What is equity stripping?

Equity stripping is the process of making a property appear to have less equity than it actually does, largely through the movement of assets or by attaching debt to a property. This practice is commonly used by debtors and predatory lenders, but can also have some practical uses for normal people and business owners.

Equity stripping is one of the most effective methods of asset protection against creditors, and is very commonly used to protect property from lawsuits or financial losses. Although equity stripping is definitely not a foolproof method of asset protection, it can take many forms and make a large difference in what assets a creditor is able to claim.

Equity stripping also does not have to happen only at the time of a creditor searching for equity. Oftentimes, preventative equity stripping is done before any case of a dispute with a creditor.

Types of equity stripping:

In the case of using equity stripping to protect from creditors, two of the most common types of equity stripping are spousal stripping and home equity lines of credit (HELOC)

Spousal Stripping
Spousal stripping is the process of moving equity from control of the person in debt into the hands of their spouse, who is ideally debt-free. Although this strategy is not always effective, it tends to be fairly simple and accessible for those without access to significant resources who wish to use equity stripping to protect from a creditor.

The second common method of equity stripping, HELOC, approaches equity stripping in a slightly different way. A HELOC works by using a property as a line of credit, and thus attaching debt to that property. This can be appealing when thwarting creditors as a property with debt attached to it is worth significantly less to a creditor than a property without any debt. This will dissuade creditors from pursuing legal action in order to obtain a property, and overall positively impact the protection of the owner’s assets.

Second Mortgage
Another less common form of equity stripping that is closely related to HELOC is taking a second mortgage. A second mortgage supersedes the right of a creditor to a property, which makes the property irrecoverable through legal means. However, taking out a second mortgage is riskier than a HELOC, and as such is generally inadvisable for most property owners who wish to use equity stripping to their advantage.

Although this method is often inaccessible to many smaller business owners, cross-collateralization is also a very effective method of asset protection through equity stripping. In cross-collateralization, two companies give each other loans with a piece of property each as collateral. Now that these pieces of property are collateral, they both have property liens and are protected from creditors. This process can be further strengthened by the addition of offshore entities and private trusts to make it harder for creditors to prove true ownership or discredit the transactions.

Real Estate LLCs
Because real estate ventures can be high risk compared to other investments, it is often advisable to separate the liability of these real estate investments from the rest of one’s assets. LLCs can do this very effectively in a way that protects the rest of your assets from the liability of your real estate investments, and vice versa. There are also state specific benefits for LLCs that can make these assets even less desirable for pursuit by a creditor.