The Castle Under Attack Homesteads and Bankruptcy

The road through the briar patch of financial troubles has, in many jurisdictions,
always passed by a homestead. Prudent debtors have normally taken advantage of the
ability to shelter both their estates and their families in the homestead. Homebuyers
buy ever more expensive homes. Recent case law and the proposed Bankruptcy Reform Act
of 2001 (S. 420) take aim at this protection.

</p><p>Litigation involving homestead exemptions normally arises out of interpretations of
state law. <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&amp;vr=1.0&amp;cite=… U.S.C. §522(d)(1)</a> creates a limited federal homestead
exemption:

</p><blockquote>
...debtor's aggregate interest, not to exceed $16,150 in value in real
property or personal property that the debtor or a dependent of the debtor uses
as a residence, in a cooperative that owns property that the debtor or a
dependent of the debtor uses as a residence...
</blockquote>

<p>Most debtors elect to claim homestead exemptions under more generous state laws,
making every effort to maximize that exemption. Several recent court decisions address
the limits of the homestead exemption.

</p><p>In this age of inherited property, life partners and spouses who have separate
asset-protection plans, the ownership of the homestead can vary. The debtor in <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&amp;vr=1.0&amp;cite=…
re Abernathy,</i> 2001 W.L. 224521 (8th Cir. BAP (Mo.) March 8,
2001)</a>, owned a homestead in joint tenancy with her two sisters. The chapter 7
trustee objected to the homestead exemption claim made. The debtor claimed the full
amount allowed under Missouri law. The trustee successfully argued to the bankruptcy
court that the debtor, as one of three joint tenants, was only entitled to one-third
of the maximum available exemption.

</p><p>The bankruptcy appellate panel (BAP) pointed out that the debtor's interest in
jointly held property becomes property of the estate while the non-debtor's interest
does not become property of the estate, citing <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&amp;vr=1.0&amp;cite=… v. George Mason Bank,</i> 94
F.3d 130, 134 (4th Cir. 1996)</a>. Upon analysis of the Missouri
homestead exemption statute, the BAP concluded that the plain meaning of the statute
was that a single owner, out of several, could claim the entire homestead amount.
Distinguishing joint tenancies from tenancies by the entirety, the court rejected the
trustee's argument that the exemption must be limited in order to prevent the other
joint tenants from also claiming an exemption in the same property. The BAP declined
to speculate on facts not in issue and reversed the bankruptcy court.

</p><p>The 8th Circuit BAP reviewed the necessity that the debtor "occupy" the property
claimed exempt as a homestead in <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&amp;vr=1.0&amp;cite=… re Stenzel,</i> 259 B.R. 141 (8th Cir.
BAP (Minn.) March 2, 2001)</a>. The factual landscape in this case is typical
of estate planning approaches for the family farm. The debtor lived on a five-acre
parcel, contiguous to the family farm owned by the debtor's mother. Even though the
debtor and his wife worked the family farm for more than 23 years, the surviving
mother, who lived in a house on the family farm, retained a life estate. The debtor
only had a remainder interest. The bankruptcy court found that the debtor "owned" the
five-acre parcel, and that the adjacent remainder property was contiguous to that
parcel. The bankruptcy court held that the debtor proved occupancy of both parcels by
presence and use and upheld the homestead exemption claim.

</p><p>The BAP stated that the debtor must own and occupy the claimed homestead under
Minnesota law. In reversing the bankruptcy court, the BAP held that occupancy
required a legally enforceable right. The debtor did not have a legal right to
occupancy because the mother, a life tenant, had the legal right to occupy the
property. The mere facts of presence and use were not sufficient to create a homestead
exemption.

</p><p>A Florida bankruptcy court also has recently addressed an aspect of the homestead
exemption. <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&amp;vr=1.0&amp;cite=… re Binko,</i> 258 B. R. 515 (Bankr. S.D. Fla. 2001)</a>.
In this case, the debtors sold their homestead prior to bankruptcy, generating about
$40,000 in equity. These funds were segregated for the purchase of a new
homestead. Prior to that purchase, some of the segregated monies were used for living
expenses. The debtors claimed the remaining proceeds exempt as homestead proceeds under
Florida law. The trustee objected on the basis that the exempt character of all the
proceeds was lost when the debtor used some of the proceeds for another purpose.
Finding that the debtors' actions evidenced all the elements of good faith in
attempting to reinvest in a homestead, and finding that the debtor did not commingle,
but rather segregated the proceeds, the court overruled the trustee's objection.

</p><p>The Bankruptcy Reform Act of 2001 attempts to limit homestead exemptions in two
ways. First, an amendment to the Senate bill prohibits an exemption exceeding
$100,000 in a homestead bought within two years of bankruptcy. (Amendment
#68, S. 420) The goal is to avoid bankruptcy exemption planning by wealthy
debtors who move to states with liberal homestead exemptions. Another provision limits
the debtor's interest in a homestead by the amount of non-exempt property transferred
to pay down a homestead mortgage during the seven years prior to bankruptcy if done
to hinder, delay or defraud creditors. (§308, S. 420) With median home values
exceeding $160,000 in many parts of the United States, the home may no longer
"shelter" assets of the debtor.

</p>