AZ house of repWith a flurry of new laws taking effect this Fall, it may be easy to overlook House Bill 2325, which garnered little media attention but stands to have a significant impact on debtor’s and creditor’s rights.  House Bill 2325 amends the personal property exemption statutes.  Although there have been minor changes to the exemption statutes over the years, the last time the Arizona Legislature did a complete over-haul of the exemption statutes was in 1983.  Suffice to say, modernization of our state’s exemption laws was long overdue.  To understand why and the impact H.B. 2325 could have on judgment debtors and creditors, this Article will briefly set out (1) what an “exemption” is, (2) what state exemption statutes protected before H.B. 2325, (3) the changes made by the Legislature through H.B. 2325, (4) and potential future changes that should be considered.

What is a statutory property exemption and why does it matter?

State law provides that certain property is protected — i.e., exempt — from execution by a judgment debtor’s creditors.  Consequently, even if a creditor obtains a judgment, the creditor may not execute on real and personal property, which is exempted by law, to satisfy that judgment.  The protections for personal property under state law are largely found in Arizona Revised Statutes sections 33-1121 through 33-1133.[1]  Those statutes exempt from “process”[2] a list of items the Legislature has deemed worthy of protection.  Those protections embody the policy as articulated long ago by the Supreme Court of the Arizona Territory before Arizona even became a state.  See, Wilson v. Lowry, 52 P. 777, 779, 5 Ariz. 335, 341-42 (1898) (“It is the well settled policy of the courts to liberally construe those humane and beneficient provisions of the law exempting certain property from execution for the payment of debts.  The state has an interest in protecting families, and especially helpless children, against pauperism, and securing to them the means of reasonable comfort and education.”).

In modern collection practice, many of the state law exemptions are irrelevant because a creditor is not interested in taking, for example, a person’s household goods to settle a debt.  Generally, a creditor will look to real property to settle a judgment by recording the judgment against the land.  In that case, a debtor’s homestead exemption of up to $150,000 in equity provides substantial protections to the debtor’s residence.  A.R.S. § 33-1101.  Alternatively, a creditor may attempt to garnish a debtor’s bank account or wages.  Perhaps the most utilized exemption used outside of the bankruptcy context to protect a debtor’s livelihood is Arizona Revised Statutes section 33-1131, which provides that 75% of a debtor’s wages are exempt from garnishment.  The protection for bank accounts is not so generous, providing that only $150 (or $300 if married) is exempt from process.  A.R.S. § 33-1126(A)(9).[3]  In summary, although state exemptions are surely relevant in ordinary collection actions and an attorney is wise to be aware of the restrictions those exemptions impose, most state personal property exemptions — protecting ordinary household goods and the like — tend to be superfluous because creditors usually to look for more “reliable” assets, like land and wages, to satisfy a judgment.

Conversely, in the bankruptcy context, state exemptions affecting personal property become critical for a debtor.  In a chapter 7 bankruptcy, the Court appoints a trustee, who is charged with administering the debtor’s estate.  Essentially, the trustee collects all of the debtor’s nonexempt property, sells it, and then distributes the funds pro-rata to the debtor’s creditors.[4]  Often, a debtor wants to keep all or a portion of his or her nonexempt property and, thus, will seek to “buy back” the value of the nonexempt property from the trustee.  Consequently, the amount of nonexempt property becomes a critical issue for a debtor in bankruptcy because what is nonexempt will determine how much the debtor must come up with in order to keep important possessions.

Arizona Exemptions Before H.B. 2325

Prior to H.B. 2325, Arizona’s exemption statutes have been a source of frustration for attorneys that represent debtors in bankruptcy.  One of the main issues was the structure of the household goods exemption.  Specifically, the list of household goods exempt under Arizona law was extremely specific, with notable omissions.  Exempt, for example, were “[o]ne kitchen and one dining room table,” one couch, two beds for the debtor plus an additional bed for each dependent, and “one radio alarm clock.”  Conspicuously missing from the list were commonplace, necessary items like everyday dishes and utensils, a microwave, a desk, a computer, or a food freezer.  Thus, bankruptcy debtors — many of very limited means — were often put in the situation of trying to raise enough funds to “buy back” the value of items that were necessary but not included on the exemption list of household goods.

Along with the problem of being overly specific to the detriment of some debtors, the exemption statutes were also out of date.  Under Arizona Revised Statutes section 33-1125(7), a typewriter was exempt but there was no protection for a personal computer.  Similarly, Arizona Revised Statutes section 33-1130(2) protected the “implements of husbandry” as a “tool of the trade” but provided no protection for more modern business assets, like customer lists or intellectual property, such as a website domain.

Changes Enacted through H.B. 2325

To the credit of Arizona’s Legislature, H.B. 2325 remedies many of the shortcomings of the current exemption statutes.  First, the household goods exemption has been entirely reinvented.  The list of specific items was replaced with simply a monetary limitation on all “household goods.”  It also includes a modern update: the protection of consumer electronic devices.  The new section 33-1123 provides:

Household furniture and furnishings, household goods including consumer electronic devices, and household appliances personally used by the debtor or a dependent of the debtor and not otherwise specifically prescribed in this chapter are exempt from process provided their aggregate fair market value does not exceed six thousand dollars.[5]

Doing away with the list of specific household goods provides flexibility for debtors to choose which household items are important to them and to give those items statutory protection.  As with any new legislation, the wording of this exemption, however, may also give rise to additional litigation.  What constitutes a “household good” is not defined under the statute and, while providing flexibility, may also lead to abuse by debtors claiming that any “good” located within the house is exempt under the statute.

Along with the update to the household goods exemption, H.B. 2325 adds a personal computer up to $1,000 in value to the list of protected items.  A.R.S. § 33-1125(7) (2013).  It also adds “telephone numbers, client or customer contact information, or marketing tools, such as websites, domain names or any other intangible work product” to the list of business “tools of the trade” that are protected.  A.R.S. § 33-1120(1) (2013).

On top of the important additions made by the Legislature through H.B. 2325, the Bill also increases the value of several often-used exemptions.  The vehicle exemption is increased from $5,000 to $6,000 in equity, the bank account exemption is increased from $150 to $300, the tools of the trade exemption is increased from $2,500 to $5,000, and wedding rings are increased from $1,000 to $2,000 in value.  All of those amounts would be doubled for a married couple.  A.R.S. § 33-1121.01.  The increase in the tools of the trade exemption is particularly important to debtors who are self-employed by making it more likely they will be able to retain sufficient assets to continue operating their small business.

In summary, H.B. 2325 provides increased protection to debtors both in terms of the type and dollar amount of property that may be exempted from judgment creditors or a bankruptcy trustee.

Shortcomings of H.B. 2325

For all of the progress found in H.B. 2325, there are some shortcomings that should be addressed in future amendments to the exemption statutes.  The first is that Arizona Revised Statutes section 33-1124 was left untouched by the recent amendments.  That statute provides that “[a]ll food, fuel and provisions actually provided for the debtor’s individual or family use for six months are exempt from process.”  There are few concerns raised by that statute.

First, while it does not appear that the Arizona courts have defined the term “provisions,” one Arizona bankruptcy judge has stated that “the District Court for the District of Nebraska noted that ‘other jurisdictions have held that the term “provisions” refers to food or food stuffs which a debtor can show are actually being or will be eaten by his family.'”  In re Glimcher, 458 B.R. 549, 552 (Bankr. D. Ariz. 2011).  Thus it appears that the term “provisions” is redundant and should have been deleted from the new law.  Nevertheless, the exemption, in part, allows a debtor to protect six months worth of food that the debtor and his or her family intend to eat.

Another concern is that, although exemption statutes are to be interpreted liberally, a couple of recent bankruptcy cases demonstrate that such liberality has its limits.  For example, some creative debtors’ attorneys have argued, without success, that grocery store gift cards in an amount ranging from $7,000 to $10,000 should be exempt under this provision. See In re Glimcher, 458 B.R. 549 (Bankr. D. Ariz. 2011); In re Gietl, 2009 WL 3872153 (Bankr. D. Ariz. 2009).  Those courts have found that the exemption applies only to food actually in the debtor’s possession at the time of the bankruptcy filing.

Last, with respect to the exemption for fuel, the statute arguably remains outdated.  For most people, one does not have “fuel” that is stored on property to provide energy for heating and cooking.  As acknowledged by Judge Haines in the Glimcher case “when the exemption statute was first written in 1913, the legislature probably had in mind either coal or wood . . . .”  The Legislature’s apparent intent was to ensure a necessary supply of fuel for heating.  Therefore, the exemption, as written, may provide little protection.

Today, utility services provide the resources necessary for heating[6] and cooking.  Many people struggling with debt are required to pay significant deposits in order to receive utility services.  Several Arizona bankruptcy trustees, however, assert that those deposits are nonexempt.  Therefore, a trustee may require a debtor to pay over the value of those deposits, which in some cases total several hundred dollars and, in all cases, without which a debtor cannot receive necessary utility services.  Although at least one Arizona Bankruptcy Court has held that gas and electricity deposits are exempt as “fuel,” In re Ward, No. 07-4183, 2010 WL 447326 (Bankr. D. Ariz. 2010), the Legislature should consider amending section 33-1124 to modernize the exemption to explicitly protect all utility security deposits.

Although paying a few hundred dollars on account of utility deposits may not appear to be an onerous burden on a debtor at first glance, the true impact can be better understood when one also considers amended section 33-1126(9).  Under the amended statute, at the time of filing, a debtor cannot have more than $300.00 in one bank account (or $600 for a married couple).  This requires a person contemplating bankruptcy to liquidate all bank account funds or surrender any additional funds upon filing.

Obviously, many of the people who file bankruptcy are of extremely limited means.  Thus, the funds in their bank account are their only “safety net” in times of emergency.  The $300 exemption for bank accounts is arguably insufficient to provide a sufficient safety net to a struggling family, let alone allow a debtor to “buy back” critical nonexempt assets, like utility deposits,  and to facilitate a meaningful “fresh start.”

In summary, although suggestions for improvement could be made on any new law, H.B. 2325 is a substantial step in the right direction.  It streamlines and modernizes Arizona’s exemption statutes in a way that provides greater protections to Arizona families without unfairly prejudicing creditors who are seeking to collect debts.  Hopefully, H.B. 2325 is the first step in a sequence of many to continue to improve the exemption statutes in this state.

[1]               There are some federal exemptions, such as the protection of social security funds under 42 U.S.C. § 407 (“The right of any person to any future payment under this subchapter shall not be transferable or assignable, at law or in equity, and none of the moneys paid or payable or rights existing under this subchapter shall be subject to execution, levy, attachment, garnishment, or other legal process, or to the operation of any bankruptcy or insolvency law.”).  Also, other chapters of the Arizona Revised Statutes contain some other relevant exemptions.  See, A.R.S. § 20-1131 (exemption of life insurance proceeds).

[2]               “Process” is defined as “execution, attachment, garnishment, replevin, sale or any final process issued from any court or any other judicial remedy provided for collection of debts.”  A.R.S. § 33-1121(2).

[3]               As amended, the exemption increases to $300 for a single individual and $600 for a married couple.

[4]               This is the procedure for a Chapter 7 bankruptcy proceeding, which is a liquidation bankruptcy and the most common type of filing.  Exemptions are also relevant in individual Chapter 11 and 13 reorganization bankruptcies, but a discussion of those types of bankruptcy is beyond the scope of this Article.

[5]           The exemption amount is doubled to twelve thousand dollars for a married couple.  A.R.S. § 33-1121.01.

[6]               And, as always relevant in Arizona, electricity for air conditioning.