A potential client called me the other day. He and his family were in a financial situation where they were being forced to consider filing for bankruptcy relief. They were in a situation that many find themselves in these days: their job situation had changed and they could no longer afford their mortgage payment. Their payment had fallen 4 or 5 payments behind. They had credit card debt that used to be manageable, but now that all their income was going towards paying basic living expenses, they were delinquent and their interest rate had shot to 27%, creating an insurmountable hole of debt that they had no idea how they’d ever get out of.

As I continued to speak with him, it became more and more clear that bankruptcy was an option that he and his family needed to consider. After speaking to him about their debts, I began to question him about his assets to determine whether he had any property at risk of seizure. My heart sank as he proudly told me that, in preparation for the financial changes  that his family needed to make, he had made it a priority to pay off his vehicles. Unbeknownst to him at the time, by creating equity in the property he desired to keep after filing a bankruptcy, he was putting them severely at risk of seizure by the bankruptcy trustee.

A bankruptcy trustee is appointed by the bankruptcy judge to manage and oversee the administration of a bankruptcy estate. It is his or her job to analyze the debtor’s situation and to determine if there are any non-exempt assets that he is able to take from the debtor, sell, and distribute the money to the creditors (as well as taking a percentage of what he liquidates for himself). A “non-exempt asset” at risk of seizure is 1) an asset that falls outside of the protection of Nevada’s exemption laws, and 2) an asset with equity.

In Nevada, debtors are allowed to file for bankruptcy relief and keep certain property, including a primary residence with up to $550,000 in equity, a vehicle for each debtor worth up to $15,000 in equity, etc. There are many exemptions that protect things like household goods, IRAs, 401ks, and other assets. Notice the term “in equity”.  Let’s compare two scenarios:

Michael wants to file for bankruptcy. He lives in a home worth $800,000, and he owes one mortgage of $400,000 on it, therefore he has equity in his home in an amount of $400,000. He also owns one vehicle: a truck worth $30,000, which he owes $22,000 on, meaning he has $8,000 in equity in his vehicle.

Kendra wants to file for bankruptcy. She lives in a home worth $600,000, and it’s paid off in full, so she has $600,000 in equity in her home. She also drives a vehicle worth $20,000, and it’s paid in full as well, meaning that she has the full $20,000 in equity in her vehicle.

If Michael and Kendra were both to file a Nevada bankruptcy, Michael would get to keep both his home and his vehicle, while Kendra’s home and vehicle would be seized by the bankruptcy trustee and sold for the benefit of her creditors. Why? Because the equity in Michael’s property is protected by the Nevada exemptions, and Kendra’s equity exceeds the allowable amount. This is so even though Kendra was essentially a “more responsible” debtor, who paid her mortgage and vehicle creditors in full, and Michael has more valuable assets and owes large amounts on them.

So, when you and your family are considering bankruptcy, before you decide to pay off an asset you should make a determination of whether that will ultimately help or hurt your family’s situation in bankruptcy. An experienced bankruptcy attorney can assist you in this process and inform you of the risks involved with any financial move prior to bankruptcy.