Last
substantive blawg, we scratched the surface of the long and involved Vermont
foreclosure process and hinted that a Chapter 13 bankruptcy sometimes may be an
option for borrowers facing foreclosure.
As described previously, with the available modification programs such
as HAMP, it is usually recommended to seek modification through the lender or
through mediation before resorting to bankruptcy. This is because the bankruptcy code
specifically limits a debtor’s ability to modify their home mortgage through a
Chapter 13 plan without consent.
Outside of home mortgage debts,
a Chapter 13 debtor has a number of tools available to restructure their
financial situation. One very powerful
tool is called “cram down,” which, put simply, allows a borrower to pay only
the value of the collateral rather than the whole balance due under a
note. For example, if a borrower had
some investment property or equipment worth $50,000, but owed $150,000 to the
lender, that borrower could restructure the debt to pay only $50,000 and treat
the remaining $100,000 as unsecured, paying a small percentage along with
credit cards and other non-collateralized debt.
Another tool would allow that borrower to utilize what may be a lower
interest rate in bankruptcy. Finally, if
that loan were already called or due in full, a debtor can instead pay that
lower debt over 5 years, instead of immediately. When dealing with loans that aren’t the
debtor’s primary mortgage loan, these powerful tools allow debtors to cram-down
the value, interest rate and modify the terms of certain loans. These tools are an essential part of the
bankruptcy process, utilized in all Chapters in slightly different ways, but
useful modification methods nonetheless.
When a loan is specifically collateralized
by a debtor’s primary residence, however, the modification tools have been
limited. While this may seem
counterintuitive, since it would seem a borrower’s home is always more important to save than investment property or
equipment, the bankruptcy code specifically prohibits a Chapter 13 debtor from restructuring
or modifying their home loan. This ‘anti-modification’
provision has been in existence since the original bankruptcy code and was
affirmed by the US Supreme Court in 1993.
As became all too clear in 2008, the mortgage industry, while more
volatile than we may have thought, is the backbone of our economy. The lobbying efforts for that industry are so
strong, that any attempt to allow bankruptcy judges to modify home mortgages
was met with strong and forceful resistance, citing the collapse of our entire
economy as a result. While most bankruptcy
judges, scholars and consumer advocates would agree that allowing Chapter 13
debtors to modify or cram-down home mortgages would have gone and would go a
long way toward repairing the economy, the lobby could not be overcome.
If no modification, what are
a Chapter 13 debtor’s options with respect to his or her home? While the modification programs are extremely
helpful to those who have a chronic or ongoing hardship, they do not offer much
assistance to people who are recovering fairly well from a past, temporary
hardship. Most modification programs are
focused on trying to get the borrower to an affordable mortgage payment, which
under HAMP is 31% of their gross income, including taxes and insurance. This really is the upper end of “affordable”
for most people. Where prospective
debtors have a household monthly income of $5,000 and a mortgage payment of less
than $1,550, they will find that there are likely no modification options
available, since the mortgage is already “deemed affordable.” This is notwithstanding that they may now
have an arrearage of $25,000 which has been accruing during the foreclosure case,
during which the lender has refused to accept payments. Most lenders will require the $25,000 up front
or over no more than 12 months, and offer no modification for this scenario.
Enter Chapter 13. While the loan in this scenario can’t be
modified in Chapter 13, a Chapter 13 would allow the debtors to force a
reinstatement over time, up to a period of 60 months. For debtors who have recovered from a
hardship and can now pay their regular mortgage payment, plus 1/60th
of the arrearage every month (plus Chapter 13 administration costs), a Chapter
13 will allow them to save their home. The
mortgage lender can be forced to reinstate, accept regular payments and accept
the arrearage over a 60 month period.
This is undoubtedly expensive, but may be the only option available for
those who have recovered from a prior hardship and don’t otherwise qualify for
a modification.
I would encourage anyone who has been
through mediation or has been denied a modification for reasons such as “unable
to lower PITI payment,” loan “deemed affordable” or “housing ratio too low” to
consult with bankruptcy counsel and see if a Chapter 13 would assist them in saving
their home. We take the counseling
aspect of our job very seriously, so that if the Chapter 13 option seems too
expensive or the loan-to-value ratio on the home does not seem to make economic
sense, we will take the time to discuss all available options and alternatives
so that our clients can make the best informed decision as to how to proceed. If this all seems overwhelming and technical,
don’t worry! You won’t leave OEBlaw without
a greater understanding and skilled counsel to help you navigate this process.
