Counsel's Corner: When facing foreclosure, bankruptcy may help
If you are facing foreclosure and cannot work out a loan modification with the lender, bankruptcy may help.If you get behind on your mortgage payments, a lender may take steps to foreclose. That is, enforce the terms of the loan by selling the house at a public auction and taking payment of your loan out of the auction without having to go to court. The foreclosure process typically starts after you fall behind on your payments for at least three to four months. That gives you time to try some alternate measures, such as loan forbearance, a short sale, or a deed in lieu of foreclosure. But if you've already tried and failed with these measures, now is a good time to consider bankruptcy as a possibility for avoiding or stalling foreclosure. Here are some ways that filing for bankruptcy can help you. When you file either a Chapter 13 or Chapter 7 bankruptcy, the court automatically issues an order known as the "automatic stay." The automatic stay directs your creditors to cease their collection activities immediately. If your home is scheduled for a foreclosure sale, the sale will be legally postponed while the bankruptcy is pending-typically for three to four months. However, there are exceptions to this general rule. One is that the lender can hire an attorney to go to bankruptcy court and obtain the bankruptcy court's permission to proceed with the sale by filing a "motion to lift the stay." This means that the lender is asking the court to exclude the home from the automatic stay order. Therefore, you may not get the full three to four months. But even then, the bankruptcy will typically postpone the sale by at least two months, or even more if the lender is slow in pursuing the motion to lift the automatic stay. If you want to keep your home but cannot afford to pay for it, Chapter 13 bankruptcy lets you pay off the "arrearage" (late, unpaid payments) over the length of a repayment plan you propose-five years in some cases. But you'll need enough income to at least meet your current mortgage payment at the same time you're paying off the arrearage. Assuming you make all the required payments up to the end of the repayment plan, you'll avoid foreclosure and keep your home. Chapter 13 may also help you eliminate the payments on your second or third mortgages. That's because if your first mortgage is secured by the entire value of your home (which is possible if the home has dropped in value), you may no longer have any equity with which to secure the later mortgages. That allows the Chapter 13 court to "strip off" the second and third mortgages and re-categorize them as unsecured debt which, under Chapter 13, takes last priority and often does not have to be paid back if at all. If you do not want to keep your home but need more time to find a new place to live and need to get rid of all your debt, Chapter 7 bankruptcy is for you.. In that case, filing for Chapter 7 bankruptcy will at least stall the sale and give you two or three more months to work things out with your lender. It will also help you save up some money during the process and cancel debt secured by your home. During a Chapter 7 bankruptcy, you can live in your home for free during at least some of the months while your bankruptcy is pending and perhaps several more after your case is closed. You can then use that money to help secure new shelter. Chapter 7 bankruptcy will also cancel all the debt that is secured by your home, including the mortgage, as well as any second mortgages and home equity loans. With all this debt being cancelled, you may be wondering why the foreclosure on your home won't be cancelled too. This is so because when you bought your home you probably signed two documents: a promissory note to repay the mortgage loan and a security agreement called a Deed of Trust that could be recorded as a lien to enforce performance on the promissory note. Chapter 7 bankruptcy gets rid of your personal liability under the promissory note, but it doesn't remove the lien. That's the way Chapter 7 works. It gets rid of debt but not liens. You'll still probably have to give up the house under the lien since that's what provided collateral for the loan. Therefore, this is why you would not be able to keep your home when you file for Chapter 7 bankruptcy. Not everyone can or should file for Chapter 7 bankruptcy. You could lose property you want to keep. Chapter 7 might cause you to lose property you don't want to give up. In addition, even if Chapter 7 bankruptcy is what you wish to do, you may not be eligible. Under the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, you are not eligible if your average gross income for the six-month period preceding the bankruptcy filing exceeds the state median income for the same size household. Nor are you eligible if your current income provides enough excess over your living expenses to fund a reasonable Chapter 13 repayment plan. You must also consider that both bankruptcy and foreclosure will damage your credit score. However, sometimes bankruptcy is the preferable option when trying to rebuild credit. And here's why: a foreclosure will damage your credit score for many years, will not get rid of your other debt, and is particularly harmful when you begin house shopping again. In contrast, discharging your debts in bankruptcy will harm your credit score, but can help you rebuild your score quicker than that of a foreclosure. This is because bankruptcy will leave you solvent and debt free and therefore able to start rebuilding good credit sooner. So what's the point to all this? Preserve the little cash you do have. Filing for a Chapter 7 bankruptcy (if you don't qualify for Chapter 13) will provide a temporary delay from the foreclosure and allow you to preserve the cash to find alternative housing. The long term advantage is that this may be the best way to start over by allowing you to get rid off all your debts such as credit cards, utility bills, medical bills, etc and allow for you to start rebuilding your credit score. The purpose of this column is to provide general information on the law, which is subject to change. It is not legal advice. Consult a lawyer if you have a specific legal problem.
********** Published: December 18, 2009 - Volume 8 - Issue 35