Homestead does little to protect your home

Question: I’d like information about homesteading my property. I have a friend in California who recently did this. It basically is insuring your home so that nobody can take it away from you through a lawsuit or something like that.

S.K., Everett

Answer: When you mention the word homestead, some people immediately conjure up images of the pioneers and the Homestead Act of 1862. Under that act, a head of household could gain legal title to a 160-acre tract of public land simply by clearing it, improving it and living on it for five years.

Well, that was a long time ago. Today, each state has its own homestead laws, which are concerned with protecting a certain portion of the property owned by the head of a household from being confiscated and sold to satisfy debts. Some states offer much more homestead protection than others. By comparison to other states, Washington’s homestead protection law is relatively weak.

Homestead laws were enacted to promote property ownership and family stability. However, many homeowners misunderstand the law and think that it provides more protection than it actually does. For example, in this state you don’t have to do anything to “homestead” your property.

The homestead designation is automatic as soon as you occupy a particular property as your permanent residence. Washington’s Homestead law protects up $30,000 of the equity in your home from a forced sale to satisfy “unsecured” creditors. However, the homestead exemption does not protect you from secured creditors such as your mortgage holder.

That is the most common misconception about the homestead law. If you don’t make your mortgage payments, your lender can foreclose and sell your house at auction to pay off the loan regardless of whether you have a homestead exemption because the mortgage is a secured lien, which means that your home is the collateral for the loan.

The homestead law protects you only from unsecured creditors. For example, if you had to pay a $30,000 judgment to settle a lawsuit and your only financial asset was $30,000 equity in your home, the winning party could not file a lien against your home to collect the judgment. But if you had $60,000 worth of equity in your home, the winning party in the lawsuit could force the sale of your home, give you the first $30,000 protected by the homestead exemption, and keep the other $30,000 as payment of the judgment.

Mortgages aren’t the only exception to the homestead protection. The following types of liens also are exceptions:

* Mechanic’s liens for work performed on your home.

* Child support debts.

* Condominium or homeowners association dues and assessments.

* Certain debts in a bankruptcy filed by one spouse within six months of the other spouse’s bankruptcy.

As you can see, with all of the exceptions listed above, the homestead exemption has very few applications in the real world. The homestead law mainly comes into play in bankruptcies. When they are over their head in debts, most homeowners will let all their other bills slide in order to keep making their mortgage payments on time. In bankruptcy court, the judge will let the homeowner keep their house if they are not delinquent on their mortgage and their equity is $30,000 or less.

Bankruptcy judges tend to be fairly lenient on that $30,000 threshold. For example, if the house was worth $300,000 and the mortgage balance was $240,000, that would be a total equity of $60,000. But the judge might take into consideration that the homeowner would incur approximately $30,000 in real estate commissions and closing costs, plus other selling and moving expenses, and therefore conclude that the “net” equity would be within the $30,000 limit protected by the homestead law.

The bottom line is, the homestead law might discourage someone from suing you if your only asset is a home equity of $30,000 or less, and it might allow you to keep your home if you wind up in bankruptcy court. But for most of us, the homestead law has little, if any, impact on our personal finances.

Mail your real estate questions to Steve Tytler, The Herald, P.O. Box 930, Everett, WA 98206. Fax questions to Tytler at 425-339-3435 or e-mail him at economy@heraldnet.com

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