Article on Property Law and the Homestead Exemption

Consider the following scenario. Husband and Wife each transfer their respective shares of the marital home into separate revocable trusts as part of their estate plan. They are both trustees and beneficiaries of their respective trusts. The couple then files for a divorce, but before the court grants the divorce, Husband obtains a loan using his part of the family home as security for the loan. As part of the divorce settlement, Wife receives Husband’s share of the home and deeds this share to her trust, which already owns her other share of the home. Husband then defaults on the loan. Wife claims a homestead exemption with respect to the home when the bank forecloses on the property. However, the bank argues there is no exemption because the trust owns the home. Thus, according to the bank, Wife owns an interest in the trust, not in the property as required by homestead law. Should Wife lose the home simply because she transferred it to a trust?

Due to the increased use of trusts, this question presents an important issue for estate planning, and its answer is critical to provide individuals using trusts some certainty in their homesteads. The Arkansas Supreme Court answered this question in Fitton v. Bank of Little Rock. In Fitton, the court allowed the beneficiary of a revocable trust to claim the homestead exemption. This decision led to confusion among lawyers, banks, and title companies; as a result, many routine procedures, from executing the correct deeds to obtaining the appropriate waivers, were called into question.

The homestead exemption provides protection to two groups of beneficiaries. First, the exemption prevents creditors from taking the family’s home if the family becomes insolvent. Second, it protects immediate family members after the death of the head of the family by ensuring that they can continue to live in their home.

This note discusses the latter form of protection provided by the homestead exemption. The discussion begins with the background of the homestead exemption, placing particular emphasis on Arkansas’s homestead exemption. This note then addresses the interests to which a homestead exemption will attach. Next, it looks at the Arkansas Supreme Court’s decision in Fitton and explains how that decision further defines the interests to which homestead rights attach. The note then examines the law in other jurisdictions that have decided cases similar to Fitton. Finally, the note explains how Fitton affects banks, title companies, and lawyers.