What happens if your house has equity and you decide to file for bankruptcy?
While the bankruptcy exemption laws are slightly different in each province, the basic concept is the same. You can’t keep a house in bankruptcy if there is substantial equity in your home at the time you go bankrupt. The exact amount of equity you are allowed to keep differs by province (from $10,000 in Ontario for example to up to $40,000 in Alberta) but anything above that needs to be paid to your creditors through your bankruptcy.
What happens to your house in a bankruptcy in Canada depends on the answer to three questions:
- Do you really have equity?
- What is your bankruptcy exemption limit?
- What options do you have?
How Much Equity Is There?
So the first key question to consider is; do you have equity? Here’s what we mean by equity. Equity in a bankruptcy context is the amount of money expected to be left over from a sale after the usual closing costs. Typical closing costs are the mortgage(s), outstanding property taxes, realtor’s commissions, legal fees and penalties to break a mortgage.
The example below gives you an idea as to how we’d calculate equity:
Projected sale price $200,000
Property Taxes $500
Realtors Commission (5% of house value) $10,000
Legal Fees $2,000
Penalties (usually equivalent to 3 months mortgage payments) $3,000
In this scenario your equity would be $9,500 ($200,000 less total closing costs of $190,500)
You can use this as a guide to quickly calculate if you’re likely to have equity or contact a Bankruptcy Canada Trustee who can walk you through the math.
Your Principal Residence Bankruptcy Exemption Limit
As noted earlier, the amount of equity in your principal residence that you are allowed in a bankruptcy varies by province. We provide a list in our article on Bankruptcy Exemptions: What Assets You Keep.
If you have significant equity in your house above your exemption limit, you’re probably not filing a bankruptcy. Essentially you’d just be paying a trustee to do something you could do yourself – sell the house. Almost everyone that has equity and is in financial trouble would consider the following options:
- sell the property first and using the proceeds to pay down debt without having to file bankruptcy,
- consider re-mortgaging,
- borrow the equity value from a family member to pay the trustee to keep your house, or
- file a consumer proposal.
A consumer proposal allows you to retain control of the asset regardless of the amount of equity as long as you were able to make your monthly mortgage payments as normal. One of the considerations in a proposal is that you’d have to offer to pay back the creditors an offer which is greater than the value of the equity.
If you have no equity, the trustee allows you and the mortgage company to decide what to do – the mortgage company will no doubt want you to keep paying the mortgage (even if there’s negative equity as that’s how they make money off you). You have to decide if it’s worth continuing to pay for a house that is worth less than what you owe for it. You cannot sell with negative equity, so a bankruptcy or proposal allows you to surrender the property back to the mortgage holder and include the loss the mortgage holder takes into the bankruptcy or proposal (the caveat to this is that if you plan on surrendering, it’s best to do so before you file either the bankruptcy or proposal).
If you’re a home owner, you’ll want to discuss your situation in detail with the trustee first before making any decisions. We can review the specifics of your situation so that we can help you decide what’s best for you and your family.