Valuation of Colorado Real Estate in Bankruptcy

March 21, 2011

By: David M. Serafin

Even though bankruptcy is based primarily on Federal law, Colorado state exemption laws determine how much real estate can be protected from creditors or a chapter 7 or chapter 13 bankruptcy trustee.

Valuation of real estate during the bankruptcy process can be highly subjective with the debtor and the trustee having competing objectives. The debtor has incentive to value real estate as low as possible whereas the trustee (appointed to represent the best interests of unsecured creditors) prefers the highest valuation possible.

If the equity in a primary residence is less than $60,000 (less than $90,000 for bankruptcy debtors 60 years of age or older, or for the elderly or disabled bankruptcy filers), the Colorado Homestead Exemption fully protects such equity. (Equity is calculated by subtracting the fair market value minus both any mortgages and realtors and closing costs – even if no intent to sell the property exists. Equity for purposes of the Colorado Homestead Exemption “runs with the land” thus the exemption applies the same for one or two owners.)

However, more difficulties may are present when a legitimate question arises as to whether the equity in a primary residence exceeds the Colorado Homestead Exemption. The Colorado Homestead Exemption does not apply to rental or investment properties so equity will always be an issue with a second home or real property generating income.

In chapter 7 bankruptcy, the trustee may force a sale of any real estate with a value exceeding the Colorado Homestead Exemption. In chapter 13 bankruptcy, you may keep a property with non-exempt (e.g. unprotected) equity but be required to satisfy the “best interest of the (unsecured) creditors” test by paying back the value of the excess equity into the plan over three to five years. When a property has negative equity issues, a chapter 13 bankruptcy debtor also wants a lower value to strip off a second mortgage lien if it can be shown that the debt owed on the first mortgage alone exceeds the property’s value.

The Law Office of David M. Serafin advocates clients obtaining a written Broker Price Opinion or Comparative Market Analysis, based upon a “fire sale” value – such as if you need to quickly sell the house. Absent an outlandish valuation, a chapter 7 or chapter 13 bankruptcy trustee will typically accept such a written value from a licensed realtor or other expert. However, a more formal appraisal may be necessary for a property the value of which has been questioned by a second (junior) mortgage contesting a motion to strip off the second lien.

Overall, proper valuation of real estate within bankruptcy is critical as an excessively low valuation may lead to an objection to discharge or fraud accusation by a chapter 7 trustee whereas a high valuation may force a below median income chapter 7 debtor into chapter 13 and into a higher than expected plan payment to save the property.