Regulatory Response Continues: The Bankruptcy of Morals & The Homestead Exemption after Enron
For instance, as public outrage increased over the devastating pension losses for Enron employees, more attention was paid to the personal financial gains (and losses) of Skilling, Lay and other top Enron executives responsible for the fraud. After the company was forced into involuntary bankruptcy, similar (although voluntary) fates awaited the Enron executives who had profited from the fraud. Unfortunately for creditors, Enron (and accordingly the top executives in question) resided in the state of Texas. Texas, like Florida and a number of other US states, has what is called a “homestead exemption”. This exemption allows for any Chapter 7 debtor to exempt what is typically their biggest asset from the reach of creditors. In essence, a debtor on the verge of bankruptcy can take any cash or other “non-exempt” assets that normally would be within a creditor’s reach, and pour it into the value of their home in order to evade liquidation. Such a windfall for perpetrators of fraud was difficult for the public and regulators alike to stomach.
Accordingly, in 2005, the federal bankruptcy code was revised to compensate for the unlimited homestead exemption. Section 522(o) of the federal bankruptcy code now provides that within a period of 10 years prior to the filing of bankruptcy, if a debtor residing in a homestead exempt state uses any non-exempt assets to improve the value of their primary residence with the intent to hinder, delay or defraud their creditors, they will lose the benefit of the fraudulent transfer. Therefore, the debtor could be forced to liquidate the property and lose the homestead exemption altogether.
Furthermore, the 2005 bankruptcy revisions provided that if a debtor is found to have violated any Federal Securities Laws (as was the case for Skilling, Lay and Fastow) the homestead exemption will be lost to the extent that it exceeds $140,000. Additionally, all debt discharges must now withstand a showing within 10 days before said discharge that there exists no reasonable cause to believe the debtor has committed any violation of federal securities laws. These additions, created in direct response to the fraudulent benefits gained by Skilling and his Enron cohorts, provide a level of protection to the creditors of individuals who may have fraudulently enriched themselves at the creditor’s expense.