Using bankruptcy exemptions when you are filing under Chapter 7 allows you to keep some key assets so that your life is not completely disrupted. An exemption can prevent the bankruptcy trustee from selling a certain asset to pay your creditors. People who file under Chapter 7 may be able to keep the vast majority of their property, since they usually do not have much income or property if they qualify for Chapter 7.
If you live in a state that allows you to use the federal bankruptcy exemptions, you can use those instead of the state exemptions if you prefer. Otherwise, you will need to use the exemptions in your state. You cannot mix and match between the state and federal sets of exemptions. Exemptions are different in each state, but you likely can apply exemptions to a home, a car, clothing, furnishings, and some income, among other assets.
Applying Exemptions in Chapter 7
In a Chapter 7 bankruptcy, the trustee takes control of the property in the debtor’s bankruptcy estate. This includes any property in your possession, property that you have recently loaned or given away, property that you will be entitled to receive in the future, property that you receive within six months of filing for bankruptcy, and half of your marital property with your spouse. It also includes any income that you earn from your property, such as dividends from stocks.
If the asset is worth no more than the value of the exemption applied to it, the process is fairly straightforward. You will claim the exemption in your bankruptcy documents and keep the asset. But what happens if the asset is worth more than the value of the exemption? The trustee might take the asset and sell it. They would then reimburse you for the value of the exemption and pay the remainder to creditors.
The situation also can be complicated if a creditor has a secured debt connected to an asset, such as a mortgage or a car loan. This creditor would have priority in getting their debt paid off. If the value of the asset is worth no more than the total of the exemption combined with the secured debt, the trustee will pay off the secured debt and allow you to keep the asset because the remaining value is covered by the exemption. If the value of the asset is worth more than the total of the exemption and the secured debt, the trustee will sell the asset, pay off the creditor with the secured debt, reimburse you for the exemption, and pay anything left over to the remaining creditors.
Wildcard Exemptions in Chapter 7
Many states have an exemption known as a wildcard exemption that can apply for a certain amount of value to any type of asset. If you want to protect a certain asset for which a specific exemption is not adequate, you can stack the wildcard exemption on the exemption for that asset to prevent losing it. For instance, you might be able to stack the wildcard exemption on the motor vehicle exemption to protect a car that is worth more than the value of the motor vehicle exemption by itself. Alternatively, you can use the wildcard exemption to cover an asset for which there is no specific exemption.
Alternatives to Exemptions
Sometimes a debtor will be fortunate enough to keep an asset because the trustee abandons it deliberately. This might happen if an asset is worth so little that it will not garner a significant profit after the costs of selling it. In other situations, the trustee might allow a debtor to purchase property back from the bankruptcy estate. You likely could receive a discount from the value of the asset that equates to the costs of selling it, which the trustee would incur otherwise. However, you cannot use money in the bankruptcy estate to pay for an asset in the bankruptcy estate. You might be able to use income that you received after filing for bankruptcy.