You are likely reading this article because you have fallen behind on your mortgage payments and either you have been threatened with foreclosure, or a foreclosure complaint has been filed against you by your mortgage lender.  

Filing a bankruptcy petition can help you keep your home, or, if you can no longer afford to keep your home, filing a bankruptcy petition allows you to surrender your home without any personal liability for the mortgage.

Allowing the Foreclosure If You Cannot Afford Your Home

First, if you just cannot afford to keep your home or you wish to surrender your home for other reasons, you would be wise to not allow it to simply be foreclosed. If you do, you can ultimately be liable for any deficiency on your account with the mortgage lender once the property is sold, and the mortgage lender may sue you and obtain a judgment against you for that amount. While this can happen, we do not see this very often.

Short Sales

If you work with your mortgage lender to sell your home as a “short sale”, meaning, selling for less than what you owe, be sure that your agreement with the lender includes a provision that your remaining debt is forgiven. Otherwise, again, you will be on the hook for the difference between what you owe and what the property sold for. Bear in mind that the amount of debt forgiven is imputed to you as income by the IRS and is taxable to you.  You need to speak to an accountant or attorney to find out about your liability in this situation. 

Allowing the Foreclosure and Filing Bankruptcy

If instead you file a bankruptcy petition and “surrender” the property to the mortgage lender, you will be discharged of the account deficiency, meaning, you are no longer personally liable for the mortgage, and the mortgage lender cannot make any attempt to collect that deficiency from you.  Filing for Bankruptcy can also help to protect you from owing the IRS for forgiven debt.

File Bankruptcy and Keep Your Home

If however you wish to retain your home and you believe you can afford to make the payments going forward, filing a bankruptcy petition halts pre-foreclosure collection as well as foreclosure litigation. Filing a Chapter 13 petition allows you to craft a plan to repay the mortgage arrears over time, and you can keep your home as long as you pay the monthly mortgage payments in addition to your plan payments.  Clearly, Chapter 13 is for debtors with enough steady income to afford to cure the arrearage over three or five years.

What If the Payments Are Too Much?

If you do not have enough income to cure arrears, or to keep your mortgage current, there is still a chance you can keep your home.  Filing a Chapter 7 petition also stays pre-foreclosure collection attempts and foreclosure proceedings, giving you time to explore other options such as loan modification with the lender or enrollment in your state’s foreclosure mediation program.

“Stripping” Second and Third Mortgages

Last, current market conditions have created an additional avenue of debt reduction for debtors who have more than one mortgage, owe more on their mortgages than the property is worth, and have enough income to fund a repayment plan and keep the first mortgage current. 

Here’s how lien-stripping works: if the property is worth less than the amount owed on the first mortgage, a second mortgage may be “stripped off” as unsecured and discharged through a Chapter 13 bankruptcy filing.  An example:  a property is worth $150K and it is encumbered by a first mortgage in the amount of $160K (not unheard of, considering what the market bore just a few years ago) as well as a home equity line of credit of $22K.  If the property owner files a Chapter 13 petition, he or she will be able to strip off that home equity line of credit and get that $22K debt discharged as unsecured.

It works the same way should the property also be encumbered by a third mortgage.

If Your Home is in Foreclosure, Talk to a Lawyer

Please take note of this important caveat:  this article is not legal advice, nor is it intended to be legal advice. The purpose of this article is merely to illustrate the possible advantages of filing a bankruptcy petition when your property has become subject to foreclosure or the threat of foreclosure.  The Bankruptcy Code can be a powerful tool for an honest but unfortunate debtor like yourself when utilized fully.  An experienced bankruptcy attorney can assess the particular facts of your case and recommend a course of action that will realize your goals, whether your goal is to keep your home or surrender it.

About the author:

David M. Offen, Esq.

Mr. Offen is a Philadelphia bankruptcy attorney who attended Temple University College and Law School. Mr. Offen is licensed to practice in the States of Pennsylvania and New Jersey. He is a member of the Eastern District of Pennsylvania Bankruptcy Conference and the National Association of Consumer Bankruptcy Attorneys and maintains an active blog on all aspects of bankruptcy filing and current events.