Strict limits on exemption claims in personal bankruptcy

Anthony Dick is a recent graduate of Stanford Law School.

In Schwab v. Reilly (08-538), the Court considered how to construe an ambiguous claim for the exemption of assets in personal bankruptcy under Chapter 7. The Bankruptcy Code allows a debtor to retain a limited amount of property by claiming exemptions with a value up to a certain dollar amount. If the value of the claimed exemptions exceeds the limit, the bankruptcy trustee must file a timely objection or else waive the right to object and thus permit the petitioner to retain the full value of the claim.

This case arose when the debtor, Reilly, claimed an exemption for the full estimated dollar value of an asset, which fell within the statutory limit. After the period for objections had expired, the asset turned out to be worth more than Reilly had originally estimated. Reilly argued that by claiming the full value of the asset, she had indicated her intent to claim the asset as exempt in its entirety, whatever the actual value might turn out to be—and that the trustee’s failure to object thus entitled her to keep the whole asset. The trustee advanced a contrary argument – that the value of Reilly’s exemption should be limited to the dollar amount she claimed.

In a six-to-three opinion by Justice Thomas, the Court reversed the Third Circuit and ruled for the trustee. The Court based its holding on the statutory language of Section 522 of the Code, which defines the “property claimed as exempt” as a certain dollar amount of “interest” in the listed assets, rather than as the assets themselves. This wording, the Court reasoned, indicates that a debtor’s claim for an exemption in an asset is limited to a dollar-value “interest” unless the debtor otherwise makes clear that she intends to claim the asset as fully exempt. Such a reading, the Court noted, advances the statute’s goal of clarity and provides a fair chance for trustees to notice and object to claimed exemptions that might exceed the statutory limit. It also reduces the incentives for debtors to try to “convert a fresh start into a free pass” by making ambiguous claims for exemption with the hope of profiting from the confusion that they create.

Justice Ginsburg wrote a dissenting opinion, which was joined by Chief Justice Roberts and Justice Breyer. In her view, a claim of exemption for the full dollar value of an asset is a sufficiently clear signal that a debtor intends to exempt the asset in its entirety; thus, a trustee should be required to file a timely objection to serve the interest of finality and provide the “fresh start” that is the driving purpose of the federal bankruptcy laws. Because trustees already have the burden of determining the value of assets claimed as exempt, they are well situated to recognize and dispute a claimed exemption for an asset if the debtor’s estimate significantly undervalues it.  Moreover, debtors are already deterred from intentionally undervaluing their exempted assets because doing so would expose them to judicial sanction and liability for perjury or fraud.