If I File Bankruptcy Do I Lose My House?

Filing for bankruptcy does not automatically mean losing your home. Several important factors influence whether a home can be protected. This article explores how bankruptcy proceedings interact with homeownership.

Bankruptcy Basics and Your Home

Individual homeowners primarily interact with two types of bankruptcy under federal law: Chapter 7 and Chapter 13. Each chapter serves a different purpose and approaches a debtor’s assets, including a home, in distinct ways. The specific impact on a residence is largely determined by factors such as the amount of equity, the status of mortgage payments, and available legal protections.

Chapter 7, or liquidation bankruptcy, involves selling non-exempt assets to repay creditors. While it discharges most unsecured debts, keeping a home depends on whether its equity is protected by exemptions and if mortgage payments are current. Chapter 13, a reorganization bankruptcy, allows individuals with regular income to create a three-to-five-year repayment plan. This structure often helps debtors retain their homes by catching up on missed mortgage payments over time.

Understanding Homestead Exemptions

Exemptions are legal provisions designed to protect certain assets from being sold by a bankruptcy trustee. The homestead exemption specifically shields a portion or all of the equity in a debtor’s primary residence.

Debtors can generally choose between federal exemptions or their state’s specific exemption laws; some states mandate using their own. State homestead exemptions vary significantly, with some offering generous or even unlimited protections, while others provide more limited amounts. Federal law imposes residency requirements, generally mandating that a debtor must have purchased their home at least 40 months prior to filing to qualify for the full state homestead exemption, otherwise a federal cap may apply.

Home equity is calculated by subtracting the total amount owed on mortgages and any other liens from the home’s current market value. For instance, if a home is valued at $300,000 with a $200,000 mortgage, the homeowner has $100,000 in equity. If this equity falls entirely within the homestead exemption amount, the home is generally protected from liquidation in a Chapter 7 bankruptcy. However, if the equity exceeds the exemption limit, the non-exempt portion may be at risk, potentially leading to the home’s sale.

Impact of Chapter 7 on Your Home

In a Chapter 7 bankruptcy, the outcome for a homeowner’s residence largely depends on the amount of equity and the debtor’s financial standing regarding mortgage payments. If the equity in the home is fully covered by the applicable homestead exemption, and the mortgage payments are current, the bankruptcy trustee typically cannot sell the property. In such cases, the debtor can continue making regular mortgage payments and retain ownership of the home.

If the home contains non-exempt equity, the bankruptcy trustee may sell it. From the sale proceeds, the trustee pays off the mortgage and any other liens, returns the exempt portion to the debtor, and distributes remaining funds to unsecured creditors. Debtors current on mortgage payments but with non-exempt equity might consider a reaffirmation agreement. This legally binding contract means the debtor continues payments on a secured debt, like a mortgage, even after other debts are discharged, retaining personal liability and keeping the home.

Alternatively, a debtor may choose to surrender the home. If they no longer wish to keep the property or cannot afford payments, they can surrender it, and the mortgage debt will be discharged as part of the bankruptcy. Chapter 7 does not help a debtor catch up on missed mortgage payments; it primarily deals with discharging unsecured debt.

Impact of Chapter 13 on Your Home

Chapter 13 bankruptcy offers a more structured approach for homeowners aiming to prevent foreclosure and keep their homes. A key benefit of Chapter 13 is the ability to address mortgage arrears. The debtor can include these overdue payments in their court-approved repayment plan, spreading them out over the three to five-year plan period. This allows the debtor to cure the default while simultaneously making their regular ongoing mortgage payments.

Chapter 13 includes an automatic stay, which immediately halts foreclosure proceedings upon filing. This provides time for the debtor to reorganize finances. As long as the debtor adheres to the repayment plan and makes current mortgage payments, the lender cannot resume foreclosure actions.

Another feature of Chapter 13 is “lien stripping.” This process allows debtors to convert a junior lien, such as a second mortgage or home equity line of credit (HELOC), into unsecured debt if the home’s value is less than the balance owed on the first mortgage. If the home’s market value is entirely consumed by the first mortgage, the junior lien is treated as unsecured debt in the repayment plan and may be discharged upon successful completion.

Selling a home during an active Chapter 13 bankruptcy is possible but requires court approval. The debtor’s attorney typically files a motion outlining sale details and how proceeds will be used. Any net proceeds remaining after paying off mortgages and liens, and accounting for the homestead exemption, may be used to pay creditors through the Chapter 13 plan. Upon successful completion of the Chapter 13 plan, the debtor retains ownership of their home, and any remaining dischargeable debts are eliminated.