Bankruptcy and Homesteads
Homesteads, their creation and termination, is a subject separately dealt with in these notes. But it is appropriate here to discuss homesteads in connection with bankruptcy proceedings. This is because homesteads can be claimed as exemptions in bankruptcy and the bankruptcy courts have turned the law of homesteads on its head in those proceedings, primarily because of federal preemption. In this regard, for example, the federal courts have held that in bankruptcy proceedings debts preexisting the homestead, which otherwise under local law would "trump" the homestead, have been held to be subordinate to it.
One of the first big surprises about homesteads and bankruptcy that was unveiled by the federal courts was the subject of the decision in Patriot Portfolio, LLC v. Weinstein, 164 F3rd 677 (1999). The facts are simple:
Weinstein acquired locus in the 1970s.
In 1990 Weinstein contracts a debt with Patriot.
In 1992 Patriot sues Weinstein, wins and places an execution against locus.
In 1996 Weinstein declares a homestead and immediately thereafter files for bankruptcy.
Weinstein claimed the homestead as an exemption and made a motion to avoid Patriot's lien because it impaired the exemption under §522 of the Bankruptcy Code, which provides:
Notwithstanding any waiver of exemptions . . . the debtor may avoid the fixing of a lien on an interest of the debtor to the extent that such lien impairs an exemption to which the debtor would have been entitled . . . if such lien is a judicial lien.
Patriot vigorously objected to the motion, based on the fact that its lien predated the homestead. Patriot's position was that under G.L.c. 188, §1 debts that predated a homestead were under that statute superior to the homestead and that under G.L.c. 188, §5 it is provided that no homestead shall affect a lien previously existing. Its argument was that the exemption was itself impaired by the very existence of Patriot's lien, since the lien predated the homestead, so therefore the lien did not "impair" the exemption. It would seem as though Patriot had a winning argument. However, the federal court thought otherwise, based on the provisions of §522. The court, quoting the Supreme Court's decision in Owen v. Owen, 500 U.S. 305, 111 S.Ct. 1833, 114 L.Ed2d 350 (1991) noted that:
The proper question to ask is not whether the lien impairs an exemption to which the debtor is in fact entitled, but rather whether the lien impairs and exemption to which the debtor would have been entitled but for the lien itself.
The court was essentially saying that the timing of the lien, and the fact that it may have predated the homestead, is not the question. In this regard, the question is a theoretical one. To determine whether any particular lien can be avoided, one has to add up all the liens, together with the exemption, and compare that sum to the debtor's interest in the property. To the extent that the sum exceeds the debtor's interest, that particular lien is avoided. And this mathematical process is applied to each lien separately. As to the conflict between the Massachusetts law and the applicable federal law, the court said that the federal law did make "carve outs" as to some matters, such as taxes, alimony and support, to which the claimed exemption would be subject, but that the prior contracted debt exception that appears in the Massachusetts law is not one of the types of debts specified in the federal law, and therefore is invalid in bankruptcy because it conflict with those specified in the federal law.
One thing to keep in mind is that §522 applies only to "judicial" liens, so that its "upside-down" application would not result in the claimed exemption being impaired by a mortgage, permitting the mortgage to be avoided.