Should I File for Bankruptcy If I Have Equity in My Home?

Home equity is often a filer's most valuable asset. It's also a significant potential source of creditor payments in a bankruptcy case, making protecting it crucial if you want to keep your home. Because home equity plays an essential role in whether you retain or lose your home, it can affect your decision to file for bankruptcy. Read on to learn how to protect home equity in bankruptcy.

Your Home Equity in Bankruptcy

You can assume that your creditors and the trustee appointed to your case will pay close attention to whether you have equity in your home when you file for bankruptcy. Why? Because it's a key source of bankruptcy funds in Chapters 7 and 13.

Calculating home equity is simple. You have equity if your home is worth more than you owe for primary and junior mortgages and other property liens, such as tax liens.

Protecting Home Equity With Bankruptcy Exemptions

You won't necessarily lose your home if you have equity in it. Bankruptcy filers are allowed to keep property necessary to work and live, including some amount of home equity. A few states even allow filers to protect residential homes regardless of value.

The way you'll determine whether you're entitled to keep all home equity is by examining your state's bankruptcy exemptions. Almost all states have a unique set, although some states will let you choose between state and federal bankruptcy exemptions. Ultimately, how much property you can protect will depend on state laws.

When evaluating bankruptcy exemptions, look for a "homestead exemption." It is specifically designed to protect a certain amount of equity in your principal residence. If the homestead exemption doesn't fully cover your home equity, a "wildcard" exemption might help close the gap.

How Chapters 7 and 13 Affect Home Equity

You'll use the same bankruptcy exemptions regardless of whether you file for Chapter 7 or 13. However, the consequences of not being able to protect home equity entirely differ depending on the chapter filed. You risk losing a home with nonexempt equity in Chapter 7. However, keeping a home with nonexempt equity is possible in Chapter 13.

Home Equity in Chapter 7 Bankruptcy

You could lose your house in Chapter 7 bankruptcy if you have "nonexempt" equity or more equity than you can protect with a bankruptcy exemption. The Chapter 7 trustee will sell the home, give the filer the bankruptcy exemption amount, and pay any mortgages and liens. After deducting sales costs and the trustee's fee, the trustee will follow the bankruptcy payment priority laws to distribute what remains to creditors.

Example. When Cyrus filed for Chapter 7, he had $75,000 in home equity but could protect only $25,000 with a bankruptcy exemption. The Chapter 7 trustee hired a real estate agent to sell the home. Eight months later, the bankruptcy case closed after the trustee completed the sale and distributed the assets to creditors who filed proof of claim forms.

Important note. Protecting equity with a bankruptcy exemption isn't the only requirement you must meet to keep your home in Chapter 7 bankruptcy. Your payments must be current when you file, or the lender can take steps to foreclose using lien rights. Learn when the bankruptcy court will lift the automatic stay and allow foreclosure to proceed during Chapter 7 bankruptcy.

Home Equity in Chapter 13 Bankruptcy

In Chapter 13, filers keep everything they own because the trustee doesn't sell property. Instead, filers must pay creditors for any nonexempt equity (plus other amounts the Chapter 13 plan requires). The bankruptcy court won't approve or "confirm" the case if the filer doesn't have sufficient income to support a Chapter 13 plan.

Example. Julie consulted a lawyer about filing for bankruptcy. She learned she had $60,000 in home equity that she couldn't protect with a bankruptcy exemption. Because Julie didn't want to lose her home in Chapter 7, she filed for Chapter 13. Julie paid $1,000 monthly for 60 months for the nonexempt home equity through her Chapter 13 plan ($1,000 x 60 = $60,000), plus other required amounts, and was able to keep her home.

Important note. Filers must also continue paying the monthly mortgage and catch up on arrears through the Chapter 13 plan. Learn how Chapter 13 affects mortgages and foreclosure.

Consult a Bankruptcy Lawyer

Appropriately protecting home equity is a crucial part of keeping a home in bankruptcy. However, it's only one of many issues to consider when filing for bankruptcy. A knowledgeable bankruptcy lawyer will be in the best position to review your case and help you achieve your financial goals.