Chapter 7 Bankruptcy Exemptions: What Are They and What Happens if You Don’t Claim Them?

What Are Bankruptcy Exemptions?

If you turn to Chapter 7 in the U.S. Bankruptcy Code, you’ll find that it is titled “Liquidation.” Theoretically, if you file Chapter 7 bankruptcy, the bankruptcy trustee can liquidate, or sell, all your assets, then use the sale proceeds to pay your creditors. 

This doesn’t often happen, though, thanks to bankruptcy exemptions. When you claim an asset as exempt in your bankruptcy forms, the trustee can’t take it or sell it to pay your debts. Exemptions allow you to protect some or all of your assets from bankruptcy liquidation.

If filing bankruptcy meant losing everything, your bankruptcy discharge would leave you debt-free, but also homeless, penniless, and with no means of transportation. It would be nearly impossible to get or keep a job, care for your family, or improve your situation at all unless you borrowed the money to do so… which would lead you right back into debt. 

Exemptions exist to prevent this. By allowing debtors to keep their homes, cars, and other belongings, exemptions ensure that bankruptcy filers get a fresh start, financially speaking, and can move forward as productive, debt-free citizens. Exemption laws are very effective at achieving this goal. Most Chapter 7 debtors can claim all their assets as exempt, leaving nothing for the trustee to liquidate. 

Each state has a set of exemption laws. There are also federal exemptions. Most sets of exemptions are divided based on the type of property, such as motor vehicles or household goods. The specific categories and the limits that apply to each category vary widely from one jurisdiction to the next. (More about this below.)

What Property Can You Protect Using Exemptions?

Exemption laws are usually separated into different categories based on the kind of property the exemption protects. Some examples of common exemption categories include:

• Homestead (your primary residence)

• Motor vehicle

• Tools of the trade (assets you use to make a living)

• Retirement benefits, such as money in an IRA, 401(k), or similar account

• Personal property (household goods, furniture, electronics, clothes, books, etc.)

• Social Security or veterans benefits

• Alimony and child support income

In addition to categorized exemptions, many jurisdictions also include a “wildcard” or “catch-all” exemption that can be used for any category. And some jurisdictions allow filers to treat the unused portion of one exemption, especially a homestead exemption, as a wildcard that can be applied to other categories of assets.

Some exemptions are limited to a certain dollar amount. For example, the federal motor vehicle exemption allows you to protect up to $4,450 of equity in a motor vehicle. Other exemption laws have more asset-centric limits, such as “one automobile” or “one television set.” And some exemptions are unlimited as to the number or value of the property you can protect. 

State vs. Federal Exemptions: How To Decide Which Set of Exemptions To Use

You must choose one set of exemption laws to use in your bankruptcy case. In other words, if you want to claim the federal homestead exemption, you can’t also claim your state’s motor vehicle exemption. Also, not everyone has a choice as to which set of exemptions to use.

Most states require you to use your state exemptions if you’ve lived in the state for at least two years. If you moved to a new state within two years before filing bankruptcy, you must use the federal exemptions. These states are sometimes called “opt-out” states because they’ve opted out of allowing their residents to use the federal exemptions.

The following states are opt-out states, meaning you can’t use federal exemptions:

• Alabama

• Arizona

• California

• Colorado

• Delaware

• Florida

• Georgia

• Idaho

• Illinois

• Indiana

• Iowa

• Kansas

• Louisiana

• Maine

• Maryland

• Mississippi

• Missouri

• Montana

• Nebraska

• Nevada

• North Carolina

• North Dakota

• Ohio

• Oklahoma

• South Carolina

• South Dakota

• Tennessee

• Utah

• Virginia

• West Virginia

• Wyoming

The remaining states allow residents to choose either federal or state bankruptcy exemptions. Even in these states, though, you’re usually limited to the federal exemptions if you’ve lived there for less than two years.

If you have a choice of exemption laws, review both sets of exemptions carefully to see which laws best protect your assets. 

Why Are Exemptions Important in Your Chapter 7 Case?

Exemption laws protect your property from liquidation by the bankruptcy trustee, but that protection isn’t automatic. You are not entitled to any exemptions unless you claim those exemptions on Schedule C of your bankruptcy forms. 

Also, you must claim an exemption for each asset you want to protect. Claiming one exemption doesn’t automatically protect all your property. In most cases, the bankruptcy trustee is required to take and sell all your belongings that you do not specifically claim as exempt.

How Do You Claim Exemptions?

To protect your property from liquidation, you must claim the correct exemptions in your bankruptcy forms. Everyone who files bankruptcy, especially Chapter 7 bankruptcy, must submit Form 106C, or “Schedule C.”

On Schedule C, you must mark whether you’re claiming state or federal exemptions. But to be clear, marking one of these boxes is not enough to protect your belongings. For each asset you want to claim as exempt, you must:

• Describe the asset (e.g., “2016 Ford F-150 truck”).

• State the asset’s current value. This is how much the asset is worth in its current condition.

• State how much of that value you’re claiming as exempt.

• Identify the specific state or federal exemption law you’re claiming. The federal motor vehicle exemption, for example, is “11 USC §522(d)(2).”

The descriptions and values you list on Schedule C should match the descriptions and values you listed on Schedule A/B of your bankruptcy forms. When completing Schedule C, it’s helpful to use your Schedule A/B as a checklist to make sure you haven’t forgotten any assets. 

If an asset is collateral for a debt, you should still include that asset on Schedule C. The exemption amount you claim shouldn’t be more than the amount of equity you have in the asset. For example, if you have a car that’s worth $10,000 and you owe $7,000 on it, then your equity in the car is $3,000. On Schedule C, you should still list the car’s value as $7,000. But you would only claim $3,000 as exempt. An asset is fully protected as long as all the equity is exempt. 

If you’re confused about the value of your assets, how much equity you have, or which exemptions apply, consider a consultation with a bankruptcy attorney. Don’t risk losing your assets!

What Happens if You Don’t Claim Chapter 7 Bankruptcy Exemptions?

If you leave assets off Schedule C or claim the wrong exemptions, the bankruptcy trustee can seize the unprotected assets and sell them, then use the money to pay your creditors. Most of the time, your trustee will give you a chance to fix your mistake first. You can usually file an amended Schedule C to correct minor errors, especially if you made a good faith attempt to complete the form correctly the first time.

But if you leave Schedule C blank and don’t make any attempt to claim exemptions when you file your bankruptcy forms, the trustee may not give you a chance to fix the form before seizing and selling your assets. In other words, by failing to complete Schedule C, you could lose everything you own. Even if you make mistakes, it’s always best to attempt to complete the form to the best of your ability.

Is It Common To Lose Property in a Chapter 7 Bankruptcy?

In Chapter 7 bankruptcy, if all the debtor’s assets are exempt and there is nothing for the trustee to liquidate, the case is called a “no-asset” case. If your trustee reviews your bankruptcy forms and determines that you have correctly claimed all your assets exempt, they will file a “Chapter 7 Trustee’s Report of No Distribution.” This lets you and your creditors know that the trustee is not going to liquidate any of your belongings.

About 95% of consumer Chapter 7 cases are no-asset cases, meaning that the bankruptcy filers keep all of their property. But keeping your assets is neither automatic nor guaranteed. If you file bankruptcy, it’s your responsibility to complete Schedule C and claim the correct exemptions for anything you want to keep.

Let’s Summarize… 

Exemption laws allow you to protect your belongings from liquidation in bankruptcy. Exemptions typically protect things like your home, your car, your personal effects, and your retirement savings, to name a few. There are both state and federal exemption laws. Depending on where you live, you may be required to use certain exemptions or you may get to choose. 

To claim assets as exempt, you must list each asset and the corresponding exemption on Schedule C in your bankruptcy forms. If you make a mistake, you can usually file an amended form to correct your error. If you leave Schedule C blank, though, the court and trustee may assume that you don’t intend to keep any property. In Chapter 7, the trustee can take and sell any of your belongings that you don’t claim as exempt. Claiming the correct exemptions is your responsibility.