David J. Babel's Bankruptcy Blog

       Treasury has announced new guidelines, protecting homeowners from foreclosure and additional rules to assist homeowners in financial distress with respect to their mortgage obligations (see http://www.financialstability.gov/latest/pr_03262010.html). I’m from Missouri (not literally). Show me. Somehow this just seems like old wine in new bottles. I can’t help but remember when I worked as a teenager many moons ago at a summer camp when the owner directed that all the Heinz ketchup containers be filled with the inferior brand Catsup to provide the appearance of a high quality ketchup to the visiting parents. Aren’t we just putting off the inevitable? Treasury is just trying every conceivable approach short of allowing judicial modifications in bankruptcy. Why not permit a bankruptcy judge to make a fair and equitable decision based on a loan modification consistent with current dealings for other secured creditors. Let the property be marked down to its current value with a current market rate interest recapitalized over 30 years or 40 years. Maybe, that is too sensible. I apologize for overreaching and pushing the envelope. If not now, when?

            The traditional Chapter 13 plan for one who is delinquent with mortgage payments and/or maintenance payments is a 100% cure of all arrears for all mortgage obligations, generally without interest, over a five (5) year period. What happens if you have more than one mortgage and your residential property is underwater (you owe more than its worth)? For now I am assuming I am dealing with a single family primary residence property with a current fair market value of $400,000 with an outstanding mortgage payoff of $425,000 and a second mortgage with an outstanding mortgage payoff of $50,000. Thus, in this scenario where the primary residence is underwater, you can knock out or strip off the totally unsecured junior lien of $50,000 in a Chapter 13 proceeding (This cannot be done in a Chapter 7 case). This is routinely permitted under current bankruptcy law. The net result of a strip off would be the resumption of the regular monthly mortgage payment (either fixed or current adjustable rate pursuant to the mortgage agreement) to the first mortgage lender on the first of the month subsequent to the Chapter 13 filing date (unless a different due date was in place). The second mortgage would be voided and the $50,000 in this scenario would be treated as an unsecured debt. It would be lumped into the pool of other unsecured creditors (credit cards, medical bills, etc.) and receive the same percentage payout (5%, 20%, 100%)). In most cases, the pro rata payment would probably be small. This will definitely be a big plus for many people who fit into this situation.

             A parallel effort at restructuring the mortgage debt is a request for a loan modification on the first mortgage. The two approaches are not mutually exclusive. This approach complements each other. If you can strip off the second mortgage you will have more money available in your budget to deal with your other debt. If you do get a loan modification in the bankruptcy, you may be on your way to a successful reorganization for the short-term and the long-term. Can this be done? Yes, it can. Our office has done it and is doing this kind of work as are other experienced law offices. Does it work for everyone? Not for everyone! Each case stands on its own merits. Make sure that if you are a homeowner in trouble or a professional trying to help a homeowner that you have explored all of the options, including the above possibilities. More to come on investment properties that include two family houses in which one of the units is a primary residence.