Lien Stripping Of Wholly Underwater Junior Liens From Homeowners' Residences In So-Called "Chapter 20" Bankruptcy Still Alive & Well

A recent client alert from the law firm Weil, Gotshal & Manges LLP had a discussion of a recent bankruptcy case (In re Boukatch) which dealt with a homeowner-couple's use of the so-called "Chapter 20" bankruptcy maneuver to successfully lien strip a wholly underwater 2nd mortgage from their residence.

• One year after obtaining a discharge in a Chapter 7 case, the individual debtors in Boukatch filed a Chapter 13 case. In each case, the debtors identified two liens against their residence: a first lien held by Wells Fargo and a second lien held by MidFirst Bank. In the subsequent Chapter 13 bankruptcy, the debtors identified MidFirst’s second and wholly underwater lien and asserted that MidFirst held an “empty lien” because the debtors’ personal liability had been discharged in their previous Chapter 7 case. Accordingly, the debtors filed a motion seeking to avoid MidFirst’s lien. Although no one (including MidFirst) objected to the motion, the United States Bankruptcy Court for the District of Arizona denied the lien-stripping motion, on the grounds that a “Chapter 20” debtor who is not receiving a discharge is not permitted to strip off liens.
  
  On the debtors’ appeal from that order, the Bankruptcy Appellate Panel for the Ninth Circuit held that a “Chapter 20” debtor can strip off a wholly underwater junior lien even though the debtor is not receiving a discharge. The Boukatch panel discussed three different approaches used by courts considering this issue:
  
  1) Stripping off a wholly underwater lien in a Chapter 20 case is impermissible because lien stripping is tantamount to a de facto discharge, which is not permitted in a Chapter 20 case.
  
  (2) Chapter 20 lien stripping is permissible in theory, but the parties’ prepetition rights are reinstated by operation of law after the Chapter 13 plan has been consummated, unless the claim is discharged or paid in full. Therefore, the lien avoidance can never be permanent. These courts have reasoned that Chapter 13 cases end either through conversion, dismissal or discharge, and if a Chapter 13 case is dismissed or converted prior to the successful completion of all plan payments, any avoided liens are reinstated.
  
  (3) Chapter 20 lien stripping is permissible because nothing in the Bankruptcy Code prevents it. This group of courts has held that the specific Bankruptcy Code mechanism that voids the lien is plan completion, rather than the discharge of the debtor, and that a successful Chapter 20 case would not be dismissed or converted but rather would end in an administrative closing. Accordingly, these courts have found that because the Bankruptcy Code sections that reverse any lien avoidance are only implicated if a Chapter 13 case is converted or dismissed, those provisions do not apply so long as debtors make all the payments under their Chapter 13 plans. In other words, the lien stripping is not dependent upon the debtor receiving a discharge but rather is dependent on the debtor successfully making all of the plan payments.
  
  The Boukatch panel joined “the growing consensus of courts” that follow the third approach. The panel held that nothing in the Bankruptcy Code prevented the debtors from stripping off a wholly underwater lien against their principal residence, notwithstanding that the debtors were not eligible for a discharge. The panel made a distinction between discharge – which would have enjoined the creditor from enforcing the debt against the debtor personally but would not have released the lien from the debtor’s property – from avoiding the lien. The panel concluded that the Bankruptcy Code does not prevent individual debtors from stripping off a wholly underwater lien in their Chapter 13 plan. The only way the lien would not be avoided would be if the debtors failed to complete all of the payments required under their Chapter 13 plan and the case was subsequently converted or dismissed. Accordingly, the panel reversed the bankruptcy court’s decision to deny the lien-stripping motion.

Source: Lien-Stripping Landscape More Hospitable to Debtors: Decisions suggest avoiding a lien on real property may be permissible.

For the court ruling, see In re Boukatch, AZ-14-1483 (9th Cir. BAP, July 9. 2015).

See also this discussion in The Recorder.

Lien Stripping In Chapter 13 Bankruptcy - Primary vs. Non-Primary Residence

The following excerpt in a recent article on the lien stripping process in a Chapter 13 bankruptcy proceeding highlights the unique rules applicable to a primary residence and the distinction between how the rules apply to a primary residence vs. a non-primary residence:

• Lien Stripping in Chapter 13 Bankruptcy
  
  In a process called lien stripping, a secured debt like a second mortgage or car loan may be reduced to the value of the collateral backing the loan and divided into portions of secured and unsecured debt.
  
  Under sections 506(a) and 506(d) of the U.S. Bankruptcy Code, through Chapter 13 lien stripping, a loan is secured up to the amount of the fair market value of the collateral, and the remaining balance of the loan is classified as unsecured debt. For example, if a car loan was for $10,000 but the current fair market value of the vehicle is only $7,000, through lien stripping the car loan will remain as secured debt for only $7,000 and the remaining $3,000 of debt will be converted into unsecured debt.
  
  Unique Rules for Primary Residences
  
  Importantly, different rules apply for loans secured by primary residences. A second mortgage on a home can be stripped only if the current fair market value of the home does not exceed the value of the first mortgage.
  
  For example, assume the current value of a primary residence is $400,000, the first mortgage was for $500,000 and a second mortgage was taken for $150,000. Because there is no equity remaining in the home after accounting for the first mortgage, the second mortgage can be converted to an unsecured loan and stripped.
  
  However, if the current value of the primary residence is $600,000, the second mortgage cannot be stripped. This is because, after $500,000 is secured for the first mortgage, $100,000 in equity is available to secure the second mortgage. If the second loan was not secured by a primary residence, $100,000 would be secured debt and the remaining $50,000 would be converted to unsecured debt through lien stripping.
  
  But, the unique rules for loans on primary residences say that, as long as there is equity remaining for the second mortgage on a primary residence, the second mortgage cannot be divided into secured and unsecured debt and stripped. In the second example, then, the entire $150,000 second mortgage would remain secured debt because it was secured by a primary residence.(1)

Source: Lien Stripping in Chapter 13 Bankruptcy (Individuals with second mortgages and underwater mortgages may benefit from changing the character of their second-mortgage debt from secured to unsecured debt through Chapter 13 lien stripping).

(1) In this situation, I wonder if it would be viable if the homeowner, shortly before filing the Chapter 13 petition, converted the home from a primary to a non-primary residence by moving out and renting out the premises to a tenant, in an attempt to position himself for a subsequent lien-strip of the undersecured portion of the 2nd mortgage when the bankruptcy petition is eventually filed?

Uncooperative Lenders Holding 2nd Mortgages On Underwater Homes Have Much To Fear From Lien-Stripping Homeowners Filing Chapter 13 Bankruptcy

Lien stripping in a Chapter 13 bankruptcy has been described as an unexpected financial life raft that underwater homeowners are jumping onto to escape crippling second mortgage debts and keep their homes.(1)

It applies in the case of a homeowner with two or more mortgages on their home. In short, it allows a homeowner with a home worth less than the amount owed on the first mortgage to reclassify the second mortgage debt (as well as 3rd, 4th, 5th liens, etc.) as an unsecured loan, thereby freeing the home from that lien. Depending on the debtor's financial circumstances, the now-unsecured debt may not have to be paid in full, and could possibly be wiped out for pennies on the dollar.

For links to resources of information in this regard, see Law on Rice: Lien stripping resources.

See also, Introduction to Cramdown and Lien Stripping for a technical discussion on lien stripping basics in bankruptcy that lawyers might find useful.

Go here for earlier posts on lien stripping a 2nd mortgage in a Chapter 13 bankruptcy proceeding.

(1) See In Re Pond, 252 F.3d 122 (2d Cir. 2001) for some case law that approves the "lien stripping" maneuver in Chapter 13 bankruptcy proceedings, in which the U.S. Court of Appeals for the 2nd Circuit held:

• We therefore join the Third, Fifth, and Eleventh Circuits, as well as the Bankruptcy Appellate Panels of the First and Ninth Circuits, in holding that a wholly unsecured claim, as defined under Section 506(a), is not protected under the antimodification exception of Section 1322(b)(2). See McDonald, 205 F.3d at 611; Bartee v. Tara Colony Homeowners Ass'n (In re Bartee), 212 F.3d 277 (5th Cir. 2000); Tanner v. FirstPlus Fin., Inc. (In re Tanner), 217 F.3d 1357 (11th Cir. 2000); Domestic Bank, 249 B.R. at 838; Lam v. Investors Thrift (In re Lam), 211 B.R. 36 (B.A.P. 9th Cir. 1997), appeal dismissed on other grounds, 192 F.3d 1309 (9th Cir. 1999). But cf. American Gen. Finance, Inc. v. Dickerson (In re Dickerson), 222 F.3d 924, 926 (11th Cir. 2000) (explaining that, if the panel were to decide the issue on a clean slate, it would adopt the minority view, but that it was bound by the majority view because the Circuit had already adopted this view).

See also In re Bollerud, No. 08-12177 (Bankr. S.D. Cal. 2009) for an interesting ruling that allowed a junior lien to be stripped in a Chapter 13 case, even though discharge was not eligible to the debtor. According to the facts of this case, discharge was unavailable because the debtor had previously filed a chapter 7 petition, and the new bankruptcy laws prevented a subsequent discharge within 8 years of that filing in another chapter 7 or 4 years in a chapter 13. See Bankruptcy Law Network: Chapter 20: San Diego Bankruptcy Court allows Lien Stripping in Chapter 13 after Chapter 7.

More On Lien Stripping Of Wholly Unsecured 2nd Mortgages Encumbering Underwater Homes In Chapter 13 Bankruptcy Proceedings

White Plains, New York bankruptcy attorney Jeffrey M. Binder writes the following in the Poughkeepsie Journal on lien stripping of "wholly unsecured" second mortgages on underwater homes(1) in Chapter 13 proceedings in Federal bankruptcy court:

• During the lien stripping process you are required to file a Chapter 13 Bankruptcy and it can only be filed if your property value is less than the balance owed on your first mortgage which has to be less than one million dollars. You must arrange and pay for an appraisal of your property.

• For example, if your home is worth $500,000 and your first mortgage payoff balance is $525,000, you have no equity. If you have a second mortgage loan balance of $50,000, this second loan is a wholly unsecured mortgage and you can strip the lien in a Chapter 13 case. The lien now becomes an unsecured debt just like a credit card debt which can be wiped out after a period of time. If, however, the home is worth $530,000, you cannot strip off the second lien because it is merely undersecured, not wholly unsecured.

• Chapter 13 lien stripping is ideal for the large pool of borrowers who took out 80/20 loans or HELOCs where the 2nd lien is completely underwater. If such a lien is stripped, it can be treated as an unsecured debt in the Chapter 13 payment plan and paid a fraction over 5 years. (The actual percentage paid depends on several factors, including the value of the homeowner's assets and disposable income.) Homeowners don't have to fall behind on payments to be eligible for lien stripping.

For more, see Learn the Secrets of Lien Stripping ... and Save Your House!

See also: Cramdowns & Lien Stripping Of Home Mortgages Under Existing Bankruptcy Law.

(1) Underwater home = property that is worth less than the amount owed on the existing mortgage(s) encumbering the real estate; also referred to as property with "negative equity."

Lien Stripping Question In Chapter 13 Bankruptcy Proceedings Comes To A Head In Minnesota; Advocates Seek Case Law Consistency With Rest Of Country

The Minnesota Lawyer reports:

• [Minnesota]’s bankruptcy attorneys are hoping that a case before the 8th Circuit Court of Appeals will allow debtors to get out from under second mortgages in Chapter 13 bankruptcies and bring Minnesota in line with the rest of the country when it comes to a practice called lien stripping.

***

• “In the 1990s into the 2000s bankruptcy courts said you couldn’t do lien stripping on unsecured second mortgages, but over the past few years every other circuit except for the 8th started to change its mind and say you can do lien stripping if there is no value on the home,” [Bloomington bankruptcy attorney Craig Andresen] said. “As real estate values have plummeted now you have lots of totally unsecured second mortgages, and Minnesota is still saying that you can’t strip those liens. I felt that if every other court was allowing it, why not Minnesota? It’s time to get lien stripping approved by an appeals court.”

***

• Jasmine Keller, the Chapter 13 bankruptcy trustee for the District of Minnesota, agrees that second and third mortgages should be stripped because homeowners need help. She said some families have $200,000 mortgages on homes now worth $125,000. For them, lien stripping is no different than when corporations file for bankruptcy protection.

For more, see Lien stripping could be in state’s future (Case could allow practice now barred in bankruptcy).

8th Circuit Bankruptcy Appeals Panel OKs Chapter 13 Lien Stripping Move

In St. Paul, Minnesota, the Pioneer Press reports on a story of a homeowner/couple and their successful effort at getting a United States Bankruptcy Appellate Panel (made up of 3 bankruptcy judges) for the 8th Circuit Court of Appeals to allow for a lien stripping of a 2nd and 3rd lien on thier home where the amount owed on the first mortgage exceeded the value of the residence.

In obtaining the favorable ruling, the the couple convinced the appellate panel to overturn an earlier ruling of the bankruptcy judge who initially heard the case and ruled against the homeowners' move.

Reportedly, the appellate panel's decision is being appealed to the full 8th Circuit Court of Appeals, but attorneys say they expect the panel's decision to stand, as it mirrors decisions in other circuits,(1) the story states.(2)

For the story, see Bankruptcy made easier: Appeals court decision allows stripping of second mortgages.

For the court ruling, see Fisette v. Keller (In re Fisette), 455 B.R. 177 (B.A.P. 8th Cir. 2011).

Go here for other posts on lien stripping in bankruptcy cases.

(1) The court made the following observation in connection with this point:

• We agree with courts holding that §1322(b)(2) does not bar a Chapter 13 debtor from stripping off a wholly unsecured lien on his principal residence, a position that has been adopted by all Circuit Courts of Appeal to address this issue. See, e.g., Zimmer v. PSB Lending Corp. (In re Zimmer), 313 F.3d 1220 (9th Cir. 2002); Lane v. W. Interstate Bancorp (In re Lane), 280 F.3d 663 (6th Cir. 2002); Pond, 252 F.3d at 127; Tanner v. FirstPlus Fin., Inc. (In re Tanner), 217 F.3d 1357 (11th Cir. 2000);[2] In re Bartee, 212 F.3d 277 (5th Cir. 2000); McDonald v. Master Fin. Inc. (In re McDonald), 205 F.3d 606 (3d Cir. 2000).[3] Bankruptcy appellate panels of the Tenth and First Circuits have agreed with this conclusion. Griffey, 335 B.R. 166; In re Mann, 249 B.R. 831 (B.A.P. 1st Cir. 2000).[4]

(2) Worth noting is that within one year of the couple filing their Chapter 13 bankruptcy petition in this case, the couple had filed an earlier Chapter 7 bankruptcy case, in which the Debtor received a discharge of his unsecured debts. This maneuver is sometimes informally referred to by some bankruptcy practioners as a 'Chapter 20' bankruptcy (Ch.7 + Ch 13 = Ch.20). Go here for other posts on the so-called 'Chapter 20' bankruptcy.

Lien Stripping Of Completely Underwater 2nd Mortgages, HELOCs Can Convert Some Home Loans To Unsecured Debts In Chapter 13 Bankruptcy Proceedings

In Bradenton, Florida, bankruptcy attorney Cynthia A. Riddell writes in the Bradenton Herald:

• The current law prohibits stripping or modification of first mortgage liens on a Chapter 13 debtor’s primary residence. However, in many bankruptcy districts, [...] you can modify or “lien strip” a second or other subordinate mortgage which is not supported by any value in the property over the amount owed on the first mortgage. Under the current bankruptcy law, a second mortgage that is completely [underwater] can be stripped and reclassified as unsecured in a Chapter 13 bankruptcy case and, in most cases, paid only pennies on the dollar, while the homeowner keeps the home! The caveat is that the debtor in Chapter 13 must complete the plan in order to benefit from this action.

***

• This lien stripping tool may be helpful to homeowners with home equity lines of credit secured by a second mortgage on their primary residence or homeowners that purchased the home using the 80/20 loans with the simultaneous second mortgage funding that enabled borrowers to get 100 percent financing. If such a lien is stripped in a Chapter 13, it can be treated as an unsecured debt in the Chapter 13 plan and paid the dividend amount provided for all unsecured claims over five years. The second mortgage holder would be paid only a fraction of the total amount of the loan.

For the column, see Lien stripping among Ch. 13 provisions.

In a related story, see Court Strips Second Mortgage In Chapter 7 Bankruptcy. Is It Precedent?

Lien Stripping Of Subordinate Home Mortgages In Bankruptcy Gaining In Popularity?

In Las Vegas, Nevada, the Las Vegas Business Press reports:

• Homeowners upside down in their mortgages and facing foreclosure may have a new recourse. The relatively new practice of "lien stripping" is becoming a popular way to get out from under double mortgage payments and sometimes save homes. Not everyone, however, is praising the practice.

• The lien removal business has increased in recent months as property values continue to sink. At least a handful of local bankruptcy attorneys are performing lien stripping for clients. One is making it a focal point of her practice.

For more, see That LIEN AND HUNGRY LOOK (Mortgage 'stripping' becomes marketing tool for bankruptcy attorneys).

For other posts on homeowners using Federal & state consumer protection statutes to try and undo bad mortgage loans, Go Here, Go Here, and Go Here. UndoMortgageLoans TILAdelta

Underwater Homeowner's Bankruptcy Maneuver Leaves Another 'Stripped-Off" Mortgage-Holding Bankster Holding 'Unsecured' Bag; Federal Appeals Court: "We Find Nothing In The Act To Suggest That Congress Intended To Bar Lien-Stripping Of Worthless Liens In Chapter 20 Proceedings!"

From a Justia.com Opinion Summary:

• Debtors filed a Chapter 7 bankruptcy petition and sought to discharge their unsecured debt, strip down liens on their primary residence and a rental property, and obtain a loan modification to address mortgage arrears on the properties.
  
  The Trustee subsequently challenged confirmation orders entered by the bankruptcy court and affirmed by the district court, stripping off junior liens against debtors' residences.
  
  The Trustee argued that the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 created a per se rule barring lien-stripping in so-called "Chapter 20" cases.(1) The Act, however, did not bar the orders entered by the bankruptcy court, and the stripping off of valueless liens - liens secured by collateral without a single penny of value to support it - was otherwise consistent with the Bankruptcy Code.(2) Accordingly, the court affirmed the judgment.

Source: Justia.com Opinion Summary: Branigan v. Davis.

For the ruling, see Branigan v. Davis, No. 12-1184 (4th Cir. May 10, 2013).

(1) In actuality, there is no such thing as a "Chapter 20" bankruptcy (the U.S. Bankruptcy Code, as currently constituted, only has 15 chapters).The appeals court addresses "Chapter 20" in footnote one of its majority opinion:

• "Chapter 20" is a colloquial reference to a Chapter 13 bankruptcy filed within four years of a Chapter 7 bankruptcy that concluded with a discharge.

(2) The majority ruling sums up its analysis of the relevant law and its application with the following comments:

• In sum, although BAPCPA clearly tipped the bankruptcy scales back in the direction of creditors, we find nothing in the Act to suggest that Congress intended to bar lien-stripping of worthless liens in Chapter 20 proceedings.
  
  This, we conclude, is the most sensible reading of a complex statutory scheme that admittedly "abounds with arbitrary distinctions." Lane, 280 F.3d at 669. We therefore affirm the judgment of the district court.

2nd Mortgage Lien Stripping Still Viable In "Chapter 20" Bankruptcy Cases???

In an apparently unsettled area of law, a recent ruling from a U.S. Bankruptcy Court in Michigan addressed the appropriateness of a debtor having two bankruptcy cases pending at the same time where a so-called "Chapter 20" bankruptcy(1) is involved (where a homeowner first files a chapter 7 to relieve himself of unsecured debts, followed by a Chapter 13 to "lien strip" a completely underwater second mortgage lien from his home in order to save it from foreclosure - ie. Ch.7 + Ch.13 = "Ch.20").

The relevant excerpt from the ruling follows (bold text is my emphasis):

• There are cases, not mentioned in Debtor's brief (Docket # 16), holding that there is a per se rule that a bankruptcy debtor may not have two bankruptcy cases pending at the same time. These cases purportedly state the "majority view," and at least one of these cases is directly on point with this case. See, e.g., In re Sidebottom, 430 F.3d 893, 898-99 (7th Cir. 2005); In re Lord, 295 B.R. 16, 18-21 (E.D.N.Y. 2003); Turner v. Citizens National Bank of Hammond (In re Turner), 207 B.R. 373, 378-79 (B.A.P. 2d Cir. 1997). (Of these cases, In re Lord is directly on point.)
  
  But the Court is persuaded by contrary cases, including Grimes v. United States (In re Grimes), 117 B.R. 531, 533-37 (B.A.P. 9th Cir. 1990) and In re Ragsdale, 315 B.R. 691, 693-94 (Bankr. E.D. Mich. 2004), that the better view is that such a per se rule is not correct, at least in the specific circumstances of this case.(2)
  
  Those specific circumstances are: a Chapter 7 debtor obtains a discharge in his Chapter 7 case, but then, while that case remains open only for the Chapter 7 Trustee to investigate and possibly administer assets of the Chapter 7 estate, the debtor files a new bankruptcy case under Chapter 13, in an effort to treat the first and second mortgages on his residence through a Chapter 13 plan and a lien-strip action, and thereby save his residence from foreclosure.

I don't know what to make of this ruling - maybe it's nothing, but I'm sure there's someone out there who can figure out a way to make a big deal out of it.

For the ruling, see In re Smith, No. 11-45460 (Bankr. E.D. Mich., Southern Div. March 15, 2011).

(1) See generally:

• Is There Really a “Chapter 20” Bankruptcy? How Can it Help Me, Especially After the Big Change in the Law?
• Chapter 20: San Diego Bankruptcy Court allows Lien Stripping in Chapter 13 after Chapter 7.

(2) See also, In re Bollerud, No. 08-12177 (Bankr. S.D. Cal. 2009), where a U.S. Bankruptcy Court in San Diego, California OK'd a so-called "Chapter 20" in a 2nd mortgage lien stripping case where the debtor sought only to void the lien on the home without also seeking a discharge of the underlying debt.

Use Of 'Chapter 20' Bankruptcy In 2nd Mortgage Lien-Stripping Case To Circumvent Unsecured Debt Limitation Under Chapter 13 To Unload $390K Loan?

The following facts have been roughly adapted from a recent ruling of a U.S. Bankruptcy Court:

• The homeowners in this case owned a primary residence that was valued at $967,500, and subject to a first mortgage of $1,264,327.41, and which left the homeowners completely underwater.



• On top of that, they owed additional money on a second mortgage in the amount of $392,927.



• Under the applicable rules of a Chapter 13 bankruptcy, a lien for a claim that is entirely unsecured, based upon the value of their primary residence and the amount of the first priority lien against the residence, can generally be avoided as an encumbrance against the home, leaving the debt itself subject to discharge just as any other unsecured debt.



• However, bankruptcy law limits the use of a chapter 13 filing to those debtors with unsecured debts of less than $360,475.



• Because the amount of the homeowners' 2nd mortgage ($392,927) exceeded the maximum Chapter 13 limit (less than $360,475), the homeowners were precluded from filing under Chapter 13, right?

Apparently, in the view of U.S. Bankruptcy Judge Edward D. Jellen, not really. What the homeowner appears to have done is the following:

• Debtors first filed a chapter 7 petition, and received a discharge on March 16, 2010.



• The discharged eliminated all personal liability the homeowners had in connection with the promissory note secured by the 2nd mortgage, but left the lien of the mortgage itself in tact.



• Less than 11 months later, on February 7, 2011, Debtors filed a chapter 13 petition (a situation where a debtor files a Chapter 7 bankruptcy petition in which a discharge is obtained, followed by a Chapter 13 petition shortly thereafter, is sometimes informally referred to as a 'Chapter 20' bankruptcy - '7+13=20').



• The homeowners then asked the court to remove the lien of the mortgage because, based on the value of the home ($967,500) and the amount on the 1st mortgage ($1,264,327.41), the 2nd mortgage was completely unsecured and, therefore, was subject to the Ch.13 lien-stripping provisions of Chapter 13.



• The 2nd mortgage holder objected, citing the $360,475 unsecured debt limitation under Chapter 13.



• In making their argument, the homeowners asserted that, because they are no longer personally liable for $392,927 debt secured by the 2nd mortgage, that debt should not be included in the calculation for applying the unsecured debt limitation.

Based on his analysis of the applicable statute and case law, Judge Jellen agreed with the homeowners, and accordingly, overruled the objection of the 2nd mortgage holder.(1)

For the ruling, see In Re Shenas, Case No. 11-41332 EDJ (Bankr. N.D. Cal. July 28, 2011).

(1) Judge Jellen's analysis follows (bold text is my emphasis):

• On February 7, 2011, Debtors filed the current chapter 13 petition. The chapter 13 plan proposed by the Debtors provides for the avoidance of Green Tree's lien because it is wholly unsecured. Chapter 13 Plan, doc. no. 15; In re Zimmer 313 F. 3d 1220, 1226-27 (9th Cir. 2002).
  
  In Scovis v. Henrichsen, the Ninth Circuit held that eligibility for chapter 13 should be determined by the debtor's originally filed schedules, and that the undersecured portion of a secured debt is to be counted as unsecured debt for purposes of the § 109(e) calculation.[2] Scovis v. Henrichsen, 249 F.3d 975, 982-84 (9th Cir. 2001).
  
  Debtors herein scheduled Green Tree's claim as entirely unsecured, based upon the value of their primary residence and the amount of the first priority lien against the residence.[3] See Schedules A and D, doc. no. 16. As Green Tree applies the Scovis holding, its $392,927 claim should be characterized as unsecured, rendering Debtors ineligible for relief under chapter 13.
  
  The court disagrees. The debtors received a chapter 7 discharge before they filed the current chapter 13 case. That discharge operated to render their debt to Green Tree unenforceable as a personal liability of the Debtors. Section 524(a).
  
  Being unenforceable as a personal liability, the debt is not allowable as an unsecured claim in this case. Sections 502(b) and 506(a). It follows that the Debtors do not owe any unsecured debt to Green Tree for purposes of the unsecured debt limitation of § 109(e). Cavaliere v. Sapir, 208 B.R. 784, 787 (D. Conn. 1997) (holding that a secured claim discharged in a prior chapter 7 case, and unenforceable under § 502(b)(1) in the current chapter 13 case, should not be included in the § 109(e) eligibility calculation); In re Osborne, 323 B.R. 489 (Bankr. D. Or. 2005)(holding similarly in the context of a chapter 12 petition).
  
  Quintana v. IRS, 915 F.2d 513 (9th Cir. 1990), is not to the contrary. In that case, the Ninth Circuit held that the entire amount of a creditor's claim must be included in the eligibility determination, despite the creditor's waiver of a deficiency judgment in an upcoming foreclosure action, and the potential for offset by damages alleged by the debtor. Id. at 517. However, Quintana is readily distinguished from the present case because the chapter 7 discharge that rendered the Green Tree claim unenforceable as a personal liability against the Debtors was entirely consummated prior to the filing of the petition herein. See In re Osborne, 323 B.R. at 492.
  
  At the July 21, 2011 hearing, counsel for Green Tree argued that because the Debtors have not yet filed their motion to avoid its lien through their chapter 13 plan, Green Tree held an extant lien on the petition date, and its lien must be included in the § 109(e) calculation under Scovis.
  
  The court is not persuaded. Bankruptcy Code § 502(b)(1) provides that a claim shall not be allowed if it is unenforceable "under any agreement or applicable law". The legal bases for avoiding a wholly unsecured lien against real property are well-established. Green Tree does not have an enforceable claim in this case, and did not have one at the petition date. See, e.g., Scovis, 249 F.3d at 983 ("a claim secured only by a lien which is avoidable by a declared exemption is unsecured for § 109(e) eligibility purposes.").
  
  The court holds that the $392,927 claim asserted by Green Tree is not properly included in the unsecured debt calculation for purposes of § 109(e) eligibility because it is not enforceable against the debtors. See Cavaliere v. Sapir, 208 B.R. at 787.
  
  The objection to eligibility raised by Green Tree is therefore OVERRULED. The court will issue its order accordingly.

Lien Stripping In Ch. 13 Bankruptcy A Neat Way For Qualified Underwater Homeowners To Stiff 2nd Mtg Holders w/out Risk Of Future Collection Attempts

In New York City, the New York Post reports:

• Underwater homeowners are jumping onto an unexpected financial life raft that lets them escape crippling second mortgage debts and keep their homes -- Chapter 13 bankruptcy. It's an unprecedented byproduct of the housing price collapse, says New York City bankruptcy attorney David Shaev of Shaev & Fleischman.

• How it works is this: If the home is appraised at less than the value of the first mortgage, the owner can apply for permission in bankruptcy court to reclassify the second mortgage debt. That changes it from a secured debt, which must be repaid, into an unsecured debt, which does not have to be paid in full. The homeowner can then focus on paying off the first mortgage.

• "This is the only time where you see such a huge percentage of houses worth less than the first loan, allowing us to basically get rid of the second loan," says Shaev, who estimates that 20 percent of his Chapter 13 clients who own homes qualify for this type of workout. "We're at a unique place in history."

For more, see Liening on banks (Second mortgages are next housing crisis).

For an earlier "lien stripping" related post, see Lien Stripping Bankruptcy Court Trial Between Homeowner & 2nd Mortgage Lienholder A Battle Of "Dueling Appraisers".

Lien Stripping Bankruptcy Court Trial Between Homeowner & 2nd Mortgage Lienholder A Battle Of "Dueling Appraisers"

A recent bankruptcy court case decided in Northern California provides an illustration of how a trial involving an attempt by a homeowner/debtor to free her home from the encumbrance of a 2nd mortgage lien boils down simply to whether her appraiser's valuation of the home is more persuasive than the one obtained by the 2nd mortgage holder.

In this case, the total debt owed by the homeowner/debtor on her 1st mortgage and unpaid real estate taxes was $550,000. In addition, her home was encumbered by a 2nd mortgage lien which, under current law, can be avoided if she can prove that the loan secured by it is completely underwater. In other words, if the home is worth less than $550,000 (the balance owed on the 1st mortgage and unpaid taxes - ie. the debt having priority over the 2nd mortgage), the 2nd mortgage would be completely underwater and thereby, subject to the bankruptcy law's lien stripping rules. (In that case, the lien would be voided from the home and the outstanding balance owed on the debt secured thereby would be treated as an unsecured debt, which could then be either entirely or partially wiped out, or discharged, by the judge in a Chapter 13 bankruptcy proceeding).

Conversely, if the home is worth anything more than $550,000, the 2nd mortgage would not be completely underwater. In that case, the homeowner would be unable to relieve her home from the lien of that mortgage (which means that any court-approved plan to pay creditors in a Chapter 13 proceeding would have to satisfy the 2nd mortgage in full).

In this case, not surprisingly, the homeowner obtained a $525,000 appraisal for the home while the 2nd mortgage lienholder had it valued for $590,000. Interestingly, the bankruptcy judge rejected the valuations reached by both appraisals; however, he considered the factors addressed in each one to reach his own determination as to what the home was worth.

For the judge's conclusion on the value of the home, and his ruling on whether the 2nd mortgage should be stripped from the debtor's home, see In re Alizotis (Memorandum Decision On Motion To Value And Avoid Lien), Case No. 09-33061DM, (Bankr. N.D. Cal., January 20, 2010).

R.I.P. - Bankruptcy Strip Offs Of Underwater 2nd Mortgages In Chapter 7 Proceedings; Supremes Sound Death Knell For Slick, But Short-Lived Way To Wipe Out Subordinate Home Loans By Some Financially Distressed Homeowners Seeking Fresh Start; 'Green Light' Remains Steady For Similar Lien Stripping In Chapter 13, "Chapter 20" Reorgs

In Washington, D.C., Forbes reports:

• The U.S. Supreme Court reversed a lower-court decision allowing debtors to “strip off” underwater second liens in Chapter 7 bankruptcy, saying precedent required it to keep such mortgage claims intact.
  
  Justice Clarence Thomas, caught between his usual adherence to the strict wording of statutes and the competing doctrine of stare decisis, ruled that a prior decision carved out an exception from bankruptcy law for mortgage liens.
  
  The unanimous decision in Bank of America v. Caulkett is a victory for lenders who said it would be unfair to require them to give up potentially valuable claims simply because a home’s current value is depressed. It’s a defeat for consumer advocates who favor using bankruptcy to reduce the amount borrowers owe against their houses, although borrowers can still strip underwater second liens through the more costly and time-consuming process of Chapter 13 bankruptcy.(1)
  
  
  ***
  
  The Supreme Court already has ruled that in Chapter 13 reorganizations, where debtors with reliable income set up a plan to repay creditors over time, second mortgages with no collateral value to back them up can be stripped.(2)

For more, see Debtors Can't Void Underwater Mortgages In Bankruptcy, Supreme Court Rules.

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(1) See Why the Supreme Court Might Actually Rule Against the Corporate Interest:

• The reason it matters that you can strip off a second loan in Chapter 13 bankruptcy but not Chapter 7 is that Chapter 7 is a much more affordable part of the bankruptcy code.
  
  “Chapter 13 has a payment plan, you only get the strip-off if you complete the plan,” said bankruptcy expert Bob Lawless. Only about 40 percent of Chapter 13 cases complete the payment plan, which is three times as expensive as in Chapter 7.

Editor's Note: Strip-offs in so-called "Chapter 20" bankruptcies (the colloquialism for a debtor who first files Chapter 7 bankruptcy to get a discharge of his/her debts, then files Chapter 13 bankruptcy to obtain the lien strip off) also appear to remain unaffected by this Supreme Court ruling.

It notes reminding that, in the "Chapter 20 bankruptcy" context, while the law precludes a debtor from receiving a new discharge of his/her debts in a Chapter 13 bankruptcy within four years of a Chapter 7 petition that ultimately resulted in a discharge, a debtor can still file the Chapter 13 petition without seeking discharge, but to gain the other benefits that Chapter 13 offers - automatic stay, ability to cure arrearages, the ability to adjust interest rates under plan payments, ability to strip off liens that are completely underwater, among other benefits. See generally:

• Todd, Timothy M., To Lien Strip or Not to Lien Strip: Fourth Circuit Blesses Controversial 'Chapter 20' Valueless Lien Stripping in In re Davis (July 24, 2014). South Carolina Law Review, Vol. 65, Issue 4, p. 963 (2014). Available at SSRN: http://ssrn.com/abstract=2471249
  .
• Spector, Arthur J; Homer, Ilyse M; Avron, Paul A. Eleventh Circuit: "Chapter 20" Debtors Can Strip Off Liens. American Bankruptcy Institute Journal33.8 (Aug 2014): 54-55.
  .
• National Consumer Bankruptcy Rights Center: Debtors Enjoying Growing Consensus on Chapter 20 Lien Strip Cases.

(2) Ibid.

Another Fully Underwater 2nd Mortgage Holder Gets Wiped Out As Federal Appeals Court OKs Lien Stripping Of Subordinate Loan In Ch. 7 Bankruptcy

From a post from the National Consumer Bankruptcy Rights Center:

• The Eleventh Circuit has come through for consumer debtors on the issue of stripping off wholly unsecured liens in chapter 7.
  
  
• In In re McNeal, No. 11-11352 (11th Cir., May 11, 2012), the court found that once a lien is determined to be wholly unsecured under section 506(a) it may be stripped off under section 506(d), which provides “[t]o the extent that a lien secures a claim against the debtor that is not an allowed secured claim, such lien is void.”
  
  
• In so holding, the Eleventh Circuit joined the minority view that the decision in Dewsnup v. Timm, 502 U.S. 410 (1992), does not extend to wholly unsecured liens. After listing the cases that have found such lien strips to be prohibited under Dewsnup, the court turned to its own precedent for guidance.
  
  
• In Folendore v. United States Small Bus. Admin., 862 F.2d 1537 (11th Cir. 1989), the court found that section 506(d) permits strip-off of an allowed claim that is wholly unsecured. The court found that Dewsnup did not abrogate this decision because Dewsnup dealt with a partially secured claim while Folendore was precisely on point, dealing with a wholly unsecured lien.
  
  
• The McNeal court noted that some of the reasoning used in Dewsnup did not support its decision, but it did not find that discrepancy to be determinative for two reasons.
  
  
• First, the holding in Dewsnup was not directly on point, and the reasoning that would seem to abrogate Folendore was not essential to its holding. Second, the Court in Dewsnup was careful to limit its holding to the issue before it, thereby discouraging extrapolation of its holding to cases beyond its four corners.(1)
  
  
• This is the first circuit level court to reach this holding. Courts finding that Dewsnup does not permit the strip-off include: Ryan v. Homecomings Fin. Network, 253 F.3d 778 (4th Cir. 2001); Talbert v. City Mortg. Serv., 344 F.3d 555 (6th Cir. 2003); Laskin v. First Nat’l Bank of Keystone, 222 B.R. 872 (B.A.P. 9th Cir. 1998).
  
  
• The Bankruptcy Court for the Eastern District of New York has found that such strip-offs are permitted by the Code. In re Lavelle, 2009 WL 4043089 (Bankr. E.D.N.Y. 2009); In re Howard, 184 B.R. 644 (Bankr. E.D. N.Y. 1995).
  
  
• NACBA submitted an amicus brief in support of the debtor in the district court.

Source: Circuit Court Permits Strip-off in Chapter 7.

(1) In its ruling, the three-judge panel makes the following observation on the application of the Supreme Court's Dewsnup decision in connection with the earlier, seemingly conflicting 11th Circuit's ruling in Folendore:

• A few bankruptcy court decisions within our circuit — including the decision underlying this appeal — have treated Folendore as abrogated by Dewsnup. See, e.g., In re McNeal, No. A09-78173, 2010 Bankr. LEXIS 1350, at *9-12 (Bankr. N.D. Ga. Apr. 9, 2010); In re Swafford, 160 B.R. 246, 249 (Bankr. N.D. Ga. 1993); In re Windham, 136 B.R. 878, 882 n.6 (Bankr. M.D. Fla. 1992). But Folendore — not Dewsnup — controls in this case.
  
  "Under our prior panel precedent rule, a later panel may depart from an earlier panel's decision only when the intervening Supreme Court decision is `clearly on point.'" Atl. Sounding Co., Inc. v. Townsend, 496 F.3d 1282, 1284 (11th Cir. 2007). Because Dewsnup disallowed only a "strip down" of a partially secured mortgage lien and did not address a "strip off" of a wholly unsecured lien, it is not "clearly on point" with the facts in Folendore or with the facts at issue in this appeal.
  
  Although the Supreme Court's reasoning in Dewsnup seems to reject the plain language analysis that we used in Folendore, "`[t]here is, of course, an important difference between the holding in a case and the reasoning that supports that holding.'" Atl. Sounding Co., Inc., 496 F.3d at 1284 (citing Crawford-El v. Britton, 118 S. Ct. 1584, 1590 (1998)).
  
  "[T]hat the reasoning of an intervening high court decision is at odds with that of our prior decision is no basis for a panel to depart from our prior decision." Id. "As we have stated, `[o]bedience to a Supreme Court decision is one thing, extrapolating from its implications a holding on an issue that was not before that Court in order to upend settled circuit law is another thing." Id.
  
  In fact, the Supreme Court — noting the ambiguities in the bankruptcy code and the "the difficulty of interpreting the statute in a single opinion that would apply to all possible fact situations" — limited its Dewsnup decision expressly to the precise issue raised by the facts of the case. 112 S. Ct. at 778.
  
  Because — under Folendore — GMAC's lien is voidable under section 506(d), we reverse and remand for additional proceedings consistent with this decision.
  

Add One More Bankster Left Holding The Bag With Underwater 2nd Mortgage In Another Chapter 13 'Strip-Off'

From the South Florida Trial Practice blog:

• In Chapter 13 bankruptcy cases, debtors and unsecured creditors have the ability to strip-off wholly unsecured liens pursuant to 11 U.S.C. 506(d).
  
  By example, in the recent case of In re Smith, Case No. 6:12-02333-ABB in the Bankruptcy Court in and for the Middle District of Florida, the Court granted the debtor's motion to strip-off a creditor's second mortgage of approximately $400,000.00 where two parcels of real property were valued at $111,000.00 and a first mortgage of $215,000.00 encumbered the parcels. The Smith Court found that the creditor's second lien was wholly unsecured and accordingly, void and subject to strip-off pursuant to 11 U.S.C. 506(d).
  
  This decision shows the importance of considering a property's value and potential real property value fluctuations prior to a creditor taking a second mortgage on non-homestead property owned by an individual. Failure to have at least $1.00 of equity at the time of a Chapter 13 bankruptcy filing could result in a creditor's entire lien being voided.(1)

Source: Beware Of Lien-Stripping In Chapter 13.

For the ruling, see In re Smith, Case No. 6:12-02333-ABB (M.D. Fla. January 31, 2013).

(1) From the court's ruling:

• "Section 506(a) defines the secured and unsecured components of debts according to the value of the underlying collateral." Tanner v. FirstPlus Fin., Inc. (In re Tanner), 217 F.3d 1357, 1358 (11th Cir. 2000). Where a lien is "wholly unsecured" it is subject to "stripoff" pursuant to 11 U.S.C. Section 506(d). In re Tanner, 217 F.3d at 1360. A wholly unsecured lien claim is void. 11 U.S.C. § 506(d); In re Sadala, 294 B.R. 180, 185 (Bankr. M.D. Fla. 2003).
  
  The combined value of the vacant lot and Trojan Ave. property ($111,000.00) is exceeded by the $215,000.00 security interest the holder of the Johnson mortgage has in these real properties. Zaslavsky's subordinate lien is wholly unsecured. 11 U.S.C. § 506(a)(1). No equity exists in the vacant lot and Trojan Ave. property to support Zaslavsky's second-priority lien. The lien attaches to no collateral.
  
  Zaslavsky's lien on the vacant lot and Trojan Ave. property is void and may be stripped off pursuant to 11 U.S.C. Section 506(d). In re Tanner, 217 F.3d at 1360. The extinguishment of the lien is not effective until the Debtor receives a discharge pursuant to 11 U.S.C. Section 1328(f) because a mortgage lien cannot be modified or stripped off without a Chapter 13 discharge. In re Sadala, 294 B.R. at 185; In re Gerardin, 447 B.R. 342, 349 (Bankr. S.D. Fla. 2011) (en banc).

Unrecorded Mortgages, Judgment Liens, & Bona Fide Purchaser - Who's On First?

A recent court case decided by the Maryland Court of Special Appeals sets forth the following facts:

1. On July 15, 2005, Bank makes a $150,000 home loan secured by a deed of trust to a homeowner on a home located in Baltimore County.
2. Through inadvertence, the deed of trust was not recorded in the Baltimore County Land Records.
3. On May 11, 2007, as a result of an unrelated lawsuit against the homeowner brought by a third party individual, a judgment for $2,000,000 is obtained against the homeowner; the judgment was recorded and indexed in the Circuit Court for Baltimore County on the day it was docketed (May 11, 2007), and it became a lien against the home that same day for $2,000,000, plus post-judgment interest.
4. The now-$2,000,000 judgment lienholder had no notice (either actual or constructive) of the earlier-created, but as of yet recorded, $150,000 deed of trust on the home.
5. Post-judgment, the $2,000,000 judgment creditor/lienholder sought and obtained a writ of execution and the Sheriff levied on the home by posting notice that it was to be sold. The Sheriff's Sale was scheduled and advertised for October 25, 2007.
6. On October 9, 2007, after the Sheriff's Sale was advertised, Bank finally records its deed of trust in connection with the home loan given on July, 15, 2005, some 2+ years earlier.
7. On October 18, 2007, a week before the Sheriff's Sale, Bank and its title insurer filed suit seeking to enjoin the Sheriff's Sale and to obtain a judgment declaring that, by reason of its now-recorded deed of trust, it has a lien against the home that takes priority over the judgment creditor's earlier-recorded $2,000,000 judgment lien.

Question: Does the $2,000,000 lien held by the judgment creditor have lien priority over Bank's earlier-created, but later-recorded, deed of trust?

• If you said the earlier-recorded $2,000,000 judgment lien has lien priority over the later recorded $150,000 deed of trust, you're wrong!

The court ruled that the earlier-created mortgage has priority over the later-created judgment lien, even though the judgment lien was actually recorded prior to the mortgage.

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This case provides a reminder that simply because one interest in real estate is recorded before another doesn't mean that the earlier-recorded interest has priority over the latter.

Further, the ruling provides an illustration of the general rule in determining the priority of competing liens encumbering real estate that one who holds a lien against real estate by reason of he/she/it being a judgment creditor is not a bona fide purchaser for value because it does not "purchase" its lienholder's interest in the property "for value." The judgment lien is obtained simply by recording a money judgment in the county land records. Accordingly, its lien will be inferior in priority to an earlier-created, but later recorded, deed, deed of trust, or mortgage.

In Maryland, this general rule is codified in the state recording statutes at Section 3-201, which appears in Subtitle 2 of Title 3 of the Real Property Article. Title 3 governs "Recordation" and Subtitle 2 is entitled "Priorities Based on Recording." In its ruling, the Maryland Court of Special Appeals noted:

• Section 3-201 further provides, in relevant part, that "[e]very deed, when recorded, takes effect from its effective date as against . . . every purchaser with notice of the deed, and every creditor of the grantor with or without notice." Mary B. is not a "purchaser" of the Property, whether bona fide for value or otherwise. Eastern Shore Bldg & Loan Corp. v. Bank of Somerset, 253 Md. 525, 530 (1969) (quoting Stebbins-Anderson Co., Inc. v. Bolton, 208 Md. 183, 188 (1955) (stating that a judgment creditor is not a bona fide purchaser for value)). Within the meaning of the words in RP section 3-201, Mary B. only can be a "creditor" of Petr.

***

• That position also is supported, even more strongly, by Knell v. Green St. Bldg. Ass'n, 34 Md. 67 (1871), which holds that a judgment obtained after the execution, but before the recording, of a previously executed mortgage does not take priority over the mortgage. Indeed, the wording of RP section 3-201 incorporates the holding in Knell.

---------------------------

For one to be considered to be a bona fide purchaser (aka good faith purchaser) in the context of real estate transactions, one must acquire, or purchase, its interest:

• in good faith,
• for value, and
• without notice (either actual or constructive) of any third-party claim, or other legal or equitable interest.

This case merits attention here from a legal standpoint(1) because it is a reminder that to receive the special protection of the recording statutes, all three of the above requirements must be met. Failure to meet all three requirements renders the protections of the recording statutes inapplicable, in which case priority is determined on the date the competing interests are created (and without regard to when they are actually recorded in the county land records).

(Earlier posts in this blog on the bona fide purchaser doctrine have focused on the issue of notice - more specifically, constructive notice - in the context of undoing or unwinding certain real estate scams like bogus sale leaseback foreclosure rescue ripoffs and other unwitting title transfers.(2))

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For the court ruling referenced above, see Chicago Title Insurance Company v. Mary B., No. 2219/08, 2010 Md. App. LEXIS 1 (January 4, 2010).

Thanks to Bill Collins of Crossroads Abstract, Rochester, NY for the heads-up on this court case.

(1) From a human interest standpoint, the story within the story is that, Mary B., the judgment creditor in this case, was a minor female who was sexually victimized on numerous occasions over a period of years, beginning when she was 13 years old, by the homeowner/judgment debtor Petr, who was also her aunt's then-boyfriend, and soon-to-become uncle by marriage. Mary B. lived in the home with Petr and her aunt. By the time Mary B. was 14, she had been impregnated twice by Petr: the first pregnancy ended in a miscarriage; the second resulted in the birth of a son, Jesse B.

Mary B. ceased living in the home in 2006, when the local department of social services intervened, removing Mary and Jesse from Petr's home and placing them in foster care. The civil lawsuit she filed for battery that yielded the $2,000,000 judgment was in connection with the rape committed against her by Petr. Prior to filing, and during the pendency of, the civil suit for battery, Mary B.'s representatives conducted multiple title searches on the home to determine that their were no recorded liens against the home. Undoubtedly, learning of the existence of the earlier-created, unrecorded mortgage shortly before the scheduled Sheriff's Sale must have caught Mary B.'s representatives by surprise. Further, the ruling of the Maryland appeals court must have hit them all like a ton of bricks, particularly since the lower court in this matter ruled in Mary B.'s favor, finding that her judgment lien had priority over the Bank's $150,000 deed of trust, only to be reversed by the appeals court.

By the way, Petr is now a ward of the Maryland Department of Corrections, where he is serving a 20-year prison sentence for second-degree rape.

(2) See, for example:

• Lack Of Knowledge Or Partcipation In Fraud Not Enough To Sustain Bona Fide Purchaser Status In Equity Stripping, Foreclosure Rescue Deal,
• Bona Fide Purchaser Doctrine, Possession Of Property By Occupants Other Than The Vendor & The Duty To Inquire.

'Lien Stripping' In Bankruptcy Proceedings A Quick, Easy Way For Homeowners To Void Completely Underwater 2nd Mortgages; Helps Avoid Foreclosure

The San Jose Merury News reports:

• Stung by the crash of the housing market, some struggling homeowners are using a little known but increasingly popular provision of the bankruptcy code to eliminate second mortgages and avoid foreclosure.
• Statistics are hard to come by, but bankruptcy lawyers say the provision has been used effectively on hundreds, if not thousands, of cases in the [San Francisco] Bay Area during the past two years.
• "It's a big thing in our valley," said James "Ike" Shulman, a San Jose bankruptcy lawyer. "But it's not widely known." Shulman, co-founder of the National Association of Consumer Bankruptcy Attorneys, said he has helped a number of clients who have filed for personal bankruptcy use the law to hold on to their houses -- including three last week.
• Cathy Moran, a Mountain View bankruptcy lawyer, said one of her clients had a $132,000 second mortgage voided by the court. "This is a really big-ticket issue that allows people to keep a home and conform the mortgage to something closer to real value," Moran said.
• Bankruptcy laws prevent homeowners from eliminating the debt of a first mortgage if they plan to stay in their home. But second mortgages are treated differently. They can be declared unsecured debt when there is no equity to cover them, as is the case for millions of houses that are now worth far less than a few years ago.
• When that happens in a personal bankruptcy proceeding, the second mortgage is put on hold and no payments are required while the homeowner completes a repayment plan for other debts -- which typically takes three to five years. At that point, the second mortgage is eliminated.

***

• One of Shulman's clients, [...] was struggling to keep the San Jose house she bought in 2005 for $612,000. Her home's value has dropped to about $367,000 -- less than her first mortgage of $489,000 -- which allowed her to petition the bankruptcy court to set aside her $122,000 second mortgage. The court granted her motion. She successfully completed her payment plan for other debts two months ago, and her second mortgage is now eliminated.

***

• The law has been like this for years, bankruptcy lawyers say. It's just never been used as much because in the past there was usually enough equity in a home to cover the second mortgage.
• "We're having great results" using the rule, said Brette Evans, a San Jose bankruptcy lawyer. In one recent case, a small-business owner was able to hang on to her home by setting aside a $240,000 second mortgage, she said. That put the borrower in "a safe zone" where she could work out a modification of her first mortgage, Evans said.

For the story, see Bankrupt Bay Area homeowners shed second mortgages.

Go here for more on 2nd mortgage lien stripping in bankruptcy proceedings.

Bankruptcy Court OKs Home Mortgage Cramdown For NC Homeowner, Despite Congress' Failure To Change Law

Despite Congress' recent failed attempts to change the Federal bankruptcy law that restricts cramdowns of mortgages secured by a Debtor's residence in a Chapter 13 bankruptcy proceeding, such cramdowns are apparently already permissible in certain cases, and has been for quite some time, based on my reading of a recent ruling by a North Carolina bankruptcy court.

The ruling is somewhat technical in nature, but essentially revolves around the following:

• The applicable provisions of the Bankruptcy Code (ie. sections 506(a) and 1322(b)(2)) provide a mechanism for modifying the rights of a holder of a secured claim by bifurcating the secured creditor's claim into secured and unsecured portions if the amount of the claim exceeds the value of the collateral securing the claim;

• However, under section 1322(b)(2), some secured claims are protected against modification. Specifically, section 1322(b)(2) excludes from modification "a claim secured only by a security interest in real property that is the debtor's principal residence." [bold text emphasis mine, not in the statute];

• Under the terms of the deed of trust in this case, the Debtor was to include in her monthly payment principal and interest plus an additional sum to cover the payment of "Escrow Items" consisting of taxes and special assessments, leasehold payments or ground rents, and insurance premiums; and

• The lender's loan documents required the borrower to pledge the escrow funds as "additional security" for the principal and interest due under the promissory note and deed of trust.

In this case, the bankruptcy court, relying on the legal analysis by a Federal appeals court in In re Ennis, 558 F.3d 343 (4th Cir. 2009), found that the deed of trust was not "a claim secured only by a security interest in real property [...]" as set forth in section 1322(b)(2) - it was a claim secured by both:

• a security interest in real property, and
• a security interest in the funds sitting in the escrow account which, under North Carolina law, was found by the court to constitute personal property.

On the basis that the security for the deed of trust was not limited only to an interest in real property, but also included personal property in the form of the escrow funds sitting in the escrow account, the court ruled that the anti-modification clause was inapplicable and, accordingly, the Debtor was permitted to modify (ie. cram down) her home loan.(1)

For the ruling, see In re: Bradsher, Case No. 09-80942, USBC M.D. N.C., Durham Division (February 16, 2010).

(1) For those (like me) who were unaware that a mortgage cramdown was possible in a case involving a deed of trust or mortgage secured by the Debtor's residence, this case illustrates the importance of reading every single word contained in both the:

• the statute (the ruling in this case turns on the presence of the words "only" and "real property" in the anti-cramdown rule in section 1322(b)(2) of the Bankruptcy Code), and
• the mortgage/deed of trust (the pledging of the escrow funds as "additional collateral" rendered the anti-cramdown rule inapplicable since, under North Carolina law, said funds were found by the court to constitute "personal property").

For those of you looking to cram down the mortgages/deeds of trust secured by your "underwater" homes, a review of your mortgage/deed of trust paperwork may be called for (and hope that any escrow funds paid with the principal and interest are pledged as additional collateral for the loan, as they were in this case).

Further, for those homeowners looking to modify their home loans, it may be a good idea to make sure the escrow account is pledged as additional collateral for the loan (if it isn't already). This way, if (or when) the modification doesn't work out, you may have the option to file a Chapter 13 bankruptcy, and then possibly cram down (ie. write down) the loan as part of your payment plan - provided the escrow funds constitute personal property under the applicable state law (and, if you have a 2nd mortgage on the home that is completely underwater, you can also avail yourself of the "lien stripping" statute found elsewhere in the Federal Bankruptcy Code). Go here for More On Lien Stripping Of Wholly Unsecured 2nd Mortgages Encumbering Underwater Homes In Chapter 13 Bankruptcy Proceedings.

Finally, keep in mind that the anti-modification (anti-cramdown) law only impacts homeowners with first mortgages secured by their residence. Investors with first mortgages on their investment property can, and have always been able to, cram down those mortgages.

Financially Strapped Builder Charged With Stripping Appliances From Unsold Homes Encumbered By Bank Lien

In Gloucester, Virginia, the Daily Press reports:

• Embattled Gloucester developer George Woodhouse was arrested on charges of grand larceny Tuesday, less than a month before he is due in court to answer to 10 felony counts of forgery.(1)

• Woodhouse, 39, of Hayes, was charged with grand larceny in connection with a Dec. 22 incident at Dunston Hall, one of several unfinished housing subdivisions planned by Woodhouse in Gloucester. Several items, including microwaves and ceiling fans, were removed from two unoccupied houses, said Commonwealth's Attorney Robert Hicks.

• The items, as well as 17 lots at Dunston Hall, are subject to a lien filed by EVB bank against Dunwood Holdings, a company formed by Woodhouse and his wife, Abigail. The bank won a $7 million judgment in September against Dunwood and since has been foreclosing on company assets. S. Miles Dumville, a Richmond attorney representing EVB, said the bank has yet to foreclose on Dunston Hall properties. Dumville contends that no one is allowed to remove items from the houses because of the lien.

For more, see Embattled developer charged with larceny (George Woodhouse is accused of taking items subject to a lien from two unoccupied houses).

Go here for other posts on pre-foreclosure homeowner fixture stripping.

(1) A special grand jury in July charged him with forging five certificates of occupancy, actions that resulted in 10 felonies. The documents allowed Woodhouse to close on the sales of houses and receive money from his lender, EVB Mortgage, before the county would have issued real certificates. See Forgery trial for Gloucester developer scheduled for Feb. foreclosure fixture stripping apple