It is more common than not for us to see a client who has been pushed into filing for bankruptcy because a creditor has literally come knocking on the door, and the client is now facing a lawsuit. It is extremely understandable that, when faced with many debts, that an individual would rather hide his/her head in the sand than start to tackle the situation. I know that when I am faced with mountains of work, it can often be easier to check out my favorite blog or TMZ news to avoid the work rather than getting down to managing my pile of of papers. The risk an individual runs in hiding his/her head in the sand, however, is that one of those creditors that he/she is hiding from will decide to go a step further and will actually file a lawsuit to collect on the debt. In Arizona, if an individual is served with a lawsuit he/she will most likely will be personally served with the Summons and Complaint. Once this occurs, there is a twenty day time period to answer the allegations in the Complaint. If the defendant does nothing, which is the most likely outcome, the creditor can petition the Court for a default judgment. It will usually take another twenty to twenty-five days for the default judgment to be entered, and the creditor to begin to collect on its judgment.
How does a creditor collect on a judgment, you ask? Well, in Arizona, a creditor may execute a judgment by garnishing wages, garnishing a bank account, or recording a judgment on real property. A garnishment is generally the most scary option for our clients. Wages can be garnished up to 25% of disposable earnings for a week. Bank accounts can be garnished up to $150.00 ( or $300.00 for married account holders). That is a lot of income to have missing each month. The threat of losing precious disposable income is often what pushes people towards bankruptcy. When a bankruptcy is filed, all collection actions cease, including wage or bank garnishments. In this case, bankruptcy really can provide relief for those who have been served and are saying, “now what do I do?”
A situation that does not often come up, especially in this real estate market, is the threat of a creditor recording a judgment on an individual’s real property. However, I have recently seen a few people with houses that are paid-off and who are worried about this issue. The bottom-line is that if an individual only owns a primary residence, he/she really should not be afraid of a recorded judgment (at least in Arizona). This is because Arizona law allows for a homestead protection that prevents a judgment from attaching to an individual’s primary residence. Somewhat recently, a question came before the bankruptcy court in Arizona of whether there were any limitations to this rule. See, the law reads that a homestead is protected for up to $150,000.00 of equity. So what happens if an individual’s homestead has more than this amount of equity? Can the creditor record the judgment on the excess value? The bankruptcy court said no. After reading the law and relying on previous case decisions, the Court determined that the homestead is defined as the real property, not the equity value of the real property. The law is meant to protect the physical asset, not the more intangible “equity value.” The Court did note that this reading of the law does not provide a creditor without any remedy. A creditor can still force an execution sale of a property to satisfy a judgment. This occurs when a creditor obtains a writ of execution that instructs a sheriff to take possession of the property and conduct a sale. What a creditor cannot do, is idly hold onto a judgment lien until an individual decides to sell his/her property and then attempt to attach proceeds of that sale.
What if you do find that somehow a creditor has recorded a lien on your primary residence? Well, if you do decide to file bankruptcy, the bankruptcy code has a means of avoiding such a lien, so that the judgment lien will be removed. If this is not done, you may have issues with a title company if you do try to sell your home in the future.