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Hiding Assets to Avoid a Judgment . . . Does Not Work!

Hiding Assets

Can you simply set up a new company to avoid a judgment or a threat of a lawsuit against an existing company? The answer to this enduring legal myth is “no.” Most definitely, no. At least if the other side has decent business trial lawyers. The Uniform Fraudulent Transfer Act (UFTA) obviates the legal shell game of forming a new company to dodge legal consequences faced by an existing company.The UFTA is also triggered when an individual tries to move assets over to friends and family.Forty five of the fifty states have adopted the Uniform Fraudulent Transfer Act. So, unless you live in the minority of 5 states that has not adopted UFTA, any shenanigans to avoid or evade a judgment will, in the hands of a competent business lawyer, be struck down, and a court will most likely order the assets of the new venture will be clawed back and used to satisfy the judgment of the existing(now shell) company.

The UFTA prevents transfers that harm a present or future creditor if assets are transferred for something other than a reasonable equivalent value with the actual intent to hinder, delay, or defraud a creditor. If the claim arose prior to the transfer, the UFTA becomes a magic wand a judge can use to undo a transfer. The creditor’s business attorneys will ask a court to

  1. Avoid the transfer (pretend it never happened);
  2. Attach the assets transferred so that they may be sold; or
  3. Subject to principles of equity, demand an injunction against further transfer, have a receiver appointed to sell the illegally transferred assets, or get any other relief a judge believes is warranted under the circumstances.

Red Flags for a Fraudulent Transfer

Typically, the debtor (an individual or business entity) transfers its assets to friends, family, and related business entities. It is done with the scheme of avoiding the freight train of a judgment that could hit a defendant in a lawsuit. If the transfer or sale is made for reasonable equal value, there may be no issue as the debtor has assets or cash that a judgment creditor may pursue. If the transfer or sale is made for less that reasonable equivalent value, it appears to be a transfer to avoid the consequences of a judgment against the debtor.

Parties to a Fraudulent Transfer Under UFTA

The UFTA defines a debtor as a person who is liable on a claim. A person may be an individual or a legal entity (a ‘person’ under the law). A claim is a right to payment or property wither or not it is a judgment. The fact that it may become a judgment is sufficient to trigger the UFTA.

If the bad actor is an individual, any transfer to a family member, a partnership in which the debtor is a partner, or to a fellow general partner may be a fraudulent transfer. Similarly, a transfer to an affiliate or an insider of an affiliate with the debtor who owns, controls, or has the power to vote (directly or indirectly) 20% of the affiliate may be a fraudulent transfer. The 20% threshold would not apply to a lender who has taken stock to secure the debt or a fiduciary with sole power to vote. Banks take interest in stock to protect their loan. That is not a fraudulent transfer. Similarly,if the debtor is a corporation, any transfer to a director, officer, a person in control of the debtormay be a fraudulent transfer.   Any type of transfer to friends and family, or related business entities raises the fraudulent transfer red flag.

So, who is “family” under the UFTA? Not just your immediate and extended family. It is a relative by consanguinity to the third degree. That includes you favorite nephews and nieces and great grandparents or great grandchildren.

While there are a few defenses to a Fraudulent Transfer Act claim, notably showing the transfer was made for reasonable value, the debtor must show the transfer was for reasonable equivalent value.

Consequence of a Finding of a Fraudulent Transfer

Getting hammered by a finding of fraudulent transfer means that other states that adopted the statue will give the judgment effect, and the UFTA states that any proceedings under the statute will subject the party initiating the illegal transfer to costs and attorney fees. Therefore, a transfer made in California to a Texas company by the debtor’s Texas business lawyers will subject the transfer to the court’s purview. The shell game of moving assets around the board may work at a carnival, but the UFTA provides business lawyers with the tools they need to avoid a legal sleight of hand.

Fraudulent Transfers in Litigation

In litigation, a business litigator representing a judgment creditor may use the UFTA to set aside a transfer of assets by a judgment debtor. The timeframe to bring a fraudulent transfer claim is four years. The judgment creditor, then, has time to when the transfer occurred, and may secure evidence of the transfer. It may be argued that the lack of documentation to support a transfer also suggests an improper or fraudulent transfer.

When Can Assets be Shielded?

Does this mean every business transfer may be scrutinized as a fraudulent transfer? Of course not. The UFTA kicks in only when a transfer of assets is done when the transferor knew (or should have known) of a pending claim. Simply stated, you cannot transfer assets when you are aware of a potential lawsuit against you or your business. Any attempted transfer done at that point is a day late and a dollar short. The best time to structure transfers and protect yourself and your business is before you are aware of a potential claim.

When Can Businesses Use a Fraudulent Transfer Claim?

If your company is involved in litigation, and you suspect the target defendant is moving or secreting assets, your business litigators or trial attorneys should take steps to protect those assets. They must follow the steps required by the states that have adopted the UFTA, and ensure your company interests are protected.

If you have questions about litigation involving your business or looking at asset allocation and protection, now is the time to explore those options. Contact the Vethan Law Firm, P.C.’s Houston or Orange County business attorneys because at the Vethan Law Firm, P.C.

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