Lien Stripping A Second Mortgage In Chapter 7
Homeowners who file individual bankruptcy cases are often underwater with their mortgages, meaning that the total amount owed on the home is more than its fair market value. The Bankruptcy Code does not allow a homeowner to “cram down” an under-secured loan, but if a junior mortgage or lien is not secured at all, it can be stripped off in a Chapter 13 bankruptcy.
To make this process clear, take the following as an example:
Fair market value of home: $ 90,000
Amount owed on first mortgage: $100,000
Amount owed on second mortgage $ 50,000
The home is under-secured by the first mortgage by $10,000. Since the amount owed on the first mortgage is more than the value of the home, the second mortgage is not secured by anything. In a Chapter 13, the homeowner can strip off the second mortgage lien, making the second mortgage an unsecured debt, and treat the debt like any other unsecured debt (e.g. medical bills and credit cards). Whatever is not paid on the second mortgage debt during the bankruptcy case is discharged.
The lien stripping process is commonly used in Chapter 13 cases, but is not available for Chapter 7 debtors. However, the 11th Circuit Court of Appeals recently issued a decision in McNeal v. GMAC Mortgage, LLC (In re McNeal) (11th Cir. 2012), that lien stripping can be used in a Chapter 7 case. The 11th Circuit is the federal appellate court for Alabama, Georgia, and Florida, but this case is drawing close scrutiny by bankruptcy judges, and is sure to be litigated around the country.
The reason for the 11th Circuit’s ruling centers on the 1992 US Supreme Court case decision in Dewsnup v. Timm, which held that a Chapter 7 debtor could not cram down a partially secured debt. Many bankruptcy courts interpreted the Dewsnup opinion as also applying to lien stripping in a Chapter 7 case. The 11th Circuit in McNeal pointed out that the Supreme Court’s holding only forbids cram downs in Chapter 7 cases, and does not apply to lien stripping a wholly unsecured junior lien.
Since the bankruptcy law is always evolving and changing, you need an experienced and knowledgeable attorney to guide you during your case. Your attorney can discuss your legal options to arrive at the best result for you and your family. Avoid a false start! Get the fresh start that you deserve by calling today.