If the Exemption Exceeds Your Home's Value

April 13, 2006

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In states where the homestead exemption is unlimited, ideally, you should pay off all consensual liens (i.e., first and second mortgages) secured by the residence.

This rule also applies in states where the exemption exceeds the value of your home.

There are two major benefits to this action. First, the cash used to make the payment will be converted from a nonexempt asset (cash) to an exempt asset (a paid-off home). Second, at the same time, you will still be able to remove judicial liens (and other liens subject to elimination) from the residence since these kinds of liens impair the exemption.

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John Smith, a Florida resident, owns a home worth $225,000 that is subject to a $150,000 mortgage. The homestead exemption in Florida, of course, is unlimited, as long as the homestead meets the federal requirement that its equity was acquired at least 1,215 days before a bankruptcy filing (otherwise the exemption would be limited to $125,000).

Smith should consider paying off his $150,000 mortgage. By doing this, Smith will convert $150,000 of cash to an exempt form.

In addition, after paying off the mortgage, Smith will still be able to remove any judicial liens (as well as other types of liens subject to elimination) attached to the property, as these liens will always be deemed to impair his homestead exemption.

This is powerful protection for the small business owner who may face judgment liens from personal guarantees he or she provides for the business entity's contracts, or from torts, such as negligence or malpractice, committed while carrying out the business activities.

The same strategy will be equally effective when the homestead exemption is limited, but the exemption amount exceeds the value of home.

For example, in Nevada the exemption amount is capped at $125,000. Let's say Peter Jones owns a home in Nevada valued at $120,000 that is subject to a mortgage in the amount of $90,000.

By paying off the $90,000 mortgage, Jones will convert this amount to an exempt form, while still ensuring he can eliminate judicial liens applied against his home.