the following are true, for example:
- Both spouses signed a contract requiring them to make payments.
- Both spouses’ names appear on an account or title to property.
- A creditor was given both spouses’ credit information as part of an application for a loan.
- The debt benefited the marriage. In other words, it was for food, clothing, child care, necessary household items, or similar items of direct benefit to the family.
All other debts, such as a business debt from one spouse’s business, a loan for a car whose title is in only one spouse’s name, or credit card debt in one spouse’s name only, are considered that spouse’s separate debts.
One spouse’s creditors cannot legally reach the other spouse’s separate money, property, or wages to repay a separate debt. However, if income earned by one spouse is put into a joint bank account or investment account, that income becomes a joint asset, which a creditor can go after. Fortunately, in most common law states, a creditor can take only half of the money in a joint account to pay a spouse’s separate business debts.
In many common law states, spouses can jointly own property in a form known as tenancy by the entirety. The rules for when creditors can proceed against property held in tenancy by the entirety are complex. However, the basic idea is that property held in tenancy by the entirety is protected from the separate creditors of a spouse.
If you and your spouse have not kept your income and property separate, and your spouse brings significant income and/or assets to the table, filing together for bankruptcy can be advantageous.
Excerpted from Bankruptcy for Small Business Owners: How to File for Chapter 7, by Attorney Stephen Elias and Bethany K. Laurence, J.D.