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The Myth of the Non-Bankruptcy Exemptions

posted by Nathalie Martin

How does the saying go, possession (of a lawyer) is 9/10ths of the law? When it comes to exercising ones rights under the state exemption schemes, the adage is true. The common lore is that if a person's assets are worth less than the state's exemptions, they do not need a bankruptcy to protect these assets. But the non-bankruptcy exemptions can be deceptively difficult to take advantage of without a lawyer. And, there is little reason to believe people who have just had a judgment entered against them for non-payment of a debt will have access to lawyer.

The exemptions allow the debtor to keep some necessary assets (house, car, tools of trade) out of the hands of judgment creditors. The reason we do this is not kindness but efficiency and utilitarianism. We want to save creditors the trouble of grabbing assets with little value and keep debtors from become wards of the state, keep them working, living inside, etc.  In theory, state exemption laws allow some people to avoid formal bankruptcy and still keep their assets, because they have no non-exempt assets that can be reached by creditors.

Nice theory, but here is how it works in real life.  Creditor gets a judgment.  Debtor gets notice of the judgment and a large packet of documents in the mail.  Among them is a piece of paper asking the debtor to state whether any of his or her assets are exempt from execution. If this is not done within 10 days (20 in some states), the exemptions are "deemed waived."

In the clinic this semester, a Spanish-speaking truck driver had a judgment entered against him, and the creditor subsequently obtained a writ of garnishment on the debtor's bank accounts. The debtor received the exemption form, along with a bunch of other papers, but had no idea what the papers meant or what he was supposed to do with them. He then discovered that his bank accounts had been raided while on a long road trip. One of the accounts garnished was an IRA, which is unquestionably exempt under state law. The 10 days had passed by the time he found us, leaving us with nothing else to do but beg for a hearing and, if we succeed, argue that somehow “deemed waived” means something other than just "waived."

The laws and rules on state exemptions do not further the policies behind them because they are so difficult to access. Do we actually care about the policies behind these laws? If so, we should make them more user-friendly. To start, why not change the default rules so creditors have to prove an asset is not exempt before seizing it, at least for some assets? At the very least, we should do this for IRAs and bank accounts filled with social security or other federal benefits. 

We also can do other things short of changing the default rules. First, what's with the 10-day deadline? Too short! Second, the document package, at least in New Mexico, is way too long. Finally, the description in the forms about what has to be done to claim an exemption is not noticeable enough. Trust me, as they stand now, these document just make people feel like idiots. Until we make some of these changes, in the state legislative process, the state law exemptions will remain an urban myth for those who need them most.


How about attaching the exemptions to the states Constitution? Texas is one. Even if there is a judgement in Texas one cannot lose his or her home to a judgment creditor if it is not a Home equity loan. They can... levy bank accounts though. People here in Texas enjoy that protection outside of BK regularly. Even land so long as your home is attached is exempt. Here in Texas so long as you can go without a bank account your golden. Your credit may not be but you cant lose your house to a Credit card co. thats for sure. Do people know about it? Nooooo! Some people here still think you can go to jail for not paying a credit card.

Good points. I don't understand why "proving you understand the law" almost becomes more important than the intent of the law. How about the fact that in Florida you can't dissolve a wage garnishment until after a creditor tries attaching your wages. Then you have to file papers claiming you are exempt, which means you qualify as a "head of household", and still yet you need to prove you are the main care provider for a dependent (the definition of a "head of household" in Florida). The law is meant to protect children and other dependents from suffering at the hands of a judgment creditor --- the legal hoops people have to jump through renders it very difficult to do.

I thought there were federal protections for federal funds like Social Security checks.

There are federal protections on the books, but again, the default rules are set in all the wrong places, so if the creditor can get his or her hands on the bank account and the debtor can't undo it, the money is gone gone gone. Check out this prior post of mine, under debt collection, posted on Jan. 5th. NM

Social Security payments retain their exempt status even in a bank account. See, Philpott v Essex County Welfare Board, 409 US 413, 415, 93 S.Ct. 590, 34 L.Ed.2d 608 (1973).

true, but the creditor can still take the money because the banks are not required to stop them, and once the funds are out of the bank account, it is hard to get them back.

Under Sniadach v. FamilyFinance Corp., 395 U.S. 337, 342 (1969) and Fuentes v. Shevin, 407 U.S. 67 (1972), notices are going out to judgment debtors prior to garnishment. If those notices are constitutionally inadequate, there's a good class action lawsuit there.

I understand your point about some people not understanding those notices, but it isn't like the old days when creditors glommed on to your wages, bank accounts, etc. with no prior notice - and little post-seizure opportunity to fight the issues even if you had an attorney.

The exemption laws aren't perfect, but there is a bit of a "argument by annecdote" here that I find uncompelling. There are lots of annecdotes that go the other way, with debtors evading their obligations even when they have an ability to pay. I believe the famous quote is something to the effect: "One may sojourn on the beaches of the Gold Coast of Florida with property values reaching to the stars and keep a homestead of unlimited value free of claims of the trustee or creditors." Outside of bankruptcy, you can still do that in Florida, right?

Is sending back a notice of claimed exemptions really too onerous when you are a judgment debtor? Maybe the answer is simply better, clearer notices.

"Trust me, as they stand now, these document just make people feel like idiots."

Have you considered the possibility that these people are in fact idiots?

Perhaps it's also possible that they didn't try to understand the documents but simply saw the size of the package and threw up their hands?

It sounds an awful like how they reacted to the size of their debts...

Was wondering where you “gone hid yourself” AMC. Writing that paper on deregulation of Mtg Industry?

Anyway... I see where AMC is coming from. If you get sued and there are possible thousands at stake, you need to talk to someone.....preferably an Attorney! ASAP! I have seen bank accounts levied and nothing but SS money in it. Just like you can see lawsuits brought beyond the statute of limitations. Do those basic protections stop those kinds of collection efforts? Every person has to protect his or her own rights and assert those rights affirmatively. I know its tough for some people especially if they do not know the language. Hey, if the law was easy to understand, we wouldn’t need lawyers would we? So if there is a lesson, it is that people need to know where, when and how to seek help.

To quietly respond to “jar head”: You cannot possibly “cookie cut” everyone into being an “idiot” just because they are in debt and subsequently sued. Debt doesn’t care if say you were fighting in Iraq and the Mortgage Co. sent you a foreclosure notice when they were not supposed to. Or the fact that someone got laid off of work and that unemployment check is $300 less a week than you have come to budget yourself to live on. Or if you cannot understand legal jargon. Unsecured credit and debt is a very slippery slope that only gets steeper after you miss a payment or two, maybe get over your limit a little….

It is quite the ordeal and expense to get a levy released in state court (J.P. court may be a bit easier though). When people in that situation come around normally, there is no need for a Bankruptcy because of the state law protections on property....but for the levy. To find someone to help you release that money in state court is expensive even if it is just writing a letter or two. To find someone on contingency is tougher even if you have a great case. The truth is that there are so many other people going thru the same thing, you may just get lost in the whole volume of it all.

Sometimes bankruptcy might be the less expensive alternative especially if there are other debts that are also dragging he or she down. Eight out of Ten times, there are usually plenty of other reasons to file bankruptcy at that point. You can practically finance your attorney’s fees over 1-3 yrs or so in a 13, which could release that levy without a hearing. If there is a hearing it is not in state court. It is in federal bankruptcy court, a venue in which most unsecured creditors are somewhat unfamiliar and would rather not bother with.

I think the point is "Can you do it yourself?"....NO......(for most people) Is the protection there?.....YES. "Knowing is half the battle".........yo....joe....

Patches -

When discussing public policy, there is a tendency to use a few really bad examples as justification for wholesale changes - without real discussion of what those changes will mean to the system.

Just as police officers have to fight a creeping perception that everyone is like the criminals they deal with every day, folks coming out of legal aid clinics can start to see the world as populated largely by people who are victimized by an oppressive system of law. There is a tendency to hold up examples of individual injustice as some type of "norm" - or "let me tell you how things really work".

On the other side of the coin, policy-making by annecdote got us a completely screwed up exemption scheme in the BAPCPA amendments. To combat the real, but relatively small, problem of debtors moving to Florida to take advantage of unlimited homestead exemptions, we now have an exemption system that is depriving people who have moved of any certainty about what they can exempted - using a concept (extraterritorial effect of state law exemptions) that was never even considered when exemption laws were passed. The "problem" was "fixed" at the expense of the relative certainty we had about exemption entitlement pre-BAPCPA.

I think that, as a general rule, the exemption/collection system currently in place is doing for debtors what BAPCPA was intended to do for creditors - it is a barrier. The rules regarding collections are protecting most debtors from most creditors by making aggressive collection activity uneconomical for most creditors.

Before we start putting the responsibility on banks for determining what the debtor should know best - the source of the funds in the account - what percentage of defaults on consumer debts are actually resulting in judgments? What percentage of those creditors who bother to get a judgment actually actively engage in attempts to collect consumer debts through garnishments, or other seizures of debtor assets? Again, I'd bet the percentage is very low. The big picture is that most creditors have found it more economical to just make annoying phone calls and report the default to the credit reporting agencies.

Do we, as a society, want to make a process that is already too cumbersome to be cost effective for most creditors for most debts, even more difficult?

Are we really best served, as a society, by protecting debtors who are defaulting on their obligations from going to see an attorney? Are attorneys such a bad thing that we need to have, as a policy goal, protecting every financially troubled consumer, in every possible situation, from having to consult with one?

And, more specifically, should we be putting the burden of determining - for example - that bank accounts do not contain social security monies on banks? Debtors are in a better position to know what's in their accounts. Privacy laws are going to be a potential problem for banks - both in investigating and disclosing why they aren't turning over monies from an account. And there is at least the potential for higher fees for every small bank customer to cover the costs of investigating, participating in litigation, and being potentially liable for mistakenly failing to act to protect accounts that they "should have known" were exempt.

I'm just not sold on it.

Unfortunately for me, the people I see, most of the time, have a current lawsuit on file already and they are not relegated to the young and employed. The amounts lately have shocked me and that’s because I am used to seeing them. I seem to remember seeing lawsuits for just hundreds of dollars as an extremely rare thing. I wish I could still say that. So the percentage for me at least, is higher than in the "real world". Granted, the sample is small even though we do volume work. The problem it think is the very possibility of those adverse actions….. the uncertainty. Will credit card companies go that far? No one, not even you AMC can say for sure, especially if there is a suit already on file. I have seen quite the increase in frequency of these credit card suits (for example), just this year. I have also seen law firms that do volume (County Tax collections) take up small claim suits. (that blew my mind). (This is extremely rare) but I have seen, recently, discovery go out to debtors when there was no judgment or even a lawsuit on file!

I do think that the laws were written for citizens of this country and everyone of them should be able to utilize them equally. (the lady with the scales is blindfolded) Should banks be made the "gate keepers"? I wouldn't go that far, not at all. I don't really think there needs to be whole sale changes to the exemption system. (in Texas, other states I could not say). Does it need tweaking? Periodically I think everyone can agree that laws do need house cleaning, again, every once and a while. Our whole legal system is set up to be able to change over time and in response to its citizens. Obviously I do not think Attorneys are a bad thing and people in trouble should consult with one even if they know the law and how it applies. Why? Deadlines are just one of many reasons and also “the lady with the scales”. Should each instance require an attorneys help? Not necessarily. Will debtors benefit from seeing an attorney even if he or she is not going to take action on the case? Yes! Negotiation of payback terms may be a good reason.

Do I think we should make some major changes to BAPCPA? uhhhhmmmmm……….yes! If anyone wants to start that conversation, I would be more than happy to participate.

P.S. AMC the only reason why I asked “if you were writing that paper on deregulation of the Mortgage industry” is because you blew my mind and I learned a lot from your comment on a previous post pertaining to the deregulations that have occurred and how they pertained. You seemed to have great recall on that subject among others.

Why are debtors in a better position than banks to know what is in their accounts? The bank keeps the records. Incoming payments have the name of the payor. The bank has a large IT staff. The bank has a large legal staff, that can account for the tracing rules of a particular state.
A social security debtor is--by definition--old. Many old people are sharp as a tack, but many are not. Many old people have problems with computers. Few old people have large legal staffs. They're in a better position to know what is in their account than their bank?

In the simplest case - where social security is received by direct deposit - both the bank and the debtor would know that the funds were exclusively from social security.

But, that is a very small percentage of the total number of bank accounts in this country. And, as I understand the proposal, ALL garnisheed bank accounts will have to be screened - not just old people's accounts with some obvious red flags associated with them that screams "this is a social security account!"

Moreover, even looking at the other side of the coin, not all social security is directly deposited into the only bank account the debtor has. And even in those cases where it is direct deposit, how is the bank supposed to know if the $500 in cash deposited into the same account is from a stock dividend, a gift from the kids, or a $1,000 withdrawal of social security funds that was only partially spent and then re-deposited? Only the depositor would know that.

In any situation where there are multiple accounts receiving monies from multiple sources, how do the banks do this "tracing"? Am I to understand that in every garnishment situation, every bank is going to ask every other bank that transferred funds into every garnisheed account where that money came from in order to determine if the source is social security? For what period of time do they go back, for every garnisheed account holder, and find out facts (where all deposits came from) that I would think are - or should be - covered by privacy laws? How far up the line of transferee banks do these armies of privacy-rights-disregarding IT people have to go to determine the "source" of funds?

If you are interested in a proposal I would support - how about allowing depositors to designate a "social security monies only" account, where they are supposed to only deposit exempt social security funds. Making a federal law that those kinds of accounts non-garnishable, absent fraud, would seem like a much more targeted and efficient way to deal with the problem.

Speaking as someone who does NOT have a law degree, but I do have a college education, the notices for claiming exemptions are just not clear enough for the average consumer. You lawyers know as well as anyone that our laws are written for LAWYERS, not the man on the street, and the language is usually very difficult to understand. Would it be that hard or that big a deal to ask that these notices be written in language that the average citizen CAN understand ??

The FDCPA speaks of the 'least sophisticated' person, yet our courts send out notices that, to far too many people, are just incomprehensible. People who are in the financial position that gets them sued are already more than weary of the whole debt collection process, a notice that isn't clear about what it is or what they MUST do, is just another body blow. 10 days ?? That's just ridiculous.. and is that 10 CALENDAR days or 10 BUISINESS days ?? Does the notice even clarify that ? They also are not in a position financially to go hire a lawyer. Many of them WILL just throw up their hands in defeat when presented with a raft of legal documents they can't make head nor tail of. MOST people are utterly clueless about the legal process, they are thoroughly intimidated by 'the court' and are afraid to set foot in the courthouse!

Put that exemption notice in plain English, written on the same 6th grade level as our newspapers, make it plan as day and on the TOP of the ream of other legal papers, is that really so hard to do ??

Bankruptcy consultations are usually free Diane. An attorney can take one look at those notices and make a determination on what needs to be done next and the time frame in which to do it.

Making notices easier to read may help some but you will still have people in the same situation despite the change in language. Notices will then have to be sent out in three different languages etc..

I agree with a lot of what you are saying Diane. It is hard for an everyday "joe" to understand legal jargon. There are many non profits and websites dedicated to these efforts. People can't just stick their heads in the sand though.

The other day I talked to someone who would not open or accept a "certified" letter from her mortgage co. I asked how many she had received. She could not even tell me that.... ohhhh two or three....!!!! I'm like.."EEEEEK!" Why didn't you accept them? "I was afraid and I thought that if I did not accept them they would not count". We stopped the foreclosure but it was a close one. She had to file bankruptcy on the weekend it was close.

Fear can force you to inaction or force you to act. Everyone has to choose and live with those choices. One way or the other, if choices are not made, the choices will be made for them. Fair debt collection practices act was meant to help but inaction can void your claim forever. People need to know and be taught how to seek help; Where the free help is and when to seek it. Unfortunately there is nobody out there preaching that kind of stuff.

I think I have a better proposal than yours. Make the first $3000 of any consumer transaction account non-garnishable. If the consumer goes above that balance, the creditors can grab it. If not, they can't.

Your notion of an SS-only account (which might already be a non-garnishable special deposit under some state laws) won't work. Consumers routinely create joint accounts when they only meant to create an agency. That means that Granny's account is Hoovered up because her kid--whose name is on the account only because Granny has problems reading her statement and needs somebody to cut her checks--has a financial setback. Sorry. The level of consumer sophistication can get pretty low.

So, under your proposal, to avoid garnishment Joe Slimeball just opens 20 different accounts of $2,900 each? In the collection arena, every proposed change to protect consumers has to be weighed against how smart scoundrels will use the law to their advantage. I think it would be easier to craft a penalty and enforce it for the SSOnly Account, as opposed to every individual's account being protected to the extent of $3,000 - which is more than Ohio, for example, allows as an exemption for cash.

Simple solution to the SSOA problem you see - don't allow joint accounts unless the joint account holders are married and both receiving SS. This would have the added benefit of not having joint account problems when the account holder really intends to have a POD account, or another person just able to sign checks (a "convenience account").

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