Can a Home Equity Be Wiped out in a Bankruptcy?
Presumably, you’d like to file bankruptcy and wipe out your home equity loan without having to lose your home. It’s possible to wipe out a home equity loan in bankruptcy. However, your ability to do so generally hinges on the type of bankruptcy you file and your home’s current value.
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Home Equity Loan
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A home equity loan is essentially another mortgage. As the name suggests, lenders extend home equity loans based on the amount of equity in your home. Equity is the difference between what you owe on your home and what it's worth on the market. As with a typical mortgage, defaulting on a home equity loan generally empowers the lender to foreclose on your house. Bankruptcy is one means of stopping the foreclosure process.
Lien Stripping
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Lien stripping is a mechanism that would allow you to get rid of your home equity loan and keep your house. Depending on the housing market in your state, it’s possible that if your home were sold today, it wouldn't produce enough to pay off your first mortgage, let alone your home equity loan. Lien stripping allows you to get rid of a mortgage lien, such as a home equity loan, when you can prove your property is worth less than the balance due on your first or more senior mortgage.
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Chapter 13
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As a general rule, you may only strip a mortgage lien in a Chapter 13 bankruptcy. Chapter 13 bankruptcy requires a commitment of three to five years. During that time, you would remain obligated to pay your past due debts through a payment plan. Debts have different levels of priority in a Chapter 13. Under the plan, you must pay priority debts, such as child support, while unsecured debts may or may not have to be paid. When your lien is stripped in a Chapter 13, the court may simply treat the home equity loan balance as an unsecured debt.
Chapter 7
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Generally, the only way to wipe out a home equity loan in a Chapter 7 is to either surrender the home or convince your lender to forgive the debt. If you surrender your home in a Chapter 7, the debts associated with the property, including your home equity loan, will generally be discharged in your bankruptcy case. If you don't want to surrender the home, you could try convincing the lender to forgive the home equity loan. Foreclosure is costly and, depending on the market, your home may be difficult to sell. Accordingly, your creditor may forgive the second mortgage in favor of your remaining in the house and continuing to pay the larger first mortgage.
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References
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