When you file a Chapter 7 bankruptcy in Texas, you may have to turn over some or all of the money you receive (or may receive) from a lawsuit. Whether you are allowed to keep a lawsuit award or settlement (including one you may receive in the future) depends upon a special type of law called an “exemption.” If your lawsuit money is exempt, you can keep it after you file bankruptcy.
Continue reading to learn how exemptions laws work to protect your property in bankruptcy and what kinds of lawsuit or settlement money is protected under the Texas or federal exemption laws.
What Happens to Property and Assets in Chapter 7 Bankruptcy?
When you file a Chapter 7 bankruptcy, you can discharge, or wipe out, most types of debt. In exchange for your discharge, the bankruptcy trustee (the government attorney appointed to administer your case) may require that you turn over some of the property in your “bankruptcy estate.” The trustee will sell the property and give the proceeds to your creditors to repay all or part of your debt.
If state or federal exemption laws protect a specific piece of property in your bankruptcy estate, you will be allowed to keep it after you file a Chapter 7 bankruptcy. (Learn how exemptions help you protect property in bankruptcy.) Many people who file a Chapter 7 bankruptcy are allowed to keep most, if not all, of their property because it is protected by bankruptcy exemptions.
Lawsuit Proceeds and Your Bankruptcy Estate
Once you file a Chapter 7 bankruptcy, money you received, or may receive, from a lawsuit or legal claim becomes property of your bankruptcy estate. This includes:
- money that you have received from a lawsuit
- money you have not yet received from a lawsuit you've already filed, and
- money you might be entitled to receive, even if you have not yet filed a lawsuit.
In the documents you file with the bankruptcy court, you are required to list your interest in any legal claim, even if you don’t wish to file a lawsuit, or think you won’t receive any money. (Learn more about disclosing possible claims in bankruptcy even if you were not injured.) If you do not disclose your potential claim in a settlement or lawsuit, it can lead to serious consequences (To learn more, read Do I Have to List Possible Legal Claims in My Bankruptcy?)
The Bankruptcy Trustee’s Right to Pursue Claims for Damages
The bankruptcy trustee has a special right to step into your shoes if you have a claim against someone. That means that if you were injured in any way and may have the right to sue someone for damages, your bankruptcy trustee has the right to act on your behalf and decide for you whether to proceed with a lawsuit. The trustee is also allowed to choose the attorney who will represent you in the lawsuit, as well as when to (or not to) settle the claim.
For example, say you slip and fall while shopping in a store, but suffer only minor injuries. The damages are minimal, and you do not wish to pursue a claim against the store. As long as the statute of limitations in your state has not tolled, meaning you still have time to file a lawsuit for your injuries, you must disclose the potential claim in your bankruptcy papers, and the bankruptcy trustee may choose to pursue the claim on behalf of the bankruptcy estate by filing a lawsuit against the store.
Using Exemptions to Keep Lawsuit Proceeds
You can keep proceeds you receive (or will receive) from a lawsuit award or settlement if those proceeds are exempt under state or federal laws. (To learn more, see Can I Keep a Lawsuit Award or Settlement If I File for Chapter 7 Bankruptcy?)
Doubling Exemptions for Married Couples
If you and your spouse file a joint bankruptcy together in Texas, you may each claim an exemption in any property that you own, meaning you may be able to double your exemptions to protect your lawsuit proceeds. You may only use exemption laws to protect property that belongs to you, so your spouse cannot use an exemption if the lawsuit proceeds do not belong to him or her (if he or she is not a plaintiff in the suit).
Choosing Between the Federal and Texas Bankruptcy Exemptions
Both federal law and Texas law protect certain property when you file a Chapter 7 bankruptcy. (See Federal Bankruptcy Exemptions for more information.) In Texas, you can choose to use either the federal exemption laws or the Texas bankruptcy exemptions. You are required to choose one or the other; you cannot use both Texas law and federal law to protect your property.
Texas Bankruptcy Exemptions
Texas’ exemption laws protect several types of property, but they do not specifically protect lawsuit proceeds. Nor does Texas have a "wildcard" exemption that you can use towards any type of property.
If you have a claim or are expecting to receive lawsuit money when you file a Chapter 7 bankruptcy in Texas, you may be better off using the federal exemptions. Of course, this will depend on whether you have other property you wish to protect and how that property is treated by each of the exemption systems.
Federal Exemptions That Cover Lawsuit Awards and Settlements
The federal bankruptcy laws protect money you get from certain types of lawsuits or for particular types of damages that you might receive from a lawsuit. The federal bankruptcy exemptions also contain general exemptions (wildcard exemptions) that you can use to protect money you receive, or will receive, from a lawsuit. Below are the federal exemption laws that can be used to protect lawsuit or settlement proceeds if you file Chapter 7 bankruptcy in Texas. (For a more comprehensive list of the federal exemptions, read The Federal Bankruptcy Exemptions.)
Damages for Bodily Injury in Personal Injury Lawsuits
Under federal law, you can protect up to $22,975 of an award or settlement that compensates you for bodily injury suffered by you or someone upon whom you depend for support. In order to use this exemption, the settlement or lawsuit award must specifically state that the money is compensation for bodily injury. An award that you receive for pain and suffering is not protected under this law (11 U.S.C. § 552 (d)(11)(D).
Lawsuit proceeds that you receive for property damage are not specifically protected under the federal bankruptcy exemptions, but you can use the wildcard exemption (discussed below) to exempt money for property damage. If you were involved in a fender bender and received or and are going to receive money to repair your car, the bankruptcy trustee can take that money and use it to repay your creditors, unless it is protected by the wildcard exemption.
Damages for Lost Future Earnings
Federal bankruptcy law protects lost future earnings awards, if they are meant to compensate you for lost future wages or the lost future wages of someone upon whom you depend. Lost future earnings are protected to the extent that they provide for the reasonable support of you and your dependents (11 U.S.C. § 552 (d)(11)(E).
Awards for Wrongful Death
You can protect money intended to compensate you for the wrongful death of a person upon whom you or your dependents relied for support. Like lost earnings, federal law limits protection to the amount of money reasonably necessary to support you and your dependents. For example, if you are entitled to receive a large award for the wrongful death of your spouse, your bankruptcy trustee could argue that some of the money should be turned over to your creditors because it exceeds the amount a reasonable person would need to take care of him or herself and his or her family. (11 U.S.C. § 552 (d)(11)(B).
Federal Wildcard Exemption
The federal wildcard exemption allows you to protect up to $1,225 worth of any property that you own, including lawsuit or settlement proceeds that you have received or may receive. Additionally, if you don’t use the full amount of the federal homestead exemption (the exemption you can use to protect your residence), you can apply the exemption to protect up to $11,500 your lawsuit proceeds (11 U.S.C. § 552 (d)(5). (Learn more about using wildcard exemptions in bankruptcy.)
Exemptions May Not Apply to Commingled Funds
The federal exemption laws may not protect your lawsuit settlement or proceeds if you commingle, or combine, the funds with any other money. If you deposit money from a lawsuit or settlement into an account with money from another source, your bankruptcy trustee could argue that the federal exemption laws no longer protect your lawsuit money.