Should I File for Chapter 7 or Chapter 13 If I Want to Keep My Home?

Many people keep homes in Chapters 7 and 13, and because each offers unique solutions to debt problems, the chapter you choose will depend on your needs. For instance, only Chapter 13 can resolve late payment and foreclosure issues or eliminate mortgages and liens. Because Chapter 7 can't solve those issues, Chapter 7 filers must be current on payments and be able to protect all home equity with a bankruptcy exemption (a law that protects property from bankruptcy creditors) to prevent losing their homes.

Chapter 13 filers have more options, but taking advantage of them can be costly. A Chapter 13 debtor uses the three- to five-year plan to catch up on missed payments and pay for home equity not protected by a bankruptcy exemption. In rare cases, a Chapter 13 debtor can eliminate mortgages and liens, but only if the property value is less than what's owed. Learn the differences between Chapters 7 and 13 and when filing for Chapter 7 is better than Chapter 13 when you want to keep a house.

Can You File for Bankruptcy and Keep a House in Chapters 7 and 13?

Your house is likely your most valuable asset, but it's more than that. It's where you've built memories, established neighborhood friends, and where your kids attend school—and it's possible to protect it in bankruptcy. Many people keep their houses when filing for bankruptcy when they qualify for the chapter designed to meet their home needs. We explain how to determine whether you can use bankruptcy chapters 7 and 13 bankruptcy while remaining in your home. But remember, even if keeping it isn't possible, bankruptcy filers regularly move on to live happy, fulfilling lives free of debt and stress.

How Much Home Equity Do You Have?

Calculating home equity is the starting point of the analysis. You must complete this critical step regardless of whether you choose Chapter 7 or Chapter 13. In both chapters, you can protect or keep home equity covered by a bankruptcy exemption. Creditors are entitled to any nonexempt equity not covered by an exemption. This step will help you determine the extent to which the bankruptcy laws will protect your home equity.

You'll calculate your home equity by subtracting from the property's value the amount owed for mortgages, home equity loans (HELOCs), and other liens encumbering the property. You can find a reasonable home value by reviewing sites like realtor.com or Zillow, although the trustee could require a professional appraisal (although uncommon, it could happen if the value used appears unreliable). The amount remaining is the property equity—the amount you'd receive if you sold the home and paid off the mortgages and liens. That's the portion you must protect with a bankruptcy exemption.

If your equity is fully exempt, bankruptcy creditors won't be a problem. They're only paid if you have nonexempt equity (the manner of payment depends on the chapter filed, which we cover in more detail below). You can use the links in the next section to find out how much home equity you can exempt.

How Much Equity Will Bankruptcy Exemptions Protect?

Almost every state has its own list of exemptions, and the protection offered by state exemptions varies widely. Also, your state might use the federal bankruptcy exemptions instead, or give you the choice of using the federal exemptions instead of the state exemptions. Filers who can choose should use the set that best meets their needs.

When reviewing the state and federal exemptions, look for homestead and wildcard exemptions. The homestead exemption is explicitly designed to protect home equity. Don't be surprised if it seems low. Only a few states, like Texas and Florida, let bankruptcy debtors keep their homes regardless of value.

Most states have a much lower "homestead exemption," with amounts varying widely between states. For instance, your state might have a $50,000 homestead exemption, while the neighboring state offers $500,000 of home equity protection. Because of the differences, people with significant home equity in states other than Texas and Florida are less likely to file for bankruptcy—other states don't consider these debtors bankrupt because they can use their home equity to repay creditors.

If the homestead exemption isn't sufficient, look for a wildcard exemption. Some states allow filers to stack a "wildcard" exemption onto a homestead exemption. A wildcard exemption applies to a more extensive variety of property, but in most cases, limitations exist, so read the statute carefully. It's common for a wildcard exemption not to apply to real estate. Also, not all states have wildcards.

Protecting Houses With Exemptions in Chapter 7 Bankruptcy

When you can't fully exempt your home equity and want to keep your home, Chapter 7 isn't the best chapter to file because the Chapter 7 court-appointed trustee will sell your house. The trustee will use the proceeds to pay off the mortgage, give you the homestead exemption amount, and deduct sales costs and the trustee's fee. The trustee will pay unsecured debts, such as credit card balances, medical bills, and payday loans, with what remains.

Example. Suppose you have $50,000 in equity in your house, but the maximum amount you can exempt is $30,000. The Chapter 7 trustee will sell the home, pay off the mortgage, and give you the $30,000 homestead exemption amount. The trustee will also deduct sales costs and the trustee's fee before distributing what remains to creditors.

Protecting Houses With Exemptions in Chapter 13 Bankruptcy

Chapter 13 bankruptcy works differently. Instead of giving up property you can't protect with an exemption, you'll pay for the nonexempt portion in your plan. Of course, this could get expensive if you have significant nonexempt equity. If you can't prove you have enough income to pay the house's nonexempt equity and other required amounts, the bankruptcy court won't approve or "confirm" your plan.

Example. Suppose you have $50,000 in equity in your house, but the maximum amount you can exempt is $30,000. You'll have to structure your Chapter 13 payment plan so that your unsecured creditors will receive at least $20,000 over the life of the plan, minus sales costs and the fee the Chapter 7 trustee would have charged to sell the property. In Chapter 13, you can deduct the amount it would have cost to sell the property had you filed for Chapter 7. This allowance ensures filers pay the same amount for equity in both Chapters 7 and 13 under the "best interest of creditors" rule. The amount paid to cover nonexempt equity is in addition to any other debts your plan payment must cover, like mortgage arrearages and car payments.

Do You Meet Payment Requirements for Homes in Bankruptcy?

Protecting all home equity is one piece of the puzzle, and for it to fit, you must comply with the abovementioned bankruptcy laws. Your payment status is another important consideration, but instead of bankruptcy laws, you must meet the lender's contractual right to payment. Why? Because the lender's lien rights allow the lender to recover the home if you don't pay as agreed.

Chapter 7 Bankruptcy and Past-Due Mortgage Payments

Chapter 7 bankruptcy is often more attractive than Chapter 13 because it's more straightforward, and most cases are over in about four months, getting you on the road to financial stability sooner. Another big draw is that Chapter 7 filers don't repay creditors. Plus, you can keep your house if you meet the following criteria:

• You're current on your house payments.
• You can protect your home equity with a bankruptcy exemption (we discussed this requirement above).
• You'll be able to continue making your payments in the future.

However, keeping a house in Chapter 7 bankruptcy can be more challenging because it doesn't offer a lengthy plan to help you manage mortgage debt or pay for nonexempt equity. If you're behind on payments, the lender will use its lien rights to foreclose on the home after the bankruptcy case ends, or ask the court to lift the automatic stay during the bankruptcy case to allow the lender to move forward with foreclosure.

Example. Suppose you don't have any equity in your house when you file for Chapter 7, but you're $7,000 behind on your loan payment. Your lender loses money when you don't pay each month and wants to cut losses as soon as possible. The lender files a motion asking the bankruptcy court to lift the automatic stay so the lender can pursue foreclosure. The Chapter 7 trustee isn't interested in the home because of the lack of equity available to pay creditors and doesn't object to the motion. You can't bring the home current because if you could, you would have done so before filing. Because the trustee has no interest in the home and you can't bring it current, and the lender has a lien entitling the lender to recover the home after nonpayment, the bankruptcy judge grants the motion, allowing the lender to proceed with foreclosure.

Example. Assume the same facts except the lender doesn't file a motion asking the bankruptcy court to lift the automatic stay. In this case, the lender will wait until the Chapter 7 case ends and the automatic stay lifts to proceed with foreclosure.

Chapter 13 Bankruptcy and Past-Due Mortgage Payments

If you can't meet Chapter 7 requirements, Chapter 13 bankruptcy will be worth looking into. The Chapter 13 repayment plan gives you a better chance of keeping the home because you can address past-due payments and nonexempt equity. Chapter 13 might also allow you to eliminate a junior mortgage or home equity line of credit (HELOC) using a lien stripping procedure (more below).

However, it can be expensive depending on how far you've fallen behind and, as discussed above, if you must pay for nonexempt equity. Here's what's involved.

• You must propose a repayment plan. In Chapter 13 bankruptcy, you propose a repayment plan allowing you to pay your creditors over three to five years. You can treat your mortgage arrearage as a separate debt and add it to your payment plan. The benefit is catching up on arrears over three to five years. Some courts require filers behind on a mortgage to pay the monthly mortgage payment through the plan, which is expensive because filers must pay the trustee a monthly fee of up to 10%.
• Show sufficient income. Using the Chapter 13 plan to catch up on your arrearages will work if you have enough income to make your regular monthly mortgage payment and plan payment while in bankruptcy. The mortgage holder can't foreclose as long as you pay your house and plan payments and keep to your mortgage terms, such as ensuring you have homeowners' insurance.

Example. Suppose your bankruptcy lawyer calculates the monthly amount you'd be required to pay in a Chapter 13 plan. The $500 monthly payment includes $200 for mortgage arrearages, $150 for spousal support arrearages, and $150 for nonexempt home equity. However, after deducting reasonable living expenses from your monthly income, you're left with only $250 monthly. You won't be able to demonstrate that you earn enough to support a Chapter 13 plan.

Example. Assume the same facts as above, except after deducting reasonable living expenses from your monthly income, you're left with $600. You can pay the required amounts and an additional $100 monthly toward nonpriority unsecured creditors, such as credit card balances, medical bills, and outstanding utility payments. The bankruptcy judge will approve or "confirm" your Chapter 13 plan.

You'll find more extensive examples illustrating how Chapters 7 and 13 work in our "Filing for Bankruptcy" article.

Can You Use Chapter 13 Bankruptcy to Remove Mortgages?

If you have a junior lien or HELOC on your home, you might be able to get rid of it through a process called "lien stripping." Lien stripping is available in a Chapter 13 case when your property is worth less than the primary loan balance.

To strip the lien, you must alert the court either in your Chapter 13 plan or by motion (the procedure will depend on your particular court). You'll present evidence of the property's value and mortgage loan balances. If the court finds one of the loans "wholly unsecured," meaning if the house were sold and the loans paid in order, not even a dollar would be available to pay the loan, the court will remove the lien from the loan.

You'll pay the lien-stripped loan with other unsecured debts, which must share your disposable income. In most instances, the remaining balances get wiped out at the end of the case (student loans are a common exception). Learn about lien stripping and getting rid of second mortgages in Chapter 13 bankruptcy.

Need More Bankruptcy Help?

Did you know Nolo has made the law accessible for over fifty years? It's true, and we wholeheartedly encourage research and learning. You can find many more helpful bankruptcy articles on Nolo's bankruptcy homepage. For instance, Nolo articles will explain what bankruptcy can do, what you'll want to avoid before filing for bankruptcy, and more. Information needed to complete the official downloadable bankruptcy forms is on the Department of Justice U.S. Trustee Program website.

However, online articles and resources can't address all bankruptcy issues and aren't written with the facts of your particular case in mind. The best way to protect your assets in bankruptcy is by hiring a local bankruptcy lawyer.