Most states, including Kentucky, have something called a homestead exemption established by legal statute. An “exemption” is basically a protection for homeowners that “exempts” a portion of real estate from creditors. Kentucky actually has two homestead exemptions, and which one is applicable depends on the circumstances.

Using the Kentucky Homestead Exemption in State Court

Under Kentucky’s exemption law, homeowners who have been sued in state court by a creditor can protect up to $5,000.00 of their real estate from creditor attachment. An attachment to real estate from a state court judgment is referred to as a “judgment lien”. For example, ABC Corp. sues me and obtains a judgment for $10,000 then records a “judgment lien” in the county clerk’s office. My house is worth $100,000, but I have a $97,000 mortgage, so I have $3,000 in “equity” in my home. Under the state exemption statute, my equity is protected! But this little consolation unless I plan on selling my house soon. If I continue to live there and pay down the mortgage I am building more equity for the lien to attach to (not to mention the liability for judgment still exists and the creditor can garnish my wages in addition to placing the lien).

Applying the Kentucky Homestead Exemption in Bankruptcy Court

If I file bankruptcy in federal court to get rid of the judgment a different exemption applies for my real estate. In bankruptcy, Kentucky law allows me to apply the federal bankruptcy exemption which is in excess of $25,000, significantly higher than if I am in state court. Let’s explore how this works:

Let’s say instead of a $97,000 mortgage I have a $75,000 mortgage balance. With a $100,000 home value I have $25,000 in equity. Therefore, if I sell my home I would receive $25,000 in my pocket after the mortgage is paid. However, if there is a $10,000 judgment lien against my equity the creditor gets paid from the sale and I only get $15,000 ($100,00 – $75,000 mortgage – $10,000 lien = $15,000). Remember, under Kentucky law I can only protect $5,000 from my creditors outside of bankruptcy. But if I file bankruptcy I can protect over $25,000 in my equity because the higher exemption applies!

This protection extends to creditors and the bankruptcy trustee. Because it is etched in law, it means the protection cannot be overcome. Even though I have a lot of equity, filing for bankruptcy protection actually helps protect my home. This is counter intuitive to many homeowners because bankruptcy has a negative stigma, but in fact it can be advantageous in the long term. In addition, through bankruptcy I can “void” the judgment lien. In this situation filing bankruptcy actually helps save my equity from creditors, and I will exit bankruptcy with my house but without the judgment lien(s) filed by creditors!

If you have been sued and served notice that creditors are filing liens against your house consider speaking with an experienced personal bankruptcy attorney. Every case is different, but it is important to know how the homestead exemption can protect you.