July 25, 2021 / Jeffrey Kelly
How in the world could rising equity in real estate cause financial problems for the owner? I know it sounds super strange but I will explain how it is happening. I have been practicing consumer bankruptcy since 1998 and I have never seen a real estate market like the one that is currently roaring. You would think that rising home equity would be good for all owners but that is not the case for families who are in need of getting relief from credit card and medical debt that has accrued because of Covid related unemployment.
How can rising equity in homes stop people from filing bankruptcy?
In Georgia, the most equity that a married couple can protect is $43,000. A single person can protect only $21,500. What happens if you need to file bankruptcy but have equity that is way over the limits? The answer to this question is the same as the answer to most legal questions……….it depends. Depends on what? It depends on the exact amount of equity.
When a family has slightly more equity that the exempted limits, it usually won’t present a significant problem in a bankruptcy case because you have to factor in real estate transaction costs if the trustee were to move to sell the house in question.
However, it is not uncommon for me to see potential clients who have over $100,000 in equity during this hot real estate period. The funny thing is that most clients don’t realize how high the value of their homes have climbed. In the past, we could rely on the tax assessor valuations but now that the market is so hot, Zillow seems to be a better source in most cases.
Can you lose your house in a Chapter 7 if you have too much equity?
Yes, you can. The reason a person must be extremely careful in ascertaining the value of their home before filing a Chapter 7 bankruptcy is because once you are in the thick of it, you cannot get out. Once you file a Chapter 7 bankruptcy and the trustee takes an interest in your house and finds a buyer, your house is as good as gone. Pack your bags. The trustee would have to pay off your mortgage and pay you the exempted amount you were able to claim in your bankruptcy case. Next, he would pay himself a handsome fee for his services and then use the rest to pay your debts.
How can you avoid the calamity of losing your house in a Chapter 7 but still eliminate the debts hanging over your head? For many people, the answer is Chapter 13. However, for the Chapter 13 to be successful, we must create a plan that will pay the same amount of money to all unsecured creditors as the amount they would have received if Chapter 7 had been the chosen course of action. This is called the bankruptcy liquidation test. All Chapter 13 bankruptcies must pass the liquidation test.
Here is an example where Chapter 13 could work. Let’s say a person has a house with $20,000 in exposed equity. Assuming no car debt, tax debt or any other type of secured or priority debt, this person would be looking at a Chapter 13 payment of around 450 per month. What if they owed 200,000 in medical debt? If this person is under the median income limit, the payment will still be 450 per month. What if they $300,000 in medical debt? The payment will still be 450 per month because the driver in this case is the exposed equity and not the total amount of debt. In this specific case, 450 per month takes care of it.
Here is an example of where a Chapter 13 payment could never work. Let’s change the facts and say the exposed equity is $100,000. If the person owes $200,000 in medical, credit card or other type of unsecured debt, we will have to pay back $100,000 to protect the house. In this specific case, the payment would be around 1900 per month. What if this person cannot afford to pay 1900 per month to protect the house? The answer is that they will not be able to file a Chapter 13 because it would not be feasible.
What do families do who are caught with huge medical and credit debt but have too much equity to file Chapter 13? The harsh truthful answer is that they must sell the house and pay the debt. Where do they go after selling the house? This is an awful dilemma right now because rents are rising beyond reach of many people. In addition, many people who lost their jobs because of Covid are finding new jobs that don’t pay as much as the previous job. Borrowing against the equity is not possible for many people because of the decreased income.
What is the solution? I think the Georgia legislature should raise the equity limits to $100,000 for a single person and $150,000 for a married couple. Furthermore, I believe the Georgia housing exemption should be adjusted yearly according to the consumer price index so that the amount keeps pace with inflation.
If you would like to set up a free consultation with my office, please call us 770-637-1756. The consult is free but the information you receive could relieve you of a ton of stress and save your house.