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Homestead Protections in Texas


With Comments on Asset Protection and Estate Planning

by David J. Willis, J.D., LL.M.

Introduction

This article outlines unique protections available to an individual’s residence and personal property by what are commonly referred to as "Texas homestead laws," found in Texas Constitution article XVI, section 50 and Property Code chapters 41 and 42. Our focus is on Texas law, not rules or exemptions under federal or bankruptcy law. It is worth observing, however, that bankruptcy rules are tougher on debtors than Texas law. Generally speaking, if a debtor can stay out of bankruptcy, hunker down, and maximize Texas state protections, that is the preferable course.

The homestead has always been sacred in Texas, reaching back to the Republic of Texas and even before. See Stephen F. Austin, Code of Civil Regulations (1824). The Texas Constitution (section 28) and Property Code section 42.001(b)(1) provide that the homestead of a family or single adult is protected from forced sale for purposes of paying debts and judgments except in cases of purchase money, taxes (both ad valorem and federal tax liens against both spouses), owelty of partition (divorce), home improvement loans, home equity loans, reverse mortgages, liens predating the establishment of homestead, refinance loans, or the conversion or refinance of a lien on a mobile home that is attached to the homestead. Other liens are void. Further, even a permitted lien must be in writing and signed by both spouses to be valid. The protection of the homestead combined with the prohibition against garnishment of wages has long made Texas a destination for debtors.

It is quite possible to make a good salary (no monetary limit), own a paid-for million dollar home, drive a paid-for car, have numerous judgments against you (from Texas or other states), and be reasonably secure under Texas law from creditors–although dealings in current cash accounts may be severely restricted. As to the home itself, there is no dollar limitation on its exempt value. McCombs, 659 F.3d at 507.

Asset protection planning in Texas relies on constitutional and statutory homestead protections plus formation of an LLC (or a two-LLC structure) for investments, with the goal of utilizing anonymity techniques whenever feasible. Add a living trust to the mix, and asset protection and basic estate planning can be effectively integrated.

Homestead laws are liberally construed by the courts. London v. London, 342 S.W.3d 768, 776 (Tex. App.–Houston [14th Dist.] 2011, no pet.). "Indeed, a court must uphold and enforce the Texas homestead laws even though in so doing the court might unwittingly assist a dishonest debtor in wrongfully defeating his creditor." PaineWebber, Inc. v. Murray, 260 B.R. 815, 822 (E.D. Tex. 2001). Unless a judgment debtor owns investment real estate, cash or cash-equivalent on deposit, or a business with attachable inventory–or engages in detectable fraud in concealment of assets–a Texas judgment against an individual may be uncollectable.

Homestead protections are available only to individuals–not corporations, partnerships, or LLCs–and they do not encompass investment or business assets (which should be held in an LLC); nor is a debtor’s ownership in corporations, partnerships, or LLCs protected from the consequences of a judgment. Such business interests are non-exempt personal property.

What is a Homestead?

The answer is not as obvious as one might think. Although a person’s homestead is primarily a question of intent, it must be based in a real property interest. For instance, neither a mobile home nor a boat qualify. But a vacant lot can be homestead if the owner has reasonable expectations of building a home on it; a leasehold estate (rental property) can be homestead; a life estate may also qualify; and even a beneficial interest in a trust that holds real estate can be homestead.

Property Code section 41.002 supplies the following size limitations:

(a) If used for the purposes of an urban home or as both an urban home and a place to exercise a calling or business, the homestead of a family or a single adult person not otherwise entitled to a homestead shall consist of not more than 10 acres of land which may be in one or more continuous lots, together with any improvements thereon.

(b) If used for the purposes of a rural home the homestead shall consist of:

(1) for a family, not more than 200 acres, which may be in one or more parcels, with the improvements thereon; or

(2) for a single, adult person, not otherwise entitled to a homestead, not more than 100 acres, which may be in one or more parcels, with the improvements thereon.

The statutory definition applies to realty and fixtures, not movable personal property. Movable, non-affixed items are not considered part of the homestead and are not exempt from execution unless included in the list of exempt personal property under Property Code section 42.002 (details below).

A person may claim an urban homestead or a rural homestead but not both. What constitutes "urban" versus "rural" has been the subject of litigation. It is a fact issue that differs from case to case. Once established, however, the initial characterization of the property as urban or rural continues even if the nature of the surrounding area changes. United States v. Blakeman, 997 F. 2d 1084 (5th Cir. 1992).

Also, one may not have both an urban residential homestead and an urban business homestead (a place to exercise a calling or business). To qualify, the homestead must be used either for residential homestead or as both residential homestead and business homestead. Tex. Const. art. XVI, § 51; Tex. Prop. Code § 41.002(a); Majeski v. Estate of Majeski, 163 S.W.3d 102 (Tex. App.–Austin 2005, no pet.).

The act of living upon and utilizing real property essentially settles the issue of whether or not it is homestead. The possession and use of land by one who owns it and who resides upon it makes it homestead in both fact and law. "Once property has been dedicated as homestead, it can only lose such designation by abandonment, alienation, or death. After the party has established the homestead character of the property, the burden shifts to the creditor . . . to disprove the continued existence of the homestead." Wilcox v. Marriott, 103 S.W.3d 469, 472 (Tex. App.–San Antonio 2003, pet. denied).

A family may have only one homestead–which raises the question, what is a family? That is a flexible definition in Texas so long as the head of household is legally or morally required to support a least one other family member. Individual family members may not claim separate homesteads.

Moving to Texas

Can persons from other states declare their intent to reside in Texas and designate a protected homestead there? Yes. If the issue is raised in court, it will be a fact issue to determine whether or not such a declaration was made in good faith (or with the obvious intention of defrauding creditors) and if there is some actual occupancy of the property as well as perhaps a Texas driver’s license, voter registration card, etc. This is not a difficult test since there is no minimum number of days a person must physically reside in Texas in order to claim a homestead. If someone has multiple lawsuits and judgments, then moving to Texas to establish a homestead may be an excellent asset protection strategy, particularly if it can be done in the ordinary course of life and business. After all, people move to Texas every day for many good reasons.

Moving from One Homestead to the Next

Property Code section 41.001(5)(c) states that "[t]he homestead claimant’s proceeds of a sale of a homestead are not subject to seizure for a creditor’s claim for six months after the date of sale," permitting homestead protections to be rolled over from one homestead to the next–notwithstanding the perverse inclination of title companies to collect judgments upon sale of the homestead. Taylor, 777 S.W.2d at 570.

Designating a Homestead

It is useful, both for ad valorem tax purposes and for protection from creditors, to file an affidavit designating the homestead in the real property records of the county in which the property is located. Tex. Prop. Code § 41.005. However, for protection from creditors, this is not strictly necessary. The homestead arises automatically when required legal conditions occur. Graham v. Kleb, Civ. Act. Nos. H-07-2279, H-07-2878, 2008 WL 243669, at *4 (S.D. Tex. Jan. 29, 2008) (not selected for publication). Also, if a person receives a homestead tax exemption then creditor protection is automatic.

A creditor is on notice that homestead protections will apply if the debtor occupies a homestead. "When a homestead claimant is in actual occupancy of his homestead, it will be deemed that a lender or encumbrancer acted with knowledge of the occupant’s right to invoke the rule of homestead." Sanchez v. Telles, 960 S.W.2d 769, 772 (Tex. App.–El Paso 1997, pet. denied). Moreover, the homestead is presumed to endure. "Once property has been dedicated as homestead, it can only lose such designation by abandonment, alienation, or death. After the party has established the homestead character of the property, the burden shifts to the creditor . . . to disprove the continued existence of the homestead. In other words, a homestead is presumed to exist until its termination is proved." Wilcox v. Marriott, 103 S.W.3d 469, 472 (Tex. App.–San Antonio 2003, pet. denied). Once obtained, homestead rights are not easily lost. A homestead claimant may even temporarily rent the property so long as another homestead is not acquired. Tex. Prop. Code § 41.003.

It is not necessary that a homestead claimant actually reside on the property at the time homestead is claimed. "A homestead exemption may be established upon unoccupied land if the owner presently intends to occupy and use the premises in a reasonable and definite time in the future, and has made such preparations toward actual occupancy and use that are of such character and have proceeded to such an extent as to manifest beyond doubt the intention to complete the improvements and reside upon the place as a home." Farrington v. First Nat’l Bank, 753 S.W.2d 248, 250-51 (Tex. App.–Houston [1st Dist.] 1988, writ denied). The key issues are intent and preparation. Generally, however, in order to make a conclusive and indisputable homestead claim, a person must have a present and exclusive possessory interest in the property.

A person may also execute an affidavit disclaiming particular property (and, optionally, designating other property) as homestead, and a lender is entitled to rely on such an affidavit in making a loan that will be secured by nonhomestead property. This is typically referred to as a "nonhomestead affidavit."

Although there is a conceptual overlap, the homestead protection laws should not be confused with the homestead tax exemption as reflected on the rolls of an appraisal district, which is designed to lower ad valorem taxes on homeowner-occupied property.

Judgments against the Homestead

These are a headache. Texas courts have ruled that although a judgment lien may be unenforceable against a homestead, it may nonetheless constitute a cloud on title, even if it is invalid. Tarrant Bank v. Miller, 833 S.W.2d 666 (Tex. App.–Eastland 1992, writ denied). This may result in a title company refusing to issue insurance unless a seller/debtor’s judgments are paid, notwithstanding the six-month rollover protection. The homeowner’s remedy is Property Code section 52.0012 which provides a statutory method for securing a release of a judgment lien against homestead property–but only for judgments abstracted after 2007.

Protection of Personal Property

It is not just realty that is protected. Chapter 42 of the Property Code states that personal property valued at $60,000 for a family or $30,000 for a single adult (exclusive of liens) is exempt from garnishment, attachment, execution or other seizure so long as it is on the following list:

§ 42.002. Personal Property

(1) home furnishings, including family heirlooms;

(2) provisions for consumption;

(3) farming or ranching vehicles and implements;

(4) tools, equipment, books, and apparatus, including boats and motor vehicles used in a trade or profession;

(5) wearing apparel;

(6) jewelry not to exceed 25 percent of the aggregate limitations prescribed by section 42.001(a);

(7) two firearms;

(8) athletic and sporting equipment, including bicycles;

(9) a two-wheeled, three-wheeled, or four-wheeled, motor vehicle for each member of a family or single adult who holds a driver’s license or who does not hold a driver’s license but who relies on another person to operate the vehicle for the benefit of the nonlicensed person;

(10) the following animals and forage on hand for their consumption:

(A) Two horses, mules, or donkeys and a saddle, blanket, and bridle for each;
(B) 12 head of cattle;
(C) 60 head of other types of livestock; and
(D) 120 fowl; and

(11) household pets.

If the value of the personal property exceeds the specified dollar amounts, then the excess property is subject to levy pursuant to Property Code section 42.003, although this seldom occurs as a practical matter.

Income and Wages

Pursuant to Property Code section 42.001(b)(1), "current wages for personal services, except for the enforcement of court-ordered child support payments" are exempt "from garnishment, attachment, execution, and other seizure." This includes severance pay. Note that wages are expressly exempted from the $60,000 family limit and the $30,000 single adult limit. Additionally, "unpaid commissions for personal services not to exceed 25 percent" of these limits are also protected.

Can you create a corporation, LLC, or partnership that will pay you wages so that you can declare them exempt? Quite possibly, so long as it can be shown that the corporation, LLC, or partnership is truly a distinct entity that independently conducts business and declares income. Justifying such measures almost always comes down to the "ordinary course of business" defense (see below).

Case law imposes some caveats, however, on the protection of wages. "Once wages are received by the debtor, they cease to be current wages and are not exempt from attachment, execution or seizure for the satisfaction of liabilities"–although this is not true of Social Security payments. 42 U.S.C. – 407. In other words, cash in hand from whatever source is usually vulnerable. It can be attached, and very easily so if it resides in a bank or investment account. Also, the term "current wages" is interpreted to mean a regular salary or hourly pay, not compensation paid to an independent contractor. Payments to independent contractors are not protected. See Brink v. Ayre, 855 S.W.2d 44 (Tex. App.–Houston [14th Dist.] 1993, no writ). This is surely an unjust gap in the overall regime.

Additional Exemptions

Retirement plans (IRAs and 401(k)s) are exempted under section 42.0021 so long as contributions do not exceed the amount that is deductible under current law. Rollover proceeds are exempt for 60 days.

Also exempted under section 42.0021 are certain savings plans "to the extent that the plan, contract, annuity, or account is exempt from federal income tax, or to the extent federal income on the person’s interest deferred until actual payment of benefits to the person" under the Internal Revenue Code.

College tuition funds (including IRS section 529 funds and accounts established under Subchapter F, Chapter 54 of the Texas Education Code) are exempted under section 42.0022.

Exemption for Life Insurance and Annuities under the Insurance Code

Insurance Code section 1108.001 adds the cash value of annuities and life insurance policies to those items which are exempt from garnishment, attachment, execution, or other seizure under Chapter 42 of the Property Code. This section "applies to any benefits, including the cash value and proceeds of an insurance policy, to be provided to an insured or beneficiary under . . . an insurance policy or annuity contract issued by a life, health, or accident insurance company."

No Exemption for Fraudulent Intent

Property Code section 42.004 provides that an exemption is lost if non-exempt assets are used to buy or pay down indebtedness on exempt assets "with the intent to defraud, delay, or hinder" a creditor. This reaches back two years for liquidated claims, one year for unliquidated or contingent claims. However, proving such intent (and thereby getting a transfer set aside) can be challenging for a creditor. Additionally, Property Code section 42.004(c) offers the debtor a defense if the transaction occurred in the ordinary course of business. As a practical matter, this definition may be expanded to include "the ordinary course of business and life."

It remains the burden of the creditor to both discover such transfers and prove that they were impermissible. Judgment creditors vary widely in the energy and determination they expend on postjudgment collection efforts. For instance, most judgment creditors will send postjudgment discovery demanding disclosure of assets; but many creditors do not even bother to do this, perhaps electing to wait until the debtor attempts to sell non-exempt real property and a future title company requires that the judgment be paid. Creditor aggressiveness in any particular case is unpredictable.

Here is an interesting example of fraudulent intent: a failed builder, owing millions on notes that he signed or guaranteed, conspired with his wife to file for divorce and then transfer substantially all of their community assets to the wife in the settlement. After the divorce was final, the husband filed bankruptcy showing few or no assets and sought to discharge the debts. The bankruptcy trustee notices that the husband never moved out of the couples’ very expensive home, and he rightfully became suspicious. Not a surprise.

In a recent novel, a fellow who absconded with 50 million dollars was told by the man chasing him: "You took too much money. If you had just taken 5 million, we would have written it off. Now we will chase you to the ends of the earth." So the size of the debt is also a factor.

Role of a Living Trust

The Texas Constitution and the Property Code already provide the homestead with substantial asset protection. However, placing the homestead into a living trust can add some anonymity and, when joined with a pour-over will, accomplish a measure of estate planning as well, since the delay and expense of probate (although modest in Texas) are reduced or eliminated. Why? Because the living trust does not die, and title therefore remains in the trust regardless of the death of one of the beneficiaries. Also, Property Code section 41.0021, entitled "Homestead in a Qualifying Trust," specifically allows a homestead to be transferred into a living trust without losing its exempt character.

Investment Properties and Business Assets

Homestead law has been heavily litigated, and any steps taken by either a creditor or debtor are subject to case-by-case review by a court with results that may occasionally be difficult to predict. Nonetheless, maximizing statutory and constitutional homestead protections is an important part of asset protection. However, investment properties and business assets do not receive the same treatment, so investors should plan accordingly. As a rule, investment properties should be kept separate from the homestead and placed in an LLC, preferably a series LLC which has the ability to compartmentalize assets and insulate them from liabilities associated with other company assets.

DISCLAIMER

This document is not intended to offer legal advice. It is offered for general educational and informational purposes only. The law changes. A competent, experienced attorney should always be consulted before utilizing any of the information contained in this article. Reading this article does not make you a client of this firm. This firm does not represent you unless and until it is retained by means of a monetary retainer and expressly agrees in writing to represent you.

THIS DOCUMENT IS NOT INTENDED TO BE USED, NOR CAN IT BE RELIED UPON, BY ANY TAXPAYER FOR THE PURPOSE OF AVOIDING PENALTIES IMPOSED UNDER UNITED STATE FEDERAL TAX LAWS. THIS DOCUMENT DOES NOT CONSTITUTE A TAX OPINION OR OTHER ADVICE TO WHICH CIRCULAR 230 IS RELATED.

Copyright © 2013 by David J. Willis.  All rights reserved worldwide. David J. Willis is board certified in both residential and commercial real estate law by the Texas Board of Legal Specialization. More information is available at his website, http://www.LoneStarLandLaw.com.

 

SUMMARY OF EXEMPT ITEMS

Homestead including improvements (up to 10 acres in urban areas, up to 200 acres in rural areas) if used for the purposes of an urban home or as both an urban home and a place to exercise a calling or business, including cash sales proceeds for up to 6 months.

Personal Property (limited to $60,000 worth for a family or $30,000 worth for a single adult)

(1) home furnishings, including family heirlooms;
(2) provisions for consumption;
(3) farming or ranching vehicles and implements;
(4) tools, equipment, books, and apparatus, including boats and motor vehicles used in a trade or profession;
(5) wearing apparel;
(6) jewelry not to exceed 25 percent of the aggregate limitations prescribed by Section 42.001(a);
(7) two firearms;
(8) athletic and sporting equipment, including bicycles;
(9) a two-wheeled, three-wheeled, or four-wheeled, motor vehicle for each member of a family or single adult who holds a driver’s license or who does not hold a driver’s license but who relies on another person to operate the vehicle for the benefit of the nonlicensed person;
(10) the following animals and forage on hand for their consumption:
(A) Two horses, mules, or donkeys and a saddle, blanket, and bridle for each;
(B) 12 head of cattle;
(C) 60 head of other types of livestock; and
(D) 120 fowl; and
(11) household pets.

Current wages personal services (except for court-ordered child support payments)

Retirement plans (IRA’s and 401k’s) are exempted so long as contributions do not exceed the amount that is deductible under current law. Rollover proceeds are exempt for 60 days.

Certain savings plans that are IRS tax exempt or tax deferred.

Cash value of life insurance or annuities.

College tuition funds (including IRS Sec. 529 funds and accounts established under Subchapter F, Chapter 54 of the Texas Education Code).

GLARING EXCEPTIONS (NON-EXEMPT)

Cash
Investments in non-homestead real estate
Investments in non-retirement plan stocks, bonds, and LLC membership interests