Using Money In “Homestead Account” To Purchase Annuity: Is This Fraudulent Conversion

Money received from the sale of a homestead is exempt from creditors so long as you are holding the money to buy a replacement homestead and as long as the sales proceeds are segregated. If you decide to downsize your homestead and use only part of the money to buy a house, can you use the rest of the sales proceeds to buy a protected annuity? The general rule is that using exempt assets (homestead proceeds) to buy another type of exempt asset (annuity) is not a fraudulent conversion. Because the homestead sales proceeds are exempt when you intend originally to reinvest all into a new house it may seem that you can safely use any portion of a homestead account to buy any other exempt asset. Or, do homestead proceeds lose their protection when invested in anything other than a new homestead.

A client had sold a house for $500,000 and had segregated the money in a separate bank account. The client was being sued and was concerned about protecting the funds from the creditor. After searching for an equal replacement house, the client decided to buy something less expensive because he could not afford the taxes and utilities of an equal size house. The client wanted to buy a $250,000 homestead and use the remaining $250,000 to purchase an annuity hoping that both assets would be protected from the anticipated expected civil judgment.

I think the purchase of the annuity would be reversible as a fraudulent conversion under the facts above. Homestead accounts, i.e., money held for replacing a sold homestead property, are exempt based on judicial decisions. There is no statute or constitutional provision referring to a “homestead account.” The exemption afforded homestead accounts is contingent and dependent upon the owners intent. The money is exempt when and only so long as the owner intends to reinvest the money in a new homestead. If the money is not reinvested in a new homestead within a “reasonable time” courts will find that the debtor no longer intends to buy a replacement homestead and that the funds are no longer protected from creditors.

When this debtor makes the decision to purchase an annuity with some homestead funds he no long intends to reinvest the same funds in a new homestead and the exemption of funds intended for the annuity is lost. Money used to purchase an annuity would lose its homestead exemption and become non-exempt property when the debtor begins shopping for the annuity. Thereafter, the actual purchase of the annuity would constitute the conversion of non-exempt money into the exempt annuity and would be subject to reversal as a fraudulent conversion if done with the intent to protect the money from the anticipated judgment creditor.

About the Author

Jon Alper is an expert in asset protection planning for individuals and small businesses.

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