This is a response that I recently posted to a discussion group in LinkedIn, to the topic

Low rate of bankruptcy fraud prosecutions attracting attention, which in turn is linked to the site AssetRecoveryWatch.com.

In my observations–limited by the fact that I only swim in one small corner of the much larger nationwide pool–the Feds are focused on trying to find the next Bernie Madoff, and the private trustees are too busy looking for the low hanging fruit of easily liquidated assets to pay much attention to garden variety bankruptcy fraud. The system is overloaded, and private trustees get $60 per file, plus a portion of whatever assets they can pick off and sell. That doesn’t create much incentive to root out fraud. Proving that a debtor is a liar doesn’t pay the bills unless there is money there too. As for the UST, my observation is that they are inundated.

I represent both debtors and creditors, and in my experience, most of the fraud that I see occurs BEFORE the bankruptcy filing. The bankruptcy process is just the cat trying to fill in the hole after he does his business. If I can perpetrate a massive fraud and then file Chapter 7 before anyone catches on, then I may dodge a cannon ball or two by discharging (or appearing to discharge) claims. (This has limited efficacy, but that is s topic beyond this post.)

As for bankruptcy fraud–that is, fraud in the actual bankruptcy case–one needs to understand the provisions of Sections 727 and 523 of the Bankruptcy Code, two of the most important weapons. Sec 727 is for use in prosecuting fraud in the bankruptcy process itself, but is–as a practical matter–only of much use to the UST. This is because the investigation necessary to bring an action under that section is cost prohibitive to private creditors, and is almost impossible under the privacy laws. Just how much can a creditor justify spending to prove that the debtor is an all-around bad guy? As a practical matter, creditors are mostly limited to ratting out the debtor’s fraud and waiting to see if the trustee does anything.

As for the creditors, they are generally limited to non-dischargeability actions under sect 523. Creditors aren’t motivated to prove that the debtor is an all around bad guy, but in trying to get their money back. That means a non-dischargeability action under 523. But Section 523 is limited to pre-filing conduct, has some pretty steep evidentiary hurdles, and carries a risk of having to pay the debtor’s attorneys fees if the creditor loses. This keeps lots of creditors sitting on their hands.

Last, discovering fraud in the bankruptcy process itself is mostly a matter of trying to find hidden assets. Good luck if you are a private party creditor. We’ve gone so far in expanding financial privacy that it takes a small miracle to get my OWN financial information from my own bank. Now think about trying to chase a money trail created by someone who is focused on covering his tracks. Most crooks don’t hide money in easily identified and located bank accounts. Following money is very difficult and very expensive.

If you suspect fraud in a bankruptcy case in which you or a client is involved, you can got to the US Trustee‘s website and follow the procedures under the title “Report Suspected Bankruptcy Fraud.”

One Response to Low rate of bankruptcy fraud prosecutions are (apparently) attracting attention. Oh really? (LinkedIn Q&A)

  1. You made some good points there. I did a search on the topic and found most people will agree with your blog.



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