What Happens to your Home When Filing for Chapter 7 Bankruptcy?

If, after determining the unencumbered equity of your home (see Will the Trustee Sell Your Home in a Chapter 7 Bankruptcy? to calculate your unencumbered home equity), you find that you do have substantial equity, the next step is to see if you can protect it in a Chapter 7 bankruptcy by using the homestead exemption or by using a wildcard exemption.

The Homestead Exemption

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The homestead exemption is the amount of equity that you can protect in a Chapter 7 bankruptcy, and is determined by state law, and which law you must apply will depend on where you were living for the past couple of years. Some states have a very large or unlimited exemption, and others—Pennsylvania, Maryland, Delaware, and New Jersey—have no homestead exemption at all. In some states, you can choose federal exemptions or state exemptions: which is preferable depends on your state and the property that you own. The homestead exemption in a few states depends only on lot size; in others, it depends on both lot size and equity, and in others, equity only. Some states require you to file a Declaration of Homestead at the county court in order to use that state's homestead exemption.

In many states, you can also apply a wildcard exemption to your home. This is an exemption that can be applied to any property, but in some states, it is restricted to personal property, and can't be used for your home. In any case, wildcard exemptions for most states are very small. The federal wildcard exemption, for instance, is only $975, and in Pennsylvania, it is only $300. (Why only $300? The law was enacted in 1849, when $300 was worth a great deal more than it is today, but, unfortunately for people filing in Pennsylvania, it has not been increased since then!)

In 18 states, a home can be owned by a couple as a tenancy by the entirety. In these states, the home can be completely protected if:

  1. You and your spouse own your home or any other real property as tenants by the entirety. You do not have to live in it, and it can be in another state from which you live. However, the applicable state law is the state in which the property is located—not where you live. Some states specify that a married couple owns their residence as tenants by the entirety unless they specify otherwise. The following states allow ownership as tenants by the entirety: Delaware, District of Columbia, Florida, Hawaii, Illinois, Indiana, Maryland, Massachusetts, Michigan, Missouri, North Carolina, Ohio, Pennsylvania, Rhode Island, Tennessee, Vermont, Virginia, and Wyoming.
  2. You are married, but you are filing alone, and all of your debts that you are seeking to discharge are yours alone.

However, if both file, then the home is subjected to whatever rules applies to a joint filing by a married couple. In some states, or using the federal exemptions, a married couple filing jointly can double their homestead exemption and wildcard exemption.

State Residency Requirements for the Homestead Exemption

Prior to the enactment of the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA), many people would, before filing for bankruptcy, move to another state that had a more generous homestead exemption than the one they were living in. The new law has much stricter requirements as to which state's home exemption you can use. However, if you live in a state that allows the choice of federal exemptions, then you can choose the federal exemptions regardless of how long you were living in the state.

If you have lived in your home for at least 40 months before filing, or if you have lived in your home for less than 40 months, but purchased it after selling another home in the same state that you lived in more than 40 months earlier, then you can use your current state's exemption. However, if you have been convicted of a felony, a securities violation, or an intentional tort that caused severe bodily injury or death, then you may be subject to the federal homestead exemption limit, which is $160,375 as of 2016. (Note: this limit is adjusted for inflation periodically and is published at the top of Schedule C — Property Claimed as Exempt. It will be updated again on 4/01/2019, and every 3 years thereafter. Petitions filed on or after the update will be subject to the new limits.) If your state's exemption is greater than this, then the judge will determine whether to apply the limit.

If you acquired your home within the previous 40 months and have lived in the state for at least 2 years, then you can use that state's exemption up to the federal homestead exemption limit. If you have lived in your state for less than 2 years, then you must use the exemptions of the state—up to the federal limit — in which you have lived the longest in the 180 period before the 2 years before filing—in other words, in the time period of about 2 to 2 ½ years before filing for bankruptcy.

If you have disposed of any nonexempt assets in the 10 years before filing to protect it from creditors, then your exemption may be reduced by the value of those assets.

Note that the state homestead exemption limit of $125,000 that is listed in the diagram below has been adjusted for inflation, as of April 2016, to $160,375, which will be valid up until April 2019.

If your Equity is Greater than your Exemption

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If your equity is greater than your exemption by an amount that's at least enough to cover the cost of selling it and to pay the trustee's commission with enough left over to pay unsecured creditors, then the trustee will sell it, pay you your exemption, take her commission, and distribute the rest to your unsecured creditors. If your state's exemption depends on lot size, and your home occupies a larger lot than the exemption, then the trustee will sell the part not covered by the exemption.

To prevent the sale of your home, you can offer to pay cash to the trustee for the nonexempt amount, or file or convert your case to a Chapter 13 bankruptcy. In a Chapter 13 bankruptcy, you repay at least 25% of your unsecured, nonpriority debts over a 3 or 5 year period instead of selling your assets. Thus, you'll be able to keep your home and everything else in a Chapter 13 bankruptcy. However, you must satisfy the means test to determine if you are able to pay at least to your unsecured creditors as they would have received in a Chapter 7 liquidation.

If you have not filed for bankruptcy yet, and you have considerable equity, you may be able to borrow money using the equity as security to pay off your debts. If, later on, you still end up filing for bankruptcy, then the equity in your home will be reduced, and may be protected by your exemption. If you live in a state with a generous exemption, but not long enough to take advantage of it, then attempting to pay off your debt with a home consolidation loan may take enough time to take advantage of your state's exemption, if you would subsequently need to do so. Note, however, that you should do this in good faith, and, you should pay all your creditors what is due each month—otherwise it could be looked upon as a preferential treatment or bad faith, especially if you use the money to pay off creditors who are relatives. If you pay some creditors $600 or more, but not others, in the 90 days prior to filing, it could be looked upon as a preferential payment, and the trustee will get it back. Consult a bankruptcy attorney, or get more information if you decide to do this.

If you, and all other owners of the house, are at least 62 years old and it is your primary residence, then you may be able to get a reverse mortgage, which is a loan that you never have to pay back. The nonrecourse loan is repaid from the sale of the house after you die. For more information, see Reverse Mortgages.

Homestead Exemptions by State

Note that to use a state's exemption, you must be eligible under the residency requirements for exemptions specified in the BAPCPA.

The federal homestead exemption is listed in §522(d)(1) and, like the other federal exemptions, is adjusted every 3 years after 2004 in April according to the Consumer Price Index. The federal homestead exemption is $21,625 until April, 2013 when it will be adjusted again and can be doubled by joint filers. You can only use the federal homestead exemption if you choose the federal exemptions, which precludes you from using the state exemptions. You must compare the results of each set of exemptions to determine which will be best for you.

The following lists the homestead exemption for each state, with links to the state's official website for more detailed information, and shows whether a declaration of homestead may be required or if the homestead may be protected by the tenancy by the entirety or both: