Homestead exemption laws are designed to protect your personal property from taxes and seizures following events such as a spouse's death or a bankruptcy filing. These protections are in place at the federal, state and local levels. The catch is that a homestead exemption applies only to a principal residence, and in some states may not apply automatically.
Federal and State Bankruptcy Laws
During Chapter 7 and Chapter 13 bankruptcy proceedings, federal and state homestead exemptions protect the amount of equity you’ve accumulated in your principal residence. Although bankruptcy laws in many states require filers to use the state exemption, some states use the federal exemption, while others allow filers to choose between the two.
How the Homestead Exemption Works
In Chapter 7 liquidation proceedings, if the homestead exemption is equal to or greater than the equity you’ve accumulated in your home -- and your mortgage is not in default status -- you will be able to keep your home. If not, the trustee may seize and sell it. However, if this happens, the trustee must reimburse the amount of the exemption to you. For example, if the trustee seizes your home because you have only $20,000 in equity and the state exemption is $50,000, the trustee must return $20,000 of the sale proceeds to you.
In a Chapter 13 repayment plan, the homestead exemption applies differently. In Chapter 13, creditors can’t access protected equity in your home. The greater the exemption, the less money creditors have access to and the less you’ll be required to pay. In this case, the amount of the homestead exemption can mean the difference between whether you’re able to fund a Chapter 13 plan or not.
Homestead Exemption Amounts
The federal homestead exemption changes every three years. As of the date of publication, it protects up to $22,975 -- or $45,950 if you’re married and file a joint income tax return -- of the equity on your home.
On the state level, homestead exemption laws and amounts vary widely.
- The homestead exemption applies automatically in some states. In other states, you must file a homestead declaration that establishes the property as your principal residence or you can’t use the homestead exemption.
- In some states, the homestead exemption extends federal protections and shelters 100 percent of the equity in your home. However, in other states the exemption protects only a small amount. For example, as of the date of publication, Arkansas bankruptcy laws protect all your equity, while Alabama laws protect only $5,000 or $10,000, depending on your tax filing status.
- Although many states allow married people filing a joint bankruptcy action to double the homestead allowance, some states do not.
Local Property Tax Homestead Exemption
Locally, the homestead exemption protects a portion of the assessed value of your home and helps reduce annual property tax bills. Depending on local property tax laws, the exemption is either a flat dollar amount or a percentage. In addition, some locales offer different homestead exemptions for different portions, such as school taxes and county taxes, of a property tax bill.
For example, if the assessed value of your home is $200,000 and you get a $20,000 flat dollar homestead exemption, you’ll pay property taxes on your home as if it were worth $180,000. In contrast, if the exemption is 20 percent, you’ll pay property taxes based on a home value of $160,000.