The debtor’s interest in a life insurance policy sold before bankruptcy is an asset of the estate that can be recovered through a fraudulent transfer suit, the Ninth Circuit held on Jan. 8.
The bankrupt owned several life insurance policies that he sold in so-called life-settlement transactions before bankruptcy. The debtor did not list his interest in the policies or their sales anywhere in his chapter 7 papers, nor did he disclose them at his creditors’ meeting. He died five months after filing.
The trustee later discovered the policies and learned that the debtor had sold them for a total of $507,000. When he died, the buyers got $9 million in death benefits.
In the life-settlement market, the policy owner sells a policy to a third party for less than the death benefit. The purchaser gets the death benefit when the insured dies, although the buyer must pay premiums in the meantime. The life-settlement market enables an insured to get more than the cash-surrender value of a policy when the insured needs cash.
The trustee sued on a fraudulent transfer theory, but the bankruptcy judge dismissed the complaint, holding that the debtor had no interest in the policies that would constitute property of the estate.
The district court reversed and was upheld by the Ninth Circuit in an opinion by Circuit Judge Sidney R. Thomas.
Life insurance policies are considered estate property under Section 541(a) and are not excluded from the estate under Section 541(c), Judge Thomas held. He said that arguments to the contrary are based on a provision in the former Bankruptcy Act, which allowed the debtor to retain the value in a life insurance policy in excess of its cash-surrender value.
Congress took a different tack with the Bankruptcy Code by providing for the possibility of an exemption under Section 522(d)(7) for “any unmatured life insurance contract.”
Because the debtor did not disclose the policies and did not claim an exemption, the debtor’s interest in them was property of the estate sufficient to mount a fraudulent transfer suit.