Asset Protection - Can a house be seized from a spouse in bankruptcy proceedings

Notwithstanding the spectacular growth of the share market and of superannuation funds, the matrimonial house remains the single greatest asset for most people.

Two recent High Court decisions suggest that placing a house into the name of your partner of spouse even in joint names so as to protect against creditors' claims may not be a successful risk management strategy.

The first decision involved Cummins' case decided by the High Court in 2006.

In 1970, the matrimonial property was purchased by husband and wife as joint tenants.  This means that each spouse had an undivided 50% interest in the entire property.  In 1987, the husband transferred his half share to his wife who became sole owner.  In 2000, the husband became bankrupt.  The trustee in bankruptcy argued the transfer was a nullity and ordered the wife to transfer her husband's share back to the trustee pursuant to Section 121 of the Bankruptcy Act 1966 (Cth.). 

The wife argued that because she contributed approximately ¾ of the purchase price of the property, she should only have to pay ¼ or the husband's share back to the trustee.  This appeared to be a good argument in light of previous High Court authority.

However, the High Court disagreed with the wife's argument.  The Court ruled that when a husband and wife purchases a matrimonial home, and each contributes towards the purchase price, the Court will infer that it is intended that husband and wife should each have an equal or 50% share in the property regardless of the amounts contributed by them.  Accordingly, the wife was ordered to transfer back to the trustee in bankruptcy 50% of the net proceeds of the sale of the house.

This decision means that anyone wishing to protect their assets by placing their home into the name of their spouse may not achieve that objective.  If the other spouse goes bankrupt, then the "innocent" spouse will be presumed to hold the whole of the property in trust for both of them as to a one half share each.  The trustee in bankruptcy will be able to recover 50% of the value of the matrimonial property.  The "innocent" spouse may be forced to sell the property to pay the bankrupt spouse's share.

The second case Peldan v. Anderson decided by the High Court in 2006. 

Mr. & Mrs. Pinna owned their home as joint tenants.  In 2003, Mr. Pinna ended or severed the joint tenancy and he and his wife became registered as homeowners as tenants in common.

Ownership of real estate as tenants in common is very different to ownership of real estate as joint tenants.  Tenants in common means that all owners have a distinct but undivided share in the same property.  It is as though each owns a specified portion of the whole but none can identify a particular part of the property with his or her share.  There is no right of survivorship in tenancy in common.  This means that a tenant in common must specifically devise or leave his or her interest in real estate by way of a will or have it determined under intestacy principles. 

Joint tenancy, on the other hand, means that each homeowner, rather than have a distinct share in the property, is to be treated as far as outsiders are concerned as the single owner of the entire property.  Unlike tenants in common, on the death of one joint tenant, his or her interest accrues for the benefit of those surviving and does not form part of the joint tenant's estate upon death. 

Mrs. Pinna died in 2004.  Her interest as tenant in common passed to her deceased estate.  It did not become part of Mr. Pinna's bankrupt estate when he declared bankruptcy later that year.  Consequently, the trustee in bankruptcy were only entitled to 50% of the proceeds of sale of the former matrimonial home - Mr. Pinna's share.

The trustee in bankruptcy argued, somewhat sneakily, that the severance by Mr. Pinna of the joint tenancy so as to create a tenancy in common in 2003 amounted to a transfer of property within the meaning of the Bankruptcy Act.  Such transfers, argued the trustee in bankruptcy, were void as against the trustee if the property would have remained as part of the bankrupt's estate and would have been available to creditors for distribution.  The High Court rejected this argument by the trustee.

If the Bankruptcy Act only operated to void transfers of property, the interest being transferred would have been part of the bankrupt's estate and available for distribution to creditors.  The High Court held, however, that Mrs. Pinna's interest in the joint tenancy that had been passed to her deceased estate by her will could never have become part of Mr. Pinna's bankrupt estate.  When Mr. Pinna declared bankruptcy in 2004, his late wife's interest as tenant in common was already held by the executors of her deceased estate and that all that fell into Mr. Pinna's bankrupt estate was his own interest as tenant in common of the previous matrimonial property.

There are clear consequences for legal advisors, professionals and for members of the public from these High Court decisions. 

Cummins' case represents a warning that merely placing a house in the name of the bankrupt's spouse does not provide protection in the event of bankruptcy.  A Court is likely to hold that a house is owned jointly by the parties irrespective of contributions.   There would need to be very clear evidence to the contrary that the non-bankrupt spouse had contributed the vast bulk of funds which, obviously, will defeat the entire risk transfer and taxation purposes of the transaction. 

Peldan v. Anderson suggests that bankruptcy trustees, however, will have difficulty recovering from the estate of a deceased spouse anymore than 50% of the net proceeds of sale of the previous matrimonial home where the joint tenancy has been severed to create a tenancy in common prior to bankruptcy. 

Of course, the matrimonial home will be placed entirely into the hands of a spouse, particularly the homemaker, in circumstances where the bread-winning spouse provides the entire purchase price.  There is a risk in those circumstances that the homemaker spouse will be deemed to hold the matrimonial house pursuant to a constructive or resulting trust in favour of the bread-winning spouse who subsequently becomes bankrupt.  In those circumstances, the trustees in bankruptcy will seek to recover the entire matrimonial house upon the basis that the house forms part of the bankrupt's estate as beneficiary of the constructive or resulting trust.  In these circumstances, to avoid such an outcome particular attention must be paid to the paper trail so as to carefully structure the affairs of the spouses in accordance with tax-effective risk management principles.