Your Home in Chapter 7 Bankruptcy

Most Chapter 7 bankruptcy filers can keep a home if they're current on their mortgage payments and don't have much equity. However, a debtor will likely lose the house in a Chapter 7 bankruptcy if there's significant equity that the trustee can use to pay creditors. Whether Chapter 7 bankruptcy makes sense when you own your home depends on your goals. Do you want to save your house, delay foreclosure, or just walk away with less debt?

Will a Bankruptcy Trustee Sell Your Home in Chapter 7?

You can keep your home in Chapter 7 bankruptcy if you don't have any home equity, or you can protect or "exempt" your equity using the homestead exemption. (11 U.S.C. § 522.) The bankruptcy trustee appointed to administer your matter won't sell it because, without available equity, there wouldn't be any money to distribute to your "unsecured" creditors, like medical bills, credit card balances, and other debts that aren't guaranteed by collateral.

But that doesn't mean you'll be able to keep the home. You must be current on your monthly payments when you file for bankruptcy and be able to stay current in the future. Otherwise, you'll risk losing your home through foreclosure.

How to Determine What Will Happen to Your Home in Chapter 7 Bankruptcy

Your home equity is the difference between your home's fair market value and what you owe on all mortgages and liens. The homestead exemption protects a specified amount of this equity from creditors. If your equity falls within your state's exemption amount, the trustee typically won't sell your home because there would be no money left for unsecured creditors after paying off the mortgage and giving you your exemption amount.

Understanding Your State's Homestead Exemption

When you file for bankruptcy, you can keep, or "exempt," the equity in certain types of property. The homestead exemption protects a specified amount of equity in your home or permanent residence. (11 U.S.C. § 522(d)(1).)

You can claim the homestead exemption on one residential property that is your primary residence. A few states allow broader protection that extends beyond your personal residence. Also, under some states' exemption schemes, you can use the homestead exemption to protect a residential trailer or burial plot.

How Much Home Equity Can You Protect?

Most states' homestead exemptions protect a specific amount of equity. In contrast, others limit the number of acres you can protect from creditors. But other limiting factors also exist. Here are a few concepts to be aware of.

State Versus Federal Homestead Exemption

Some states let you use the federal bankruptcy exemptions instead of the state exemptions.

State homestead exemption. Each state creates its own set of exemptions residents can use to protect property from creditors, and the homestead exemption varies widely among the states. Some allow you to protect as little as a few thousand dollars in equity. In another, you can exempt up to $600,000, or even the entire value of the real property. But most states fall between these extremes.

Federal homestead exemption. The federal law also has a list of exemptions. You'll use this list if you can't claim state residency (it's rare, but it happens). Also, some states allow you to choose between the state and the federal exemption system—but you must select one list exclusively (no mixing exemptions from each list). (11 U.S.C. § 522(b).)

Common State Homestead Exemption Amounts

Here are examples of the federal homestead exemption and homestead exemptions in various states (amounts adjust periodically):

• Federal exemption. Approximately $31,575 (valid until March 31, 2028, when it will adjust for inflation)
• Texas. Unlimited value for up to 10 acres (urban) or 100 acres (rural) for families (Tex. Prop. Code §§ 41.001, 41.002.)
• Florida. Unlimited value for up to 0.5 acre (urban) or 160 acres (rural) (Fla. Const. Art. X, § 4.)
• Arizona. $425,000 (Ariz. Rev. Stat. §§ 33-1101, 33-1103.)
• Massachusetts. $125,000; $1,000,000 to $2,000,000 with filed homestead declaration (Mass. Laws ch. 188, §§ 1–14; ch 235, § 34.)
• Pennsylvania. None—filers must use the federal exemption.
• New Jersey. None—filers must use the federal exemption.

You'll find the amount that applies to you in your state's bankruptcy exemptions.

The Federal Exemption Cap

The bankruptcy code limits the amount of equity you can exempt if you move to another state less than 40 months before filing for bankruptcy. (11 U.S.C. § 522(p).) This rule prevents people from moving from a state with a small homestead exemption to one with an unlimited homestead exemption, thereby protecting more of their assets.

• If you've owned a home continuously in the state for at least 40 months, you can exempt the total amount of equity in the property that's allowed under the exemption.
• If you sold a home in the state and used the proceeds to purchase another one, the time you owned your old property counts toward the 40 months.
• If you've owned your homestead for fewer than 40 months, you can only exempt up to approximately $214,000, regardless of your state's exemption amount (valid until March 31, 2028; adjusts every three years for inflation).

State Residency Requirements

Another federal bankruptcy code provision that can affect your homestead exemption is the 730-day rule. (11 U.S.C. § 522(b)(3)(A).) To use state exemptions, you must have lived in the state for at least 730 days. Otherwise, you apply the exemptions of the state where you lived for the better part of the 180 days immediately before the 730-day period.

You must go back 910 days, then look forward 180 days. You'll apply the exemptions of the state you predominantly lived in during that 180-day period.

Calculating Nonexempt Equity: Will the Trustee Sell?

Start with the fair market value of your home and subtract the following:

• the homestead exemption amount you're entitled to claim (usually between $10,000 and $100,000)
• the trustee's commission on the difference (statutory maximum of 25% of the first $5,000, 10% of the next $50,000, and 5% of the rest, up to one million)
• the costs of sale (usually around 8% of the fair market value)
• the amount owed on all mortgages, and
• the amount of all non-mortgage liens secured by the home (such as a tax lien).

If you end up with a negative number:

You don't have sufficient equity to trigger a sale. The Chapter 7 bankruptcy trustee won't have an incentive to sell your home because there won't be anything remaining to be used to pay the unsecured creditors. The trustee will abandon the property in the Chapter 7 case.

If you end up with a positive number:

This is the amount the bankruptcy trustee could use to pay your unsecured creditors. In this case, the Chapter 7 bankruptcy trustee might sell your home, give you the amount of the homestead exemption, pay off mortgage and lien holders, and use the rest to pay off unsecured creditors.

Example. Connie owns a home worth $300,000 with a $250,000 mortgage. She lives in a state with a $50,000 homestead exemption. Here's how to calculate whether the trustee will sell her home:

• start with the home's fair market value of $300,000
• subtract the mortgage balance of $250,000
• subtract the $50,000 homestead exemption
• subtract $24,000 (8%) for sales costs, and
• subtract the trustee commission $1,250 (approximately 25% of the first $5,000).

The result? The trustee won't sell Connie's home because, after paying off the mortgage, giving Connie her exemption, and covering sale costs and commission, there would be nothing left for unsecured creditors.

Tip. When listing the value of your home on bankruptcy schedules, you don't deduct the various costs discussed above. You list the home's fair market value. The calculations above are only for the purpose of illustrating a Chapter 7 trustee's process when determining whether to sell a house.

Bankruptcy vs. Foreclosure: Understanding the Difference

If you're behind on your mortgage payments, you'll eventually lose your home in foreclosure outside of bankruptcy, even if the bankruptcy trustee doesn't sell your home. The bankruptcy trustee only sells homes when there's nonexempt equity that can be distributed to unsecured creditors. Foreclosure, on the other hand, occurs when you fail to make mortgage payments, regardless of how much equity you have.

Here are the key differences:

• Bankruptcy trustee sale. Occurs only when you have significant nonexempt equity; proceeds go to unsecured creditors after paying secured debts and giving you your exemption.
• Foreclosure. Occurs when you're behind on mortgage payments; your lender sells the home to recover what you owe on the mortgage.

How Chapter 7 Bankruptcy Affects Foreclosure Proceedings

Chapter 7 bankruptcy might provide temporary relief from foreclosure, but it won't help you keep the home. (11 U.S.C. § 362.) It doesn't have a mechanism to pay off arrears or permanently stop foreclosure.

Here are some options to consider.

Loan Modification Options Before Filing Bankruptcy

If you are behind on mortgage payments, you might be able to negotiate with the lender to address the shortfall, either informally or through a more formal "mortgage workout," in which the lender agrees to renegotiate payment terms by modifying the loan or refinancing. If you go this route, complete the loan modification before filing for bankruptcy. Otherwise, the bankruptcy will likely disrupt any ongoing negotiations.

Also, if you're behind on payments and work out a modification before filing, you'll be considered current and able to keep your house in Chapter 7 as long as all of the equity is protected.

Some common loan modification programs include:

• forbearance agreements that temporarily reduce or suspend payments
• loan modifications that extend the loan term or reduce the interest rate
• repayment plans that add past-due amounts to your regular payment over several months, and
• principal reduction (less common but available in some cases).

Reaffirmation agreements. Some mortgage lenders require you to sign a reaffirmation agreement, which makes you personally liable for the mortgage debt even after bankruptcy discharge. Consult with your bankruptcy attorney about whether reaffirmation is necessary or advisable in your situation. Many filers can keep their homes by simply continuing to make payments without reaffirming.

Chapter 13 Bankruptcy: Saving Your Home With a Repayment Plan

If you've fallen behind on your payments but now have enough income to catch up on the mortgage arrearage over time, you can save your home in Chapter 13 bankruptcy. (11 U.S.C. § 1322(b)(5).)

Unlike Chapter 7, Chapter 13 allows you to propose a repayment plan lasting three to five years. Through this plan, you can:

• catch up on missed mortgage payments while making current monthly payments
• stop foreclosure permanently as long as you comply with the plan, and
• keep your home even if you have significant nonexempt equity.

In Chapter 13, you'll make monthly payments to a bankruptcy trustee, who distributes the money to your creditors according to your plan. Your mortgage arrears are paid through the plan, while you continue making regular monthly mortgage payments directly to your lender.

What to Do Next

If you're considering Chapter 7 bankruptcy and own a home, take these steps:

• Calculate your home equity. Get a current market valuation of your home (consider a professional appraisal or comparative market analysis) and subtract all mortgage balances and liens.
• Research your state's exemptions. Check your state's homestead exemption amount and determine whether you meet residency requirements to claim it.
• Run the numbers. Use the calculation method above to determine whether you have nonexempt equity that could trigger a trustee sale.
• Consult a bankruptcy attorney. If your equity is close to the exemption limit, or if you're behind on payments, discuss your options with a local bankruptcy lawyer who understands your state's specific rules and can evaluate whether Chapter 7, Chapter 13, or alternatives better serve your goals.

Need More Help?

Did you know Nolo has made the law accessible for over fifty years? It's true, and we wholeheartedly encourage research and learning. 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.