Exit Strategies

Learn more about considerations to take when closing or selling a business.

Federal Asset Exemptions Apply in Bankruptcy

When filing a bankruptcy action in certain states, you have the option to choose either the allowable federal asset exemptions or the applicable state's exemptions. Arkansas, Connecticut, District of Columbia, Hawaii, Massachusetts, Michigan, Minnesota, New Jersey, New Mexico, Pennsylvania, Rhode Island, South Carolina, Texas, Vermont, Washington and Wisconsin all allow this flexibility. In all other states, you must choose the applicable state exemptions.

Exemption planning can represent a significant asset protection strategy. However, effective exemption planning requires an understanding of many issues, including the role play in limiting or, in some cases, preserving exemptions, as well as the strategies that can be adopted to defeat creditor challenges to asset transfers.

Thus, for example, small business owners must understand that certain liens or claims may legally impair an exemption, thus rendering the exemption worthless. This understanding cannot be gleaned from an examination of the tables alone.

In evaluating available exemptions, keep in mind that, because exemptions are available only to natural persons, certain assets (e.g., a personal residence) should never be transferred to a business entity, while consideration should be given to personally owning, and leasing to the entity, other assets (e.g., certain tools of the trade). Mistakes in these respects can lead to a loss of the exemption.

Also, remember that exemptions for "partnership property" or property owned by a different business entity (e.g., a limited liability company) can be misleading. The exemption only means that a partner's personal creditors cannot directly attach the business's assets. However, creditors of the business may freely attach these assets.

Further, personal creditors of the partners can, nevertheless, attach the partners' interests in the business (which are a type of intangible personal property) and, in the case of the general partnership (although not the LLC in many states), subsequently foreclose on the attached interests and force a liquidation of the business.

Generally, there is no specific exemption for an owner's interest in a business. Typically, the interest must be protected by a "wild card" exemption, which does not exist or is severely limited in many states.

The following tables include exemptions available under federal and state statutes. However, a very significant exempt category, ERISA-qualified retirement assets, are, in many states, exempt only because of federal court decisions, and thus may not appear in the tables. This exemption is especially important given the fact that almost all retirement plans offered by larger employers are ERISA-qualified. These assets are exempt despite what state statutes provide.

Individual Retirement Account (IRA) assets also may be exempt because of federal court decisions, although the law is less settled here than it is for ERISA-qualified retirement plans.

Similarly, court decisions generally provide that ownership of assets by married couples in tenancy by the entirety, in states that allow for this form of ownership, exempt the assets from the claims of the creditors of one spouse. These assets also are exempt despite what state statutes provide.

Moreover, many states now offer statutory protection for IRAs, but these statutes distinguish between various types of IRAs. Accordingly, the tables detail whether a state's statutory exemptions for IRAs extend specifically to conventional, Roth, Coverdell (education), SEP and SIMPLE IRAs.

This distinction can be an important factor in a small business owner's choice of a particular retirement plan (e.g., a SIMPLE IRA vs. a SIMPLE 401(k) plan). In addition, Roth IRAs offer excellent tax benefits. Where a state also exempts Roth IRAs, this investment also represents an extremely valuable asset protection device.

In addition, while state exemptions for wages vary, a federal statute exempts, at a minimum, the greater of 75 percent of an individual's weekly disposable earnings or 30 times the federal minimum wage. This federal statute, which supersedes state laws (when the state law provides a lesser benefit), is not reflected in the state listings.

Some of the more valuable exemptions that demand close attention include the homestead, retirement savings, and insurance (annuity) policy exemptions. Accordingly, the tables highlight these exemptions first.

Finally, remember that exemption laws can change. For example, expect to see more states extend protection to IRA assets by statute, and additional federal efforts to limit state homestead exemptions in federal bankruptcy proceedings, while protecting IRA benefits. For this reason, it is always wise to examine the latest version of state post-judgment and federal bankruptcy exemption statutes.

Federal Bankruptcy Exemptions. The federal bankruptcy exemptions are adjusted every three years on April 1. The following represents the most recent adjustments, made on April 1, 2007. Married couples double the following federal exemptions.

  • Homestead: Real property, including co-op or mobile home, up to $22,975.
  • Pensions and Retirement Benefits: ERISA-qualified benefits needed for support. Roth IRAs and regular IRAs up to $1,245,475 per person.
  • Insurance: Disability, illness or unemployment benefits. Life insurance payments for person you depended on, needed for support. Life insurance policy with loan value, in accrued dividends or interest up to $12,250. Unmatured life insurance contract, except credit insurance policy.
  • Personal Property: Animals, crops, clothing, appliances, books, furnishings, household goods and musical instruments up to $575 per item, $12,250 total. Health Aids. Jewelry up to $1,550. Lost earnings payments. Motor vehicle up to $3,675. Personal injury recoveries up to $22,975 (not to include pain and suffering or pecuniary loss). Wrongful death recoveries for person you depended on.
  • Tools of Trade: Implements, books and tools of trade up to $2,300.
  • Miscellaneous: Alimony. Child support needed for support.
  • Wages: The greater of 75 percent of an individual's weekly disposable earnings or 30 times the federal minimum wage.
  • Public Benefits: Crime victim's compensation. Public assistance. Social Security. Unemployment compensation. Veteran's benefits.
  • Wild Card: $1,250 of any property and $11,500, less any amount of homestead exemption claimed, of any property.

The following exemptions are available in addition to your state's exemptions, but cannot be claimed if you use the federal bankruptcy exemptions.

  • Retirement: Funds exempt for CIA employees, civil service employees, foreign service employees, military honor roll pensions, military service employees, railroad workers. Social Security. Veteran's benefits. Veteran's medal of honor benefits.
  • Survivor's Benefits: Survivor's funds exempt for judges, U.S. court directors, judicial center directors, supreme court justices, child justice administrators, lighthouse workers, members of military service.
  • Death and Disability Benefits: Funds exempt for government employees, longshoremen and harbor workers. War risk, hazard, death or injury compensation.
  • Miscellaneous: Klamath Indians tribe benefits for Indians residing in Oregon. Military deposits in savings accounts while on permanent duty outside the U.S. Military group life insurance. Railroad worker's unemployment insurance. Seamen's clothing. Seamen's wages (while on a voyage) pursuant to written contract. 75 percent of earned but unpaid wages (bankruptcy judge may authorize more for low-income debtors).

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