An Introduction to Bankruptcy Exemptions

Figuring out which bankruptcy exemptions to use and how to use them is one of the most challenging parts of filing for bankruptcy. It’s difficult because bankruptcy law is a confusing mixture of federal and state law. Although the US Constitution gives the federal government the power to pass laws about bankruptcy, the federal government also gave each state long ago the authority to choose which properties a debtor can keep when he or she files for bankruptcy. The laws protecting these properties from creditors and the bankruptcy trustees are called exemptions.

Bankruptcy Estate

When you file for bankruptcy, the property you own at that point (and sometimes shortly after that), is part of what is called your bankruptcy estate. Federal law determines what is included in your bankruptcy estate. Every state’s exemptions automatically include these. For example, 11 U.S.C. §541 excludes certain educational funds—monies you’ve put in an educational retirement account or a qualified state tuition program for the benefit of your child or grandchild—from your bankruptcy estate. To qualify the funds must have been deposited more than a year before you filed for bankruptcy. Funds deposited into plans more than one year but less than two years before the bankruptcy filing are excluded to the amount of $6,825 (this dollar amount is adjusted every three years based on the CPI; the next inflation adjustment is April 1, 2022).

Property that is included in your bankruptcy estate under federal law can be taken and sold to pay your creditors, unless it is exempt.

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A Choice Between State and Federal Bankruptcy Law Exemptions

Some states have created their own set of exemptions that replace the federal list entirely, while others offer a choice to the debtor of using federal or state depending on his or her circumstances. California offers residents a choice between two sets of exemptions, but both come under California state law.

States where you have the choice of using either the federal exemptions or the state exemptions (you never get to use both at the same time) are: Alaska, Arkansas, Connecticut, District of Columbia, Hawaii, Kentucky, Massachusetts, Michigan, Minnesota, New Hampshire, New Jersey, New Mexico, New York, Oregon, Pennsylvania, Rhode Island, Texas, Vermont, Washington, and Wisconsin.

Federal exemptions differ from state exemptions and state exemptions vary from jurisdiction to jurisdiction. For instance, the maximum exemption for a car in Florida is $1,000, while in Texas it is entire value of one car per licensed household member. In some states, a debtor’s residence can never be taken, no matter how valuable it is, while in others the protected value is less than $10,000. This means that how much you lose to creditors or have to give up when you file for bankruptcy depends largely on where you live.

The federal exemptions are adjusted every three years to reflect changes in the CPI.  The next inflation adjusted increase will be April 1, 2022.

If you use the state exemptions in any state, you can also claim certain exemptions set by federal law as well as those listed in the federal non-bankruptcy exemptions. Are you beginning to see why it’s so confusing?

Wildcard Exemptions

Several states have created a “wildcard,” which is an exemption that you can apply to any property. For example, if you own a car in Connecticut worth $4,500 and the exemption for motor vehicles is $3,500, you can use the $1,000 the state allows as a wildcard to make up the difference. You can also use a wildcard to exempt property that isn’t listed as an exemption, such as a piece of art. The value of the wildcard, like other exemption amounts, varies from state to state.

Residency Requirements for Bankruptcy Exemption

On top of the state versus federal law options, you must also pay attention to the residency requirements. The 2005 revisions to the bankruptcy laws created new residency requirements for debtors. Congress wanted to discourage people from moving to states with more liberal exemptions and then filing for bankruptcy. You must, therefore, have lived in a state for two years before you can use that state’s exemptions. If you have lived there for less than 2 years, you count back 2 years from the date you file for bankruptcy and then look at where you lived for the 180 days (6 months) before that. Whichever state you have lived in for the longest time during that 6-month period is the state whose exemptions you can use. Some states, though, don’t allow you to use their exemptions unless you currently live in that state. If you get caught in this gap, you’ll have to use the federal exemptions.

Although you can’t use state exemptions if you have lived in a location for less than two years, you can use the federal exemptions after only 91 days if the state where you’re filing allows you to. For example, if you want to use the federal exemptions but live in Virginia, where they are not allowed, you can move to New Jersey, live there for 91 days and file for bankruptcy in New Jersey using the federal exemptions. If you have lived in a new state for less than 91 days, you must either file in the last state you lived in for more than 91 days or wait to file your bankruptcy until after you’ve lived in your current state for 91 days.

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How to Choose Between Exemptions

The exemptions that work best for you will depend on the property you most want to protect. If your priority is to protect your home, you will focus on homestead exemptions. If your state’s homestead exemption is larger than the federal exemption of $25,150, the state exemptions might work better for you. If your main asset is a motor vehicle, you will look at the amount of exemption available for a car, as well as any wildcard amount.

For example, the federal exemptions (and the alternate California exemptions) allow you to use at least part of the homestead exemption as a wildcard for other property. This means under the federal exemptions, you can exempt $4,000 for a motor vehicle and add up to $12,575 of the unused homestead exemptions as a wildcard, plus the federal wildcard amount of $1,325. For people who don’t own their homes, the federal exemptions and the alternate California exemptions are usually more favorable.

How Being Single or Married Affects Bankruptcy Exemption

In some circumstances, a married couple filing a joint bankruptcy can double the amount of exemptions. You may always do this under the federal exemptions, if they are available in your state. State exemptions, however, sometimes allow you to double the exemption amount and sometimes they don’t. You’ll need to check your state’s exemptions carefully.

If you intend to double the exemptions amount for a single piece of property, such as the homestead exemption on your residence, the property must be jointly owned by you and your spouse. Otherwise, you can only take one exemption.

Filing for bankruptcy is a lot easier with the help of a local bankruptcy attorney.

Click here for information on specific state bankruptcy exemptions.

Case Studies: An Introduction to Bankruptcy Exemptions

Case Study 1: John’s Struggle to Protect His Assets

John, a middle-aged individual facing overwhelming debt, decided to file for bankruptcy to alleviate his financial burden. However, he was unsure about which exemptions to choose—federal or state—and how they would affect the protection of his assets.

Seeking guidance, John consulted with a knowledgeable bankruptcy attorney who assessed his specific circumstances and advised him on the most favorable exemptions to maximize asset protection.

Case Study 2: Sarah’s Dilemma as a Homeowner

Sarah and her spouse found themselves in dire financial circumstances, with their mortgage payments becoming increasingly difficult to manage. Considering bankruptcy as a potential solution, they were concerned about the impact on their home.

Through consultations with a seasoned bankruptcy attorney, Sarah and her spouse learned about the intricacies of homestead exemptions and how they could safeguard their residence while undergoing the bankruptcy process.

Case Study 3: Mark and Lisa’s Joint Bankruptcy Strategy

Mark and Lisa, a married couple facing substantial debt, decided to file for joint bankruptcy. They were aware of the possibility of doubling exemption amounts under certain circumstances but were uncertain about the eligibility criteria.

With the help of a knowledgeable bankruptcy attorney, Mark and Lisa navigated the complexities of their state’s exemptions and successfully leveraged the joint filing to maximize their exemption benefits.

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