Most people lose investment property when filing for Chapters 7 or 13, but not always. What happens to investment real estate will often depend on whether you can protect the investment property's equity with a bankruptcy exemption. In this article, you'll learn:
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Generally, no. Although you can protect equity in your residence using a homestead exemption, true investment property is another matter entirely. Whether it's real estate, stocks, or another investment type, you'll have difficulty keeping it in bankruptcy (although many retirement accounts are protected). Here's why.
Bankruptcy gives a fresh start to financially struggling debtors while being fair to creditors. Each state decides what property a bankruptcy filer can "exempt" or protect, and you'll find that most exemption laws cover basic things needed to work and live, not luxuries or unnecessary extras.
What happens to nonexempt property an exemption doesn't cover depends on whether you file for Chapter 7 or Chapter 13. In either chapter, your creditors benefit from your nonexempt or luxury property.
Again, although many retirement plans and 401ks are exempt, most filers have difficulty protecting stocks, stock options, investment accounts, and investment real estate in Chapter 7 bankruptcy. Most rental property and other investments fall into the "not exempt" category. A filer who can't exempt the equity or value of the property will lose it in Chapter 7.
You'll start by determining how much equity you have in your real estate or how much your investment is worth. Review your state exemption laws for exemptions that will cover your property.
You probably won't find a specific exemption to cover your rental property equity. Also, you won't be able to use the homestead exemption to protect the equity because the home must be your residence to qualify, not an investment property.
Your next option would be to check whether your state offers a wildcard exemption. If it doesn't cover your particular property type, isn't enough, or your state doesn't offer one, look into the federal wildcard exemption if it's an option.
Some states allow filers to choose either the state or federal exemptions. If you live in a state that offers a choice, compare the two sets and use the system that will protect the property you'd like to keep.
If you find an exemption that covers all of your equity, the Chapter 7 bankruptcy trustee responsible for your case won't sell the property for creditors. Otherwise, you'll lose it.
If you can protect all of the real estate equity in your mortgaged property, or the property is worth less than you owe, you'll have another hurdle. To ensure you don't lose the property in Chapter 7, you'll need to be current on the payment when you file and continue making your payment after bankruptcy. Otherwise, the lender can use its lien rights to foreclose on it.
If you're behind when you file, the lender can recover the property in one of two ways. The lender could wait until the Chapter 7 case ends or ask the bankruptcy court to lift the automatic stay that stops collection activity and allow the lender to proceed with foreclosure immediately.
Here are the basic steps covered in "How Do I Find Out If I Can Keep My Rental Property or Investments in Chapter 7?"
A local bankruptcy lawyer will be in the best position to help you keep your assets in bankruptcy.
You have more options in Chapter 13 because you don't give up property. But filers don't get a better deal because instead of giving up property, you'll pay to keep assets you can't protect with an exemption.
Here's the rule.
In Chapter 13, you must pay your creditors your disposable income to comply with the "best effort" requirement. However, at a minimum, the amount you pay to unsecured creditors through your Chapter 13 repayment plan must equal the value of your nonexempt property.
So you'll pay at least an amount equal to the nonexempt rental property equity, if not more, which can drive a payment up substantially.
Example. Leticia owns a rental property outright worth $60,000. She'll pay at least $1,000 per month, plus trustee fees, in a five-year repayment plan ($1,000 x 60 = $60,000).
One of the advantages of filing for Chapter 13 bankruptcy is the opportunity to pay less for significantly depreciated rental property. Owners whose property is worth less than what they owe due to an economic downturn can use a Chapter 13 "cramdown" to reduce the amount owed to the property value.
While this sounds great, the cramdown rule comes with conditions:
Example. Leticia owes $120,000 on another rental property worth $60,000. In Chapter 13, she can reduce what she owes to $60,000 if she can afford to pay $1,000 per month, plus trustee fees, in a five-year repayment plan ($1,000 x 60 = $60,000).
Choosing which type of bankruptcy to file can be challenging due to the many bankruptcy rules involved. A bankruptcy lawyer can help a debtor understand the options and make the right decision for the situation and the filer's investments.
Bankruptcy is essentially a qualification process. The laws provide instructions for completing a 50- to 60-page bankruptcy petition, and because the rules apply to every case, you can't skip a step. We want to help.
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