Bankruptcy

The Myth of the Non-Bankruptcy Exemptions

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.

Full post as published by Credit Slips on May 28, 2008 (boomark / email).