The Exemptions: Keeping Your Property in Bankruptcy

Prospective clients usually ask me the following question: “If I declare bankruptcy will I lose my property?” (I will answer this question assuming you’re filing a chapter 7. In a chapter 13 you do not lose any property.)

The short answer usually is “no”. But let me explain.

I tell my clients that the basic concept behind a chapter 7 bankruptcy has 2 parts:

1. Part 1 of the basic concept: When you declare bankruptcy you turn over all your property to the court. The court divides up your property among your creditors that’s considered full payment of your debts.

2. Part 2 of the basic concept: In order to launch a fresh start people need a certain amount of property. Therefore the law allows you to keep enough property to allow you to launch a fresh start.

So how much property does the law allow you to keep?

There are lists of property that you are allowed to keep. This is called your “exempt property”. So if you want to see if you can keep an item of property, let’s say your car, you consult the list of exemptions to see if your car is exempt.

Each state has its own system of exemptions.

In California, you must choose between 2 sets of exemptions. They are usually called the 703 exemptions and the 704 exemptions.

You must decide which set (703 or 704) you use. You can not pick and choose from two sets of exemptions.

The first decision you and your attorney make is which exemption set do you use: The 703 set or the 704 set?

The answer to the question usually boils down to whether you have a significant amount of equity in your home. If you do not have significant equity in your home you will probably use the 703 exemptions. If you do have significant equity in your home you will probably use the 704 exemptions.

Both the 703 and the 704 exemptions have an exemption for your home. But they differ greatly.

EXEMPTIONS FOR YOUR HOME

The 703 home exemption is around $30,000. I say “around” because it changes every year. But if you don’t own a home the 703 home exemption can be used to exempt any property…it doesn’t have to be a home. or this reason, the 703 home exemption is usually referred to as the Wildcard Exemption. For example, you might have $20,000 cash in the bank. You could use the 703 Wildcard Exemption to exempt the cash in the bank.

The 704 home exemption is much greater than $30,000. The 704 home exemption (since it was increased in September 2020) is the greater of $300,000 or the countywide median sale price of a single-family home in the calendar year prior to the calendar year in which the judgment debtor claims the exemption, not to exceed $600,000. These amounts are adjusted annually for inflation.

There is a cap on the amount of homestead exemption you can take. The cap only applies if you acquired the property during the 1,215-day period (3 years, 4 months) before filing the bankruptcy petition. At the present time, the cap is $135,750.00. §522(p)

There is another potential issue with the home exemption:

Under 522(o) … the value of an interest in –
(4) real or personal property that the debtor or a dependent of the debtor claims as a homestead; shall be reduced to the extent that such value is attributable to any portion of any property that the debtor disposed of in the 10-year period ending on the date of the filing of the petition with the intent to hinder, delay, or defraud a creditor and that the debtor could not exempt, or
that portion that the debtor could not exempt … if on such date the debtor had held the property so disposed of.

You might say to yourself: I’ve only got $200,000 equity in my home. I have $50,000 in the bank. If I file ch 7 bankruptcy I’ll lose the $50,000. So I’ll pay down my mortgage and convert the $50,000 into an exempt asset (home equity). This statute prevents you from doing that.

There are 2 ways to get a homestead exemption: 1) You can record a Declaration of Homestead. 2) If you don’t record a Declaration of Homestead you get an Automatic Homestead.

Usually, it is not necessary for you to record a Declaration of Homestead exemption. You can simply use the automatic one. But there is an important exception below.

What if you sell your home and put the money from the sale in the bank? Is the money traceable from the sale exempt under the homestead exemption? Yes for 6 months but only if you obtained the homestead exemption by recording the Declaration of Homestead. So if you plan on selling your house before filing bankruptcy you’d better record a Declaration of Homestead.

Before you file bankruptcy planning on using the homestead exemption to protect your home be sure that you own your home personally. If you have an LLC that is the legal owner of your home you won’t be able to use the homestead exemption. Instead of owning a home, you’ll be the owner of an interest in an LLC.

The biggest drawback in using the 704 exemptions is that there is no “Wildcard Exemption”. So what happens if you have some cash in the bank when you file ch 7 using the 704 exemptions? Until recently the answer was that you’d lose it. But the law recently changed. Since the beginning of 2020 we have had a new 704 exemption: CCP 704.225 Under this exemption you get to exempt money in a deposit account to the extent necessary for the support of the judgment debtor and the spouse and dependents of the judgment debtor. How much is that? No one knows exactly. Arguably, it’s enough for one month of expenses. But we’ll see in the coming years how the courts interpret this.

THE EXEMPTION FOR YOUR CAR UNDER THE 703 EXEMPTIONS

Under the 703 exemptions, the amount of the car exemption is $5,300. I’m talking about the equity in your car. So if your car is worth $10,000 and you owe $5000 the equity is $5000 which is less than the car exemption. So your car is exempt.

What if you have 2 cars, one worth $3,000 and one worth $2,000? As long as the equity in both adds up to under $5,300 they are both exempt.

What if you have equity in your car of $6,000…does that mean the court will take the car? If your property’s value exceeds the amount of the exemption for that category of property you can use the “wild card” exemption to exempt the value over the amount allowed for that exemption.

So in this example, the first $5,300 of equity is exempt under the vehicle exemption. The $700 balance exempt under the $28,225 wildcard exemption. By doing this you have used $700 of your wild card exemption. But you still have $27,525 of wild card left.

THE EXEMPTION FOR YOUR CAR UNDER THE 704 EXEMPTIONS

The treatment for cars under the 704 exemptions is less favorable than under the 703 exemptions.

Under the 704 exemptions, the vehicle exemption is only $3,050.  As in the case of the 703 exemptions you can use it for more than one vehicle.

There is no wild card exemption in the 704 system of exemptions.

Here’s more on dealing with vehicles in bankruptcy.

JEWELRY

In the case of jewelry and furs, the 704 exemptions are more generous than the 703.

Under the 703 exemptions, the exemption amount is $1,600. And, as discussed above, if you have more than that you can use more of your wild card exemption to exempt the jewelry.

Under the 704 exemptions, it’s $8,000. There’s no wild card under the 704 exemption so if you’ve got more than $7,625 consider selling it before you file.

CLOTHES AND HOUSEHOLD ITEMS

These are completely exempt under both the 703 and the 704 exemptions.

CASH, BANK, STOCKS, AND BONDS

These are all treated like cash. There is no exemption under either 703 or 704 for this type of property. But under the 703 exemptions, you can exempt this type of property using the wild card exemption. But if (outside of your retirement accounts – IRAs, etc) you have any money, stocks, bonds, etc and you’ve filed using the 704 exemptions you will lose it.

RETIREMENT ACCOUNTS

These are usually exempt under both the 703 and 704 exemptions.

Before 2005 there was a considerable amount of doubt in this area of bankruptcy law. A debtor had to determine if his or her retirement account was set up under ERISA and if not whether the debtor could show that the retirement account was really necessary for his or her retirement. Fortunately, in 2005 Congress passed a law making tax-deferred retirement accounts exempt in bankruptcy.

As it stands now under 11 USCA § 522(b)(3)(C) a California debtor may claim an exemption for retirement funds in a fund or account so long as it is exempt from taxation under any of the following provisions of the Internal Revenue Code:
__ > 26 USCA § 401 (> § 401(k) accounts);
__ > 26 USCA § 403 (employee annuities);
__ > 26 USCA §§ 408, > 408A (IRA accounts);
__ > 26 USCA § 414 (employee defined benefit/contribution plans);
__ > 26 USCA § 457 (state and local government deferred compensation plans); or
__ > 26 USCA § 501(a) (qualified pension, profit_sharing and stock bonus plans).

So almost all retirement accounts are safe in bankruptcy.

PERSONAL INJURY AND WORKER’S COMPENSATION

Here 704 may be more generous than 703.

Under the 704 exemptions, a worker’s compensation claim is exempt. CCP 704.160 (a).
Personal injury claims are completely exempt before the settlement money is paid 704.140 (a). After the settlement funds are received it is still exempt but only to the extent necessary for the support of the judgment debtor and the spouse and dependents of the judgment debtor.
Under the 703 exemptions effective January 1, 2013 under (CCP 703.140(b)(10)(C) claims for personal injury are exempt up to $24,060.

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