How to Protect Excess Equity in Bankruptcy
Equity in a Chapter 7 bankruptcy case is the difference between the value of the item, minus all liens against it, minus all legal exemptions available to protect it. For most debtors the equity value for their property is negative, which means there is nothing for the bankruptcy trustee to sell to pay unsecured creditors. If you are one of the few Chapter 7 debtors that may have positive equity in property, read on.
Positive equity in property (called non-exempt equity) will send up a red flag during your bankruptcy case, but that does not mean that you will lose property to the trustee. The trustee must justify the expense of taking and selling your property in a commercially reasonable manner (which usually means at auction). If the amount of non-exempt equity is too small (called “de minimis”), the trustee will abandon his or her interest in the property and you get to keep it.
Protecting equity in property is usually a matter of shuffling your legal exemptions. However, sometimes that is not enough to protect the property and your attorney will discuss your options before you file your case. There are two popular pre-bankruptcy options for eliminating non-exempt equity: selling the property or obtaining a lien.
There is nothing wrong with selling property prior to filing bankruptcy. This is especially wise if the property is at-risk to be taken and sold to pay unsecured creditors. By selling the property, you will convert the equity into cash without risk of losing it to the bankruptcy trustee. If you are considering selling property prior to filing bankruptcy, discuss the matter with your attorney to avoid complications with the trustee.
The second option is more complex and is usually reserved for motor vehicles. Attaching a lien to a vehicle is a matter of executing a promissory note (an I.O.U.), and filing notice of the secured interest with the state department of motor vehicles. Anyone can become a lien holder, including a close relative. That person will have the right to repossess your vehicle should you fail to honor the payment agreement contained within the promissory note. After the non-exempt equity is eliminated, the trustee cannot take and sell your vehicle.
Every bankruptcy case is unique and requires an experienced bankruptcy attorney to guide you to your best “fresh start” result. Statistically, only one in twenty Chapter 7 bankruptcy cases has any non-exempt equity, and many of these situations can be avoided with simple (and legal!) pre-bankruptcy planning. If you need bankruptcy relief, speak with an experienced attorney and discuss your pre-bankruptcy options.