Can I Claim Bankruptcy on a Second Mortgage?

Many homeowners have second mortgages when they file for bankruptcy.

During the housing boom of 2004 and 2005, many homeowners obtained second mortgages by using the equity in their property as collateral. When the economy started to decline, a lot of homeowners were no longer able to afford the multiple liens on their property. Filing for bankruptcy became a viable option to help many homeowners get back on track. The U.S. Bankruptcy Code requires debtors to include the second mortgage in the bankruptcy.

Bankruptcy Petition

Provide the name and address of the creditor with the second mortgage in Schedule A and Schedule D of the bankruptcy petition. List the property address and the amount of the lien. State the current fair market value of the property in the bankruptcy petition. The bankruptcy court sends a notice of bankruptcy filing to the creditor based on the information provided in the bankruptcy petition. The creditor will have an opportunity to assert its rights under the Bankruptcy Code by submitting a proof of claim to the bankruptcy court.

Intentions

State whether the intent is to keep the property or surrender it through the bankruptcy. Choose to retain the property and reaffirm the debt, or surrender the property in the Chapter 7 Statement of Intentions document. Chapter 13 debtors need to state if the property will be surrendered or if they want to keep the property in the Chapter 13 plan. Chapter 13 debtors also have the option of stripping off the second mortgage in the plan if the property fits the eligibility requirements.

Strip Off Second Mortgage

File a Motion to Value Collateral with the bankruptcy court if the second mortgage can be stripped off the primary residence. The second mortgage can be stripped off if the property value is lower than the amount owed on the first mortgage. For example, a property has a fair market value of $150,000. The outstanding balance on the first mortgage is $200,000, and the amount of the second mortgage is $50,000. If the property is sold, only the first lien holder will receive any proceeds from the sale due to the low property value. This means the second mortgage is unsecured. As a result, the second mortgage can be reclassified as an unsecured debt in the Chapter 13 bankruptcy if the motion is granted by the court. The debtor can stop making payments on the second mortgage once it becomes an unsecured debt.

Discharge

Surrendering the property in a Chapter 7 bankruptcy means the debtor is not personally liable for the mortgages once the case is discharged. If the Chapter 7 debtor wants to keep the property, he has to keep making regular mortgage payments. When the second mortgage is stripped off the property in a Chapter 13 case, the debtor has to successfully complete the bankruptcy plan in order to have the second mortgage discharged. The debtor remains personally liable for paying off the first and second mortgage on the property if the Chapter 13 case is dismissed.

References

• U.S. Courts: Bankruptcy Basics
• Cornell University Law School: §1322 Contents of Plan
• United States Bankruptcy Court Southern District of California: Case 08-03059-B13 Memorandum Decision