Exemptions and the Mobile Debtor

Most states do not allow their residents to choose federal exemptions. However, a new opinion from Judge Leif Clark points out that BAPCPA may have expanded the reach of federal exemptions for a limited number of mobile debtors. In re Battle, No. 06-50545 (Bankr. W.D. Tex. 12/12/06).

Exemptions were a major concern for Congress when it passed the Bankruptcy Abuse and Consumer Protection Act of 2005 (BAPCPA). Among other things, Congress was worried about wealthy debtors moving to states with generous exemptions, such as Texas and Florida, for the purpose of filing bankruptcy. One provision enacted to limit this practice imposed a residency requirement of 730 days before an individual could claim under a state's exemption laws. If the person had not resided in one state for the entire 730 day period, then exemptions would be determined under the law of the state where the debtor had resided for the greater portion of the 180 days prior to the 730 days. See 11 U.S.C. Sec. 522(b)(3)(A). If the effect of Sec. 522(b)(3)(A) is that no exemption law applies (for example, if the person resided out of the country during the relevant time period), then the person would be allowed to take federal exemptions under 11 U.S.C. Sec. 522(d). The application of Sec. 522(d) as exemption of last resort is of little solace, since it only applies in the case where no exemptions whatsoever would be allowed.

While the legislation may guard against abuse, it also operates as a trap for the unwary. Each year, about 3% of the population changes states. See Allison Stone Wellner, "The Mobility Myth," Reason Magazine (April 2006). If these individuals wind up in bankruptcy court, they may find their property rights defined by the laws of a state they had long left behind and which are unfamiliar to their counsel. This extraterratorial application of exemption laws may lead to strange results. For example, the Texas homestead exemption applies to "all homesteads in this state whenever created." Tex. Prop. Code Sec. 41.002(d). Thus, if a Texas resident moves to Florida (both states with high homestead exemptions), purchases a Florida homestead and files bankruptcy 729 days later, then the debtor would arguably not be able to claim a homestead exemption under either law. Sec. 522(b)(3)(A) would mandate application of Texas law. However, the Texas law appears to apply only to homesteads within the state of Texas. Thus, even though both states allowed comparable homestead exemptions, a move for a legitimate reason, such as to take a new job, may lead to loss of the exemption.

The federal exemption option under Sec. 522(d) offers limited protection to some debtors. It allows each debtor to exempt $18,450 of equity in a home and includes a wild card provision as well. One problem is that when Congress created the federal exemption scheme, it also allowed states to opt out. See 11 U.S.C. Sec. 522(b)(2). Thirty-six states prohibit their residents from claiming federal exemptions.

In the case of In re Battle, No. 06-50454 (Bankr. W.D. Tex. 12/12/06), Judge Clark considered whether a former Floridian filing bankruptcy in Texas could claim federal exemptions. Because the debtor had lived in Texas for less than 730 days and had lived in Florida during the 180 days prior to the 730 days, the parties agreed that Florida law would apply. Florida is an opt out state. As a result, the Trustee argued that federal exemptions were not available under Florida law. However, Judge Clark noted that the relevant Florida statute provided that "residents of this state shall not be entitled to the federal exemptions." On the date of filing bankruptcy, the Debtor was not a Florida resident. Although the choice of law was determined by where the Debtor resided during the 180 days prior to 730 days, the facts of the exemption were determined as of the petition date. Because the Debtor was not a resident of Florida on the petition date, the opt-out provision did not apply and the Debtor was able to use the federal exemptions.

This is a case of two restrictive statutes canceling each other out. Both Sec. 522(b)(3)(A) and Sec. 522(b)(2)'s opt-out language restrict debtors' exemption choices. However, it appears that an unintended consequence of Sec. 522(b)(3)(A) is to allow most debtors whose exemption choices are governed by the law of another state to choose federal exemptions regardless of whether they could have chosen federal exemptions in either the original state or the new state. Thus, if a debtor moves from one opt-out state to another opt-out state and files bankruptcy less than 730 days later, the result may be to make federal exemptions available where they would not otherwise have been. If State A's exemption laws prohibit its residents from choosing federal exemptions, but the debtor is no longer a resident of State A, State A's prohibition does not apply. If State B's exemption laws prohibit its residents from choosing federal exemptions, but exemptions are determined under State A's law, then State B's prohibition is inapplicable. Thus, the result is to frustrate the policies of both states and make the federal exemption available. This would be little consolation to a debtor with a million dollar homestead who moves between high exemption states. However, it was enough to protect the Debtor in Battle.