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Understanding Overextending Insolvency And Sinking Insolvency: The UVTA’s Two Strangest Tests

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1 year ago

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I get a lot of calls and e-mails from folks trying to figure out the two strange tests for a fraudulent transfer, which are found in Uniform Voidable Transactions Act (UVTA) at § 4(a)(2)(i) and (ii). About as often, I’ll see a Complaint where a creditor has included these tests, without really understanding what they are about. Hopefully, this article can shed some light on these tests and the situations for which they are appropriate.

To put these tests into the proper perspective, it must be understood that the UVTA has five tests to determine if an avoidable transaction has occurred. A creditor need only satisfy one test to have the transaction avoided. The process of elimination will get us down to the two odd tests that lead to confusion.

One of the tests is the Insider Preference Test of § 5(b). This really isn’t a fraudulent transfer test at all in the classic scheme of things, but rather a skeletal version of the bankruptcy preference test albeit limited to insiders only. This test was thrown into the Uniform Fraudulent Transfers Act (UFTA FTA ) in 1984, at about the same time that the bankruptcy code was undergoing a major revision, with the idea that the states should also have some form of preference law like that found in the bankruptcy code. So, let’s set this test aside and forget about it for the purposes of this article.

The first of the two major tests for a fraudulent transfer is the Intent Test of § 4(a)(1), and is the test that most people think of when they think at all about fraudulent transfers. It is pretty simple: The debtor made a transfer with the intent to defeat the rights of a creditor. This is also the test that has the so-called Badges of Fraud which are circumstantial indicia of the debtor’s true objective intent.

The second of the two major tests for a fraudulent transfer is the Insolvency Test of § 5(a), and which has two elements: (1) the debtor was insolvent, or became insolvent because of the transfer, and (2) the transferee did not return reasonably equivalent value (REV) to the debtor. With the Insolvency Test, there is an additional requirement, which is that the creditor’s claim must have arisen before the transfer, which is not required for the Intent Test.

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So now we have accounted for three of the five UVTA tests for a fraudulent transfer. That leaves us with the two odd tests that seem to cause so much confusion. In a moment, I will make these tests very simple for readers, but let us now examine the language of the statute which lays out these two odd tests:

——

(4)(a) A transfer made or obligation incurred by a debtor is voidable as to a creditor, whether the creditor’s claim arose before or after the transfer was made or the obligation was incurred, if the debtor made the transfer or incurred the obligation:

(2) without receiving a reasonably equivalent value in exchange for the transfer or obligation, and the debtor:

(i) was engaged or was about to engage in a business or a transaction for which the remaining assets of the debtor were unreasonably small in relation to the business or transaction; or

(ii) intended to incur, or believed or reasonably should have believed that the debtor would incur, debts beyond the debtor’s ability to pay as they became due.

——

Note that both tests have a common element: The debtor did not receive REV in exchange for the transaction. Note also that both tests apply whether or not the creditor’s claim arose before or after the transaction. So, with both of those two things in place, let’s examine the two tests.

The § 4(a)(2)(i) test basically says that a voidable transaction occurred if the debtor did not receive REV in exchange for the transaction, and the either engaged (or was about to engage) in a transaction for which the debtor’s assets were unreasonably small in relation to that transaction.

The § 4(a)(2)(ii) test similarly says that a voidable transaction occurred if the debtor did not receive REV in exchange for the transaction, and the other assets of the debtor (which is to say, the assets the debtor did not transfer away) were not adequate for the debtor to continue to pay debts as they came due.

Still clear as mud? Let me now make it much easier for you.

The § 4(a)(2)(i) test is best thought of as the Overextending Insolvency Test, which is simply a term that I came up with because it makes sense to me. All it basically says is that if the debtor enters into some deal that causes the debtor to overextend itself, then any transaction between the debtor and another person whereby the debtor does not get back REV is avoidable. A good way to think of this test is that the captain of the Titanic has made a decision to run straight at an iceberg, but before the impact he sends certain valuables off in a small boat and getting no REV in return.

We can also use the Titanic analogy for the § 4(a)(2)(ii) test, which I call the Sinking Insolvency Test, because (again) that’s what makes sense to me. What this test says is basically that if the debtor is already sinking ― the Titanic has already been slashed by the iceberg ― and the captain sends the valuable off in the small boat without getting REV back, then the transaction involving the valuables is avoidable as well. Or, as the test says, if the debtor could anticipate that soon there would not be enough assets remaining to pay debts as they came due, and yet still engages in a transaction where the debtor does not receive back REV, that transaction is avoidable.

And now we come to the single greatest realization that you should take away from these tests: The crux of these tests is that the debtor may not be insolvent yet, but the debtor is either close to insolvency or will be shortly. Thus, I usually lump these two tests together and call them the Anticipatory Insolvency Tests, because that’s really what they amount to ― one way or the other, the debtor should reasonably be anticipating that insolvency will occur near in time to the transaction that lacks REV being returned to the debtor.

Note that if the debtor was actually insolvent at the time of the challenged transaction, we wouldn’t bother with either of these tests because of course we would then just use the main Insolvency Test of § 5(a). The reason that we would use these tests is for those instances where the debtor wasn’t technically insolvent at the time of the challenged transaction, but shortly after became insolvent (or couldn’t pay debtor, which creates a presumption of insolvency).

Without knowing, I tend to believe that the Anticipatory Insolvency Tests arose from a bankruptcy concept that had found favor around the passage of the 1984 UFTA and was known as the Zone of Insolvency. This concept posited something like that a business might not be technically insolvent yet still close enough to insolvency at a point in time that the bankruptcy remedies should apply. What happened later is that the Zone of Insolvency concept fell out of favor in bankruptcy law, but the idea persisted (largely through inertia than as a result of any conscious policy decision) in the UFTA and later the UVTA by way of these two Anticipatory Insolvency Tests. At any rate, the Anticipatory Insolvency Tests operate much like the old Zone of Insolvency test in bankruptcy: The debtor is not quite technically insolvent, but close enough that the fraudulent transfer remedies should still apply.

A final caution, however, that it is entirely possible under the UVTA for these two tests to be satisfied even if the debtor never actually goes belly-up or misses the payment of a debt. Which is to say that both of these tests are measured at that point in time when the challenged transaction occurred, and without much regard to what actually happened later. Like all the fraudulent transfer tests, these two tests look at all the pertinent circumstances at the “snapshot in time” when the challenged transfer occurred, although of course what happened before and after may fill in some necessary factual context.

And there you have it, my explanation of the two oddest tests found in the UVTA. Hope that it helped and did not further confuse.

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Bonds See 2023 Recession, Stocks Aren’t So Sure

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6 months ago

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April 6, 2023

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The yield curve is one of the most robust recession predictors and has signaled a recession may be coming since mid 2022. In contrast, U.S. stocks as measured by the S&P 500 are up materially from the lows of last October and only just below year-to-date highs, seemingly rejecting recession fears. Yet, fixed income markets see the Fed potentially cutting rates by the summer, perhaps reacting to a U.S. recession.

The Evidence From The Bond Markets

The recessionary evidence, at least from fixed income markets, is mounting. The 10 yield Treasury yield has been below the 2 year yield consistently since last July. That is is called an inverted yield curve and has signaled a recession fairly reliably when compared to other leading indicators.

Building on that, fixed income markets see almost a nine in ten chance that the Federal Reserve cuts rates by September of this year. That’s something the Fed has repeatedly said they won’t do on their current forecasts. Yet, a recession could cause it to happen.

The Stock Market

In contrast, the stock market shows some optimism. The S&P 500 is up 7% year-to-date as the market has shrugged off fears of contagion from recent banking issues. In particular, tech stocks have rallied.

In contrast, more defensive sectors such as healthcare, utilities and consumer goods have lagged in 2023. This suggests that the stock market is taking more of a ‘risk on’ position and is perhaps less worried about the economy.

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That said the stock market is a leading indicator of the business cycle, it may be that stocks see a recession, but are now looking past it to growth ahead and are factoring in the lower discount rates that a recession might bring as interest rates decline. Also, the U.S. stock market is relatively global, so the fate of the U.S. economy is a key factor in driving profits, but not the only one.

What’s Next?

Monitoring unemployment data will be key. Though the yield curve is a good long-term forecaster of recessions it is less precise in signaling when a recession starts. Unemployment rates can offer more accurate recession timing. Unemployment edged up in February, suggesting a recession may be near, but we’ve also seen monthly noise unemployment. Two similar monthly unemployment spikes during 2022 both proved false alarms.

However, if we see a sustained move up in unemployment from the low levels of 2022 that may be a relatively clear sign that a recession is here. Economist Claudia Sahm estimates that a sustained 0.5% increase in unemployment rate from 12-month lows is sufficient to trigger a recession. Unemployment rose 0.2% from January to February 2023, so maybe we’re on the way there. Of course, the jobs market performed better than expected in 2022 and it could do so again. Still, fixed income markets do suggest a 2023 recession is coming. Stock markets don’t necessarily share that view.

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Which States Have The Highest And Lowest Life Expectancies?

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6 months ago

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April 5, 2023

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There’s a wide variance of life expectancies among the 50 states in the U.S., according to a recent report prepared by Assurance, an insurance technology platform that helps consumers with decisions related to insurance and financial well-being.

Figure 1 below shows the 10 states with the highest life expectancy, starting with Hawaii, the state with the highest life expectancy.

Figure 2 below shows the 10 states with the lowest life expectancy, starting with Mississippi, the state with the lowest life expectancy.

Assurance scoured life expectancy data prepared in January 2023 by the U.S. Centers for Disease Control and Prevention (CDC). With this data, Assurance created several easy-to-understand graphics that offer information about life expectancies.

Life expectancies are a basic measure of well-being

As measured by the CDC, life expectancies are a basic measurement of well-being in a broad population and not a prediction of how long an individual might live. The CDC measures the expected lifespan for a person born in the year of measurement. This measurement is calculated based on the assumption that the individual will live and die according to the rates of death that are prevalent in the measurement year for each age. There’s no assumed improvement or backsliding in the assumed mortality rates in future years for each age in the life expectancy calculation.

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By contrast, an estimated lifespan for an individual would consider their current age, their gender, and some basic lifestyle information. It might also attempt to project future improvements or backsliding in mortality rates based on key factors.

Significant influences on life expectancy calculations

Leading causes of death in the U.S. are heart disease, cancer, and accidents in that order. These immediate causes are significantly influenced by factors in the population such as poverty rates, educational attainment, rates of obesity and smoking, access to healthcare, prevalence of violent crime, and the support people receive from federal, state, and local governments. All these factors can vary widely among different states, which can be a key reason why life expectancies vary by state.

When you think about it, all these factors also have the potential to influence a person’s quality of life. The measured life expectancy rate rolls up all these factors into one objective measurement of well-being that’s based on population data.

In addition to the factors listed above, mortality rates increased and life expectancies decreased in the past few years due to the Covid-19 pandemic. A recent article titled “Live Free And Die” summarized recent research results that show that life expectancies in most countries around the world rebounded after the Covid-19 pandemic but that they continued to decline in the United States. Many of the reasons cited in the article for the continued decline in U.S. life expectancies are the same or similar to the factors listed above.

NPR‘Live free and die?’ The sad state of U.S. life expectancy

Why should retirees care about the life expectancies reported here if these measures don’t predict your own lifespan? Life expectancy calculations indicate the general well-being of the entire population in your area. While the living conditions in your area can influence your own lifespan and quality of life, retirees should focus on their remaining life expectancy given their age. They should also consider how the factors listed above that influence life expectancies in the population might apply to them.

You can obtain customized estimates of your remaining life expectancy at the Actuaries Longevity Illustrator. Part of your planning for retirement is understanding how long you an an individual might live, instead of relying on generalized information about larger populations you see in the media.

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IRS Dirty Dozen Campaign Warns Taxpayers To Avoid Offer In Compromise ‘Mills’

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6 months ago

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April 4, 2023

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Owing taxes can be stressful. Unfortunately, the actions of some companies can make it worse. As part of its “Dirty Dozen” campaign, the IRS has renewed a warning about so-called Offer in Compromise “mills” that often mislead taxpayers into believing they can settle a tax debt for pennies on the dollar—while the companies collective excessive fees.

Dirty Dozen

The “Dirty Dozen” is an annual list of common scams taxpayers may encounter. Many of these schemes peak during tax filing season as people prepare their returns or hire someone to help with their taxes. The schemes put taxpayers and tax professionals at risk of losing money, personal information, data, and more.

(You can read about other schemes on the list this year—including aggressive ERC grabs here, phishing/smishing scams here and charitable ploys here.)

Tax Debt Resolution Schemes

“Too often, we see some unscrupulous promoters mislead taxpayers into thinking they can magically get rid of a tax debt,” said IRS Commissioner Danny Werfel.

“This is a legitimate IRS program, but there are specific requirements for people to qualify. People desperate for help can make a costly mistake if they clearly don’t qualify for the program. Before using an aggressive promoter, we encourage people to review readily available IRS resources to help resolve a tax debt on their own without facing hefty fees.”

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Offers In Compromise

Legitimate is a key word. Offers in Compromise are an important program to help people who can’t pay to settle their federal tax debts. But, as the IRS notes, these “mills” can aggressively promote Offers in Compromise—OIC—in misleading ways to people who don’t meet the qualifications, frequently costing taxpayers thousands of dollars.

An OIC allows you to resolve your tax obligations for less than the total amount you owe. You generally submit an OIC because you don’t believe you owe the tax, you can’t pay the tax, or
 exceptional circumstances exist.

Because of the nature of the OIC—and the dollars involved—the process can be time-consuming. It can also be confusing for taxpayers who may not have a complete grasp on their finances.

First, you must complete a detailed application, Form 656, Offer in Compromise. You must also submit Form 433-A, Collection Information Statement for Wage Earners and Self-Employed Individuals, or Form 433-B, Collection Information Statement for Businesses, with supporting documentation (generally, bank and brokerage statements and proof of expenses).

You’ll also need to submit a non-refundable fee of $205 and payment made in good faith. The payment is typically 20% of the offer amount for a lump sum cash offer or the first month’s payment for those made over time. Generally, initial payments will not be returned but will be applied to your tax debt if your offer is not accepted. Payments and fees may be waived if the OIC is submitted based solely on the premise that you do not owe the tax or if your total monthly income falls at or below income levels based on the Department of Health and Human Services (DHSS) poverty guidelines.

The IRS will examine your application and decide whether to accept it based on many things, including the total amount due and the time remaining to collect under the statute of limitations. The IRS will also review your income—including future earnings and accounts receivables—and your reasonable expenses, as determined by their formula. The IRS will also consider the amount of equity you have in assets that you own—this would include real property, personal property (like automobiles), and bank accounts.

Criteria

Before your offer can be considered, you must be compliant. That means you must have filed all your tax returns and paid off any liabilities not subject to the OIC. After you submit your offer, you must continue to timely file your tax returns, and pay all required tax, including estimated tax payments. If you don’t, the IRS will return your offer.

Additionally, you cannot currently be in an open bankruptcy proceeding, and you must resolve any open audit or outstanding innocent spouse claim issues before you submit an offer.

Representation

You can probably tell—it’s a lot to consider. You may want representation. A tax professional can help marshal you through the process and offer practical guidance, while communicating what fees could look like.

By contrast, according to the IRS, an OIC “mill” will usually make outlandish claims, frequently in radio and TV ads, about how they can settle a person’s tax debt for cheap. Also telling: the fees tend to be significant in exchange for very little work.

Those mills also knowingly advise indebted taxpayers to file an OIC application even though the promoters know the person will not qualify, costing taxpayers money and time. You can check your eligibility for free using the IRS’s Offer in Compromise Pre-Qualifier tool.

“Pennies On A Dollar”

What about those promises that taxpayers can routinely settle for pennies on a dollar? Not true. Generally, the IRS will not accept an offer if they believe you can pay your tax debt in full through an installment agreement or equity in assets, including your home. That’s why the IRS tends to reject a majority of OICs that are submitted. The acceptance rate is less than 1 in 3, according to the 2021 Data Book.

The IRS will generally approve an OIC when the amount offered represents the best opportunity for the IRS to collect the debt. It’s true that there’s a formula that the IRS uses to figure out how much they think they can collect from you. But there is some wiggle room to account for special circumstances, including a loss of income or a medical condition. It’s worth noting those are the exceptions, not the rule.

Collections

While submitting an OIC may keep the IRS from calling you, it doesn’t stop all collections activities—don’t believe companies that suggest that submitting an OIC will make your tax debt disappear. Penalties and interest will continue to accrue on your outstanding tax liability. Additionally, the IRS may keep your tax refund, including interest, through the date the IRS accepts your OIC.

You may also be liened. In most cases, the IRS will file a Notice of Federal Tax Lien to protect their interests, and the lien will generally stay in place until your tax obligation is satisfied.

Be Skeptical

An OIC is a serious effort to resolve tax debt and shouldn’t be taken lightly. Be skeptical—if it sounds too good to be true, it likely is. If you’re considering an OIC, hire a competent tax professional who understands the rules and is willing to level with you about your chances of being successful—including other options. Don’t fall into a trap that can make your situation worse.

MORE FROM FORBESIRS Urges Those Hoping To Help To Beware Of Scammers Using Fake CharitiesBy Kelly Phillips Erb

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