A transfer is considered fraudulent if made with actual intent to hinder, delay, or defraud any creditor of the debtor. There's no bright-line rule here. A judge looks for indicia or "badges" of fraudulent intent. A judge has broad discretion in determining whether the presence of one or more badges indicates a transfer was fraudulent.
Webinar Rebroadcast: Avoiding the Badges of Fraudulent Transfers
Furthermore, the standard of proof that must be met to indicate fraudulent intent is not the "beyond a shadow of a reasonable doubt" standard of criminal trials. But rather it is the less rigorous "preponderance of evidence" standard of civil litigation. The potential badges you should avoid include:
1. The transfer or obligation to an insider:
This may, or may not, be a factor in determining whether there was a fraudulent transfer. For example, it's common business practice for someone to transfer personal property to a business they control (such as an LLC, LP, or a closely held corporation) in order to capitalize it. Such a transfer, if done while creditor seas are calm, will almost certainly not be considered fraudulent, especially if the transferor receives an interest in the company equivalent to their capital contribution. On the other hand, transferring real estate to one's uncle the week before a lawsuit commences will likely be considered fraudulent.
2. The debtor retained possession or control of the property transferred after the transfer:
This may or may not be a factor in a fraudulent transfer case. For example, although a lien is a transfer of equity, mortgaged real estate typically remains in the owner's possession as a matter of standard business practice. In contrast, placing one's home in an international trust and then continuing to live in it rent-free is more likely to be seen as a fraudulent transfer.
3. The transfer or obligation was concealed:
See the comment for badge of fraud (7) below.
4. Before the transfer was made or obligation was incurred, the debtor had been sued or threatened with suit:
Some transfers (such as a gift to an insider) are very vulnerable to a fraudulent transfer ruling if they occur after a creditor threat arises. At the same time, no judge would expect you to stop your normal business activities once you've been sued, especially considering that a lawsuit may drag out for years. Of course, some business activities may involve transfers of assets.
Consequently, if you are facing a lawsuit, it's important to transfer property so there is a plausible reason for the transfer, besides trying to protect assets. For example, by taking money and investing it in an LLC, you can protect the money while honestly claiming that you were only engaging in a business venture, instead of trying to defeat a creditor. At the same time, your claim of having a valid business purpose may be insufficient if other badges point to the fact that you transferred the asset to hinder, delay, or defraud your creditors.
5. The transfer was substantially all of the debtor's assets:
The most important consideration here is the need to avoid insolvency through a single transfer. Assuming one remains solvent, it's a good idea to stagger the implementation of an Asset Protection plan over time. For example, don't equity-strip all your rental units on the same day. Instead, interpose a few months between transfers.
6. The debtor absconded:
This is a very strong badge of fraud, which by itself would probably cause a transfer to be deemed fraudulent.
7. The debtor removed or concealed assets:
Oftentimes, there's a good reason for financial privacy, besides trying
to defeat a creditor. Depending on your reasons, it may not be safe to
conceal assets while the creditor seas are calm. However, this is usually
not a good idea once one is threatened by creditors. Remember: everything
can and will usually be revealed in court, and privacy is more for lawsuit
prevention than anything else. Above all, remember that no plan should
rely exclusively on secrecy and that improper (but not all) financial
privacy measures are usually considered a badge of fraud.
8. The value of the consideration received by the debtor was not reasonably
equivalent to the value of the asset transferred or the amount of the
obligation incurred:
This is why trusts are sometimes (but not always) a poor choice for protecting assets, since property is typically gifted to the trust. However, it's possible to transfer assets into a trust in a manner that involves an exchange of equivalent value. This badge demonstrates that gifting in general is usually a bad idea from an Asset Protection standpoint. In contrast, when someone transfers an asset to an LLC, they receive an LLC membership interest in return. Done correctly, this membership interest constitutes an equivalent value of consideration received for the transfer.
9. The debtor was insolvent or became insolvent shortly after the transfer was made or the obligation incurred:
Implementing an Asset Protection plan and then failing to pay one's debts as they become due, whether through inability to do so or otherwise, is a big error. Continue to pay at least most of your debts.
It's important to realize that these badges are not black and white indicators. A judge is given wide latitude to interpret the types and number of badges present when considering whether there was a fraudulent transfer. Only rarely will a single badge denote a fraudulent transfer, whereas in other situations multiple badges of fraud won't be enough to prove fraudulent intent. Regardless, any Asset Protection program should avoid these badges whenever possible.
Above all, remember a judge must determine whether a particular transfer was undertaken to cheat a creditor. If there's not a plausible economic reason for a transfer, and if the transfer is not a part of "business as usual", then it might not stand up if challenged in court. Such transfers will almost always carry at least one badge of fraud.
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