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Posted by: National Bankruptcy Forum
Many people mistakenly believe that they will lose everything when they file for Chapter 7 bankruptcy.
This is not the case.
The Bankruptcy Code allows debtors to claim certain necessary property as off-limits from creditors and the trustee. That property is the debtor’s “exempt property.”
The debtor claims property as exempt in the bankruptcy paperwork, called “schedules” that are filed to initiate the case. In these documents, people who file bankruptcy effectively say “my state’s law allows me to protect up to $3,000 from creditors, I am listing my favorite necklace with a value of $1,250 as off limits.” As long as the client is honest with the court and their attorney about the property they own, the odds are high they will get to keep it through the bankruptcy process and have it as a rebuilding tool once the case ends.
Exempt property is not property of the bankruptcy estate. You are free to keep it after bankruptcy when you are free of debt.
- In Most Cases, Chapter 7 Filers Keep Their Property
- Do federal or state exemptions apply? And which state?
- How Liens Impact Bankruptcy Exemptions
- Common Exemptions
- Is Chapter 7 bankruptcy right for you?
In Most Cases, Chapter 7 Filers Keep Their Property
Most Chapter 7 bankruptcy cases are no-asset cases. That means the debtors give up nothing to the trustee. The exemption systems permit debtors to retain the means of day-to-day living, free from the claims of their creditors.
The point of bankruptcy is to get a fresh start and that is only possible if the debtor has something to start with. In addition, used household goods and personal effects have little resale value, and so do not represent a real source of value to repay creditors.
Do federal or state exemptions apply? And which state?
Congress created a set of exemptions in the bankruptcy code but allowed each state to opt-out of those exemptions in favor of state law exemptions. Sixteen states allow debtors to choose between federal and state exemptions. The other 34 states require use of their own exemptions.
You’ll need to consult state law or search National Bankruptcy Forum’s Consumer Laws by State section for the list of specific exemptions available to you. In order to use a state’s exemptions, you must have lived in that state for two years prior to filing. If you haven’t lived there for two years, you must use the exemptions of the state in which you lived for most of the six months prior to the two-year look-back period.
For example, say you were born and raised in North Dakota. On January 1, 2016, you moved to Arizona. It’s now May 1, 2017 and you’re filing for bankruptcy. You haven’t lived in Arizona for the two years necessary to use the Arizona exemptions. So, you have to look back two years to May 1, 2015 and use the exemptions of the state you lived in for the six months prior to that date. Because you lived in North Dakota during the relevant period, you’ll use the North Dakota exemptions.
How Liens Impact Bankruptcy Exemptions
Note that exemption amounts refer to your equity in the asset. If you co-own the asset, only your share of the equity is relevant. If an asset is subject to a mortgage or a lien, your equity is the value of the item after deducting the amount of the lien or liens (the equity).
Imagine that you purchased a home that is currently worth $300,000 and you have an outstanding mortgage loan of $250,000. Your equity in the home is $50,000. If an exemption protects more than $50,000 of equity in your home, creditors can’t touch it. Now imagine you bought the same home but only owe $75,000 on your mortgage loan. In that scenario, you have $225,000 of equity. Unless your state’s exemption protects more than $225,000 of equity, the bankruptcy trustee can sell your home, pay you the amount of the exemption, and give the rest to your creditors.
Generally, the trustee won’t sell an asset if you only have slightly more equity than the exempt amount. They’ll only sell if you have enough nonexempt equity to make a meaningful payment to creditors.
Exemptions are meant to ensure that you have the necessary means to live and work. They protect the debtors from creditors who might otherwise seize everything and leave the debtor destitute. While each state has its own exemption rules, there are several major exemptions offered by most states.
Some assets are completely excluded from the bankruptcy process by federal law. Pension rights and 401(k) plans are not a part of your bankruptcy estate and are safe from creditors. IRAs are also excluded from your bankruptcy estate up to $1 million. Social Security benefits, unemployment benefits, disability benefits, veterans benefits, and alimony or support payments are excluded from the bankruptcy estate. If you have received or are going to receive an award as damages for personal injury, that amount is excluded from the bankruptcy estate, too.
Under Chapter 7, the wages you earn after you file for bankruptcy are generally not considered part of your bankruptcy estate. That gives you an opportunity to start saving as soon as you file. Wages that you earned before you filed but didn’t receive until after you file are part of the bankruptcy estate. You may be able to keep wages earned before filing and received after filing if you can prove that you need the money for reasonable and necessary living expenses.
A homestead exemption protects some or all of your equity in your home. Generally, for a homestead exemption to apply, the home must be your primary residence. If you’ve moved to a new state, you can’t claim a homestead exemption unless you’ve owned the home for at least 40 months prior to filing for bankruptcy. If you haven’t owned the home for 40 months, you can only take the federal exemption of $23,675. 11 U.S.C.A. § 522(d)(1).
Most states offer an exemption for all or part of your equity in one or more cars. The federal auto exemption is $3,775. 11 U.S.C.A. § 522(d)(2).
Household Goods Exemption
The law wants to protect the items you need to survive. That includes your furniture, clothing, appliances, and medical supplies, among others. Federal law exempts up to $12,250 of household goods, as long as no single item is worth more than $575. There are limits to the household goods exemption; you generally can’t keep multiple televisions, art (unless you created it), recreational vehicles such as boats and ATVs, and similar non-essential items. 11 U.S.C.A. §§ 522(d)(1), 522(f)(4).
Wild Card Exemption
Federal law and many state laws offer a “wild card” exemption. This exemption can cover any property or can be added on to any other exemption. The wild card is a way for you to protect items that are important to you but would otherwise be subject to liquidation. The federal wild card exemption protects up to $1,250 of equity in any property, plus up to $11,850 of the unused portion of the homestead exemption. If you only use part of your homestead exemption, you can apply the unused part to any property up to $11,850. If you don’t claim a homestead exemption, you can protect $13,100 ($1,250 + $11,850) of equity in any property.
Is Chapter 7 bankruptcy right for you?
If you’re drowning in debt and don’t know where to turn, bankruptcy might be your best option. Most debtors have no nonexempt property, which means that they pay nothing to unsecured creditors and their debts are discharged. If you’re considering filing for bankruptcy or just looking for options to deal with your debt, check out our other blog posts or reach out to an experienced National Bankruptcy Forum member attorney.