Many people call us after using debt settlement companies. These companies promise to negotiate and reduce debts, but often do no work on the client’s file, and leave him or her in worse financial shape than before.

Understandably, people often feel they did not get their money’s worth from these companies.  They want to know if they can use the bankruptcy process to get their money back.

The answer is…maybe, if all of the following apply:

  • Payments you made to the debt settlement company can be characterized as “involuntary,”
  • Your bankruptcy trustee does not pursue the funds for the benefit of the bankruptcy estate, and
  • You meet several other criteria under section 522(h).  Specifically, a Chapter 7 debtor has standing to pursue avoidance actions if each prong of a five-part test is satisfied. These are:

(1) the transfer to be avoided was not a voluntary transfer of property by the debtor;
(2) the debtor cannot have concealed the property;
(3) the trustee cannot have attempted to avoid the transfer;
(4) the debtor must exercise an avoidance power usually used by the trustee; and
(5) the transferred property is exempt from the bankruptcy estate.

If all of the above apply, you may be able to get back some or all of the money you paid to debt settlement company.

Many people stop me here and say, “Well, I voluntarily signed up with their service. So, I don’t meet the first requirement.”

The question, however, is what constitutes an “involuntary transfer” under section 522(g).

A creditor’s filing a lien, levying a bank account, or garnishing someone’s wages is clearly “involuntary.”

But, when is a seemingly  “voluntary” transfer actually “involuntary” ?

For example, it is possible that transfers made under the voluntary control of the debtor are actually  “involuntary” when the transferee used fraud or misrepresentation to induce the transfer. Bankruptcy courts in the 9th Circuit have weighed in on this issue and will likely continue to do so.

[Of course, you might also have a legal claim for fraud or misrepresentation against the debt settlement company– that is a separate issue and should be scheduled as a potential asset in your bankruptcy filing.]

In terms of debt settlement companies, if a bankruptcy filer has evidence that their so-called debt settlement company has misrepresented their services or engaged in fraud, a good argument could be made for debtor’s ability to recover some or all payments made to the debt settlement company prior to a bankruptcy filing.

In many cases, the ability to get these funds back would more than pay for the bankruptcy filing itself.

If you have been working with a debt settlement company and you think they have misrepresented their services or defrauded you, please give us a call for a free, no-obligation consultation.