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December 2005Should Washington Raise the Homestead?by Frederick P. Corbit For more than a century, Washington homeowners have been protected from judgment creditors. Specifically, there is a “homestead” that exempts a limited amount of home equity from foreclosure on judgment liens. The homestead was created to protect families from losing their homes in hard times,1 but in relative terms the homestead has shrunk over the years, so that it now covers only a small portion of the value of a modest house. The Washington state homestead exemption has been limited to $40,000 since 1999, while the average price of a home in Washington has skyrocketed. (Pursuant to Chapter 6.13 of the Revised Code of Washington, there is a $40,000 homestead or, in other words, there is $40,000 of equity in a home that is unavailable to creditors unless voluntarily transferred by a deed or mortgage.) The median price for a home in Washington state has jumped from $136,600 in 1995 to $225,000 in 2004.2 And the failure of the homestead to keep pace with rising home prices is not a new phenomenon. U.S. Census data show that the median price of a house in King County grew from $9,200 to $236,000 between 1950 and 2000,3 but during the same period the homestead rose from $4,000 to $40,000.4 Washington’s shrinking homestead is in stark contrast to what has happened in some other states, like Florida and Texas. Until recently, the homesteads in those states were unlimited and therefore always covered the full value of homes regardless of inflation. The unlimited homesteads provided by some states were criticized as a result of the actions of some unscrupulous individuals, like some of the former executives of Enron, who were able to use homesteads to keep millions of dollars of equity in their luxurious homes away from the claims of the creditors they defrauded.5 As a result, Congress recently amended the Bankruptcy Code to provide debtors in all states with a $125,000 limit on homesteads acquired within 1,215 days of their bankruptcy filings.6 Congress concluded that a homestead over $125,000 is too high, but did not discuss whether $40,000, as allowed in Washington, could be too low. Is it time for the Washington Legislature to raise our homestead? Why a homestead? Many reasons are given for the homestead exemption. The Washington State Supreme Court has said that its purpose is to “protect the family” from being evicted from their home.7 Also, commentators have noted that the homestead is necessary to achieve the classic goal of providing debtors with a “fresh start” from crushing debts.8 Finally, the homestead exemption encourages prudent long-term investments in homes, which is consistent with the stated policy of the state of Washington to ensure the well-being of its citizens by protecting assets for retirement.9 Building equity in a home is a form of savings, and Americans are not saving like they used to. Back in the 1950s, the generation of Americans who survived the Great Depression and World War II saved roughly eight percent of their income, but now savings have plummeted to just 1.3 percent.10 Accordingly, it is argued that government policies are needed to promote savings, so that households have more economic security.11 Increasing the homestead is one way our Legislature could provide an incentive to save. What is the effect on credit of raising the homestead? Homestead exemptions shield debtors’ equity from the claims of creditors, and therefore limit the rights of creditors. Accordingly, if creditors’ rights are further limited by increasing the homestead, there is a concern that credit will no longer be as accessible. However, increasing the homestead will have different effects on different types of credit. Since home loans are normally secured, their performance levels would be relatively unaffected by exemption levels. In fact, in a scholarly paper by two federal experts, the authors expressed their opinion that higher homestead exemptions can actually benefit mortgage lending.12 It is argued that higher homesteads should reduce the incidence of mortgage default by leaving borrowers with more wealth after a bankruptcy filing, which would help the borrowers repay the mortgage in the future. On the other hand, increased exemptions would likely make it more difficult for consumers to obtain unsecured credit.13 (To the extent there are additional limits on the assets available to satisfy the judgments obtained by unsecured lenders against defaulting borrowers, the less desirable it becomes for unsecured lenders to do business in Washington.) But how much more difficult would it be to obtain unsecured credit in Washington if the homestead amount were increased? And would tightening the availability of unsecured credit necessarily be a bad thing? The answer to the first question can be found in Florida, Iowa, Kansas, South Dakota, and Texas. Prior to the recent amendments to the Bankruptcy Code, each of these states had an unlimited homestead exemption, but their residents were still bombarded with credit-card applications just like the residents of Washington. The answer to the second question is “No.” The plethora of easy-to-obtain credit cards is not good for our economy. Credit-card debt has almost tripled since 1989 and is up 31 percent in the past five years.14 Moreover, large unsecured debts to credit-card companies frequently end up eating into home equity, because many homeowners take out a second mortgage to obtain a debt-consolidation loan when their unsecured debt loads become overwhelming.15 In conclusion, the Washington homestead and the savings of Washingtonians are shrinking. Therefore, to encourage savings, and to protect homeowners at a level more equivalent to what was provided in previous decades, the Washington Legislature should increase the homestead. Fred Corbit is a shareholder in the law firm of Heller Ehrman LLP, and actively represents clients in creditor/debtor matters across the United States. Corbit is a past chair of the WSBA Creditor/Debtor Section and a past president of the King County Bar Association Bankruptcy Section. NOTES 5 See, Ryan P. Rivera “State Homestead Exemptions and Their Effect on Federal Bankruptcy Laws,” 39 Real Property, Probate and Trust Journal, 71 (Spring 2004). 6 See, 11 U.S.C. § 522 as amended by the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005. 7 See, Note 1. 8 See, Note 5, supra, at 74. 9 See, RCW 6.15.020(1). 15 See, Id.
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