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Mortgages

Filing Chapter 7 or 13 bankruptcy results in an “automatic stay” that immediately stops any foreclosure proceeding on the debtor’s home.

Under Chapter 7, the debtor has the following options:

1) retain the home, “reaffirm” the mortgage and keep making regular payments to the creditor; or

2) surrender the home to the creditor and discharge all further liability on the mortgage.

When a debtor “reaffirms” a debt, he is essentially excluding that debt from his bankruptcy proceeding and agrees to continue to be liable for the debt. To reaffirm a debt, the debtor must sign a standardized “reaffirmation agreement”.

To reaffirm a mortgage, the debtor must either (a) be current on the mortgage payments, (b) bring the mortgage current within a couple of weeks after filing bankruptcy, or (c) work out a repayment agreement or loan modification with the lender either before or after filing bankruptcy. Chapter 7 bankruptcy will not allow the debtor to retain the home if the mortgage is delinquent unless he works out an arrangement with the lender. If the mortgage is delinquent when a debtor files Chapter 7 bankruptcy and he does not bring it current or work out an arangement with the lender, the lender may file a “motion for relief from the automatic stay” asking the bankruptcy court for permission to start or continue a foreclosure proceeding.

Under Chapter 13, the debtor has the following options:

1) retain the home and continue making regular mortgage payments to the lender. If the mortgage is delinquent at the time the Chapter 13 bankruptcy is filed, the debtor will have up to 5 years (60 months) to bring the mortgage current through a repayment plan. The “past due” or “arrearage” amount may be split up into a maximum of 60 equal monthly payments that will need to be paid to an assigned bankruptcy trustee;

2) any second or third mortgage that is completely unsecured (aka “under water” or “upside down”) can be “stripped off” of the property; or

3) “surrender” the home to the creditor and discharge all or most of the debtor’s liability on the mortgage.

If the debtor falls behind in either the regular or “arrearage” payments during the bankruptcy proceeding, the bankruptcy court may either grant permission for the mortgage lender to start or continue a foreclosure proceeding on the home or may dismiss the bankruptcy proceeding altogether.

Except in rare cases, the bankruptcy court has no legal authority to modify a mortgage on a primary residence and, therefore, cannot reduce the regular payment amount or interest rate as provided in the mortgage documents. If the property is not the debtor’s primary residence, Chapter 13 allows the debtor to reduce the interest rate to a market rate of interest. Certain “balloon payment” mortgages can also be extended up to an additional 5 years at a reduced interest rate.

Proposed legislation (Senate Bill S61 – Helping Families Save Their Homes in Bankruptcy Act of 2009) sought to amend the U.S. Bankruptcy Code so that certain mortgages on primary residences could be modified in Chapter 13 bankruptcy proceedings by reducing the principal balance to the property’s fair market value. The proposed bill also sought to allow escalating adjustable rate mortgages to be modified to an affordable fixed interest rate. The proposed legislation has not been passed.