What Is a Homestead Exemption on Your Taxes?

The homestead exemption might reduce your property tax bill.

The homestead exemption is a law enacted in most states to protect homeowners from higher property taxes or a forced sale by creditors. The amount of the homestead exemption can vary greatly in each of the states that offer this protection. Understanding how the homestead exemption works can keep you safe from financial disaster and put extra money in your pocket.

What Is the Homestead Tax Exemption?

For legal purposes, a “homestead” is simply the primary residence of a homeowner. A homestead tax exemption shields homeowners from excessive amounts of property tax. This is accomplished via a reduction in the assessed value of a home for property tax purposes.

Beyond the property tax exemption, many states implement a homestead exemption as a form of creditor protection. The homestead exemption makes a primary home a shielded asset so that if a homeowner falls on hard times, they don’t have to worry about having a place to live.

Related: 6 Things Every Homeowner Should Know About Property Taxes

How Does Homestead Exemption Work?

In Massachusetts, the current homestead exemption for those who file a declaration is $500,000. This means if you own a primary residence that is worth less than $500,000, you won’t be assessed any property tax. If your home is worth $900,000, your property tax is only based on a $400,000 value, or $900,000 minus the $500,000 homestead exemption. States like California, however, only offer a $7,000 exemption. Research your state’s homestead exemption to find out how much you could save on taxes.

In addition to the variance in state homestead exemption amounts, even the meaning of “home” can vary from state to state. For example, in California, structures such as mobile homes, boats and condominiums can be considered primary residences. In other states, only a free-standing home is covered by the homestead exemption.

To enjoy the benefits of the homestead exemption, some states, such as Indiana, require homeowners to file paperwork. Others, such as Illinois, automatically grant a homestead exemption to homeowners.

Rules vary from state to state, but oftentimes additional exemptions are allowed. For example, if you’re disabled or over age 65, you might qualify for additional tax exemptions on top of the homestead exemption. Since all the provisions of a homestead exemption can be hard to track down, you might want to consider working with a tax advisor to draw the optimal benefit.

The Homestead Exemption in Bankruptcy

If you’re ever in a position where you have to file bankruptcy, your state’s homestead exemption might save your home from liquidation. If the equity in your home falls below the applicable homestead exemption, creditors aren’t allowed to touch it. Even if you have a $1 million home in a state with a $50,000 homestead exemption, your house might be beyond the reach of your creditors if the equity in your home remains below $50,000, such as if you have a $960,000 mortgage outstanding.

In addition to state homestead exemptions, the federal government also has its own homestead exemption for bankruptcy filers. Some states allow homeowners to choose either the federal or the state exemption amount, but others do not.

Click to see President Donald Trump’s tax plan tips for homeowners.

More on Taxes