oh no We sold our house TT seized the moneyI have written several times about exempting assets in bankruptcy.  The gist is that in a Chapter 7 bankruptcy, the debtor gets to keep all assets that are exempt using the appropriate exemption table, but the Chapter 7 Trustee assigned to the case is empowered to seize and liquidate the nonexempt assets for the benefit of the debtor’s creditors.  And in other chapters the value of the nonexempt assets is one of the factors that are used to determine how much the debtor must repay the general unsecured creditors through the plan.

I have also written about the six-month reinvestment requirement for a homestead exemption after a debtor receives the exempt proceeds from the sale of the debtor’s primary residence.  The idea here is that if the debtor has nonexempt equity in the primary residence, the Chapter 7 Trustee will sell the property for the benefit of the creditors, and write the debtor a check for the exemption amount; but the debtor must reinvest the proceeds in a new domicile within six months of receiving the check from the Trustee or else the Trustee can reclaim the money.

When the Trustee sells a nonexempt asset, the sale is, from the debtor’s perspective, an involuntary sale.

In this post I will discuss what happens to the homestead exemption when the debtor voluntarily sells the primary residence, either in bankruptcy, or outside of bankruptcy.
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I recently received an email that posed an interesting scenario in Chapter 7 bankruptcy liquidation.  Although I have written on the subject of Chapter 7 liquidation I haven’t addressed the specific fact pattern in detail.  This post fills that lacuna.

The question posed was a bit long, so I will summarize it.  The questioner asked whether a sufficiently large tax lien on a debtor’s principal residence would dissuade a Chapter 7 Trustee from seizing and liquidating the house.  My answer not only deals with the question posed, it also includes a discussion of the exemption implications as well.

The analysis depends primarily on 724(a), 726(a)(4), and 11 U.S.C. §§ 551.  Based on these Code sections, the tax lien has two potentially negative implications to the case.

I.  The Trustee Can Avoid The Tax Lien To Create Equity For The Estate

A.  The Taxing Authority Will Release The Lien

If there appears to be no realizable equity solely because of a tax lien, the Trustee is free to ask the taxing authority ― whether the IRS, or the FTB, or both ― to release the lien to create realizable equity for the bankruptcy estate.  A taxing authority is willing to release a lien in this context because upon liquidation of the asset, its priority tax claim will be paid ahead of the general unsecured debt ― meaning that the taxing authority will get money right away rather than having to wait for the debtor to sell or refinance the property.  In addition, after the Court grants the debtor a discharge, the taxing authority will still have a claim against the debtor for the unpaid, nondischargeable portion of the tax debt.  Thus, from the taxing authority’s perspective, there is no down side to releasing the lien.
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HomeIf you sell your home, can the cash proceeds be exempted using the homeowner’s equity exemption?  That was the subject of two questions that a fellow bankruptcy attorney recently asked me.  I found the exchange interesting, so I am posting it for your edification.

Question 1:

If the proceeds from the sale of the domicile are held in escrow or my client trust account — and the Debtor is required to seek further court approval before being allowed to touch them, would that mean the Debtor never “actually received” them in the sense of Cal. Civ. Proc. Code § 704.720, so that the statutory time did not begin to run?

I.          Exempt Status If Debtor Did Not Have Immediate Access To The Proceeds

We first turn to the statute (with emphasis added):

If a homestead is sold . . . the proceeds of sale . . . are exempt in the amount of the homestead exemption provided in Section 704.730.  The proceeds are exempt for a period of six months after the time the proceeds are actually received by the judgment debtor, except that, if a homestead exemption is applied to other property of the judgment debtor or the judgment debtor’s spouse during that period, the proceeds thereafter are not exempt.

Cal. Civ. Proc. Code § 704.720(b).

Based on this language, the California Supreme Court’s holding in Thorsby v. Babcock, 36 Cal. 2d 202 (Cal. 1950) answers the question.

Babcock was the judgment debtor in this case, and Thorsby was the judgment creditor.  Babcock sold his home on which he had a homestead exemption.  However, due to the litigation with Thorsby the sale proceeds were placed in an escrow account for eight months.  Thus, Babcock didn’t have access to the sale proceeds for eight months, so he couldn’t reinvest the proceeds in a new domicile during the six-month postsale period.  Thorsby challenged the legitimacy of the exemption based on the fact that the proceeds hadn’t been reinvested in a domicile during the six-month postsale period.
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