Recently on our bankruptcy forum we had a user ask the following question, “My wife and I are attempting to restructure our home mortgage. However, the bank says that we do not qualify for their restructuring program. But with the downturn in the economy, our income has decreased significantly and we are considering filing bankruptcy.”
Will a bankruptcy allow us to wipe out our mortgage or provide us more leverage to make the bank restructure our home mortgage?
Answer: Bankruptcy may be useful in helping you restructure some facets of your home mortgage, but bankruptcy is not an option that will allow you to both keep your home and eliminate your mortgage. Details on why this is the case and restructuring your mortgage follow.
There are two primary types of bankruptcy commonly filed by individuals: Chapter 7 bankruptcy and Chapter 13 bankruptcy. The benefits and restrictions afforded by each type of bankruptcy as explained below note why you may find help with one of these options, but all noted help may not be a guarantee in your situation.
Chapter 7 bankruptcy and home mortgage
A Chapter 7 bankruptcy is designed to eliminate debt entirely; this type of bankruptcy does not provide an option for restructuring debt.
Therefore, if you are looking to keep your home, then a Chapter 7 bankruptcy will not be an option because a home mortgage is a secured debt. A secured debt is one where an asset, such as your home in the case of a home mortgage, is tied to the mortgage by a lien. The lien in a home mortgage means that if you are unable to continue to make payments on the home mortgage, then the lender can seize your home and sell it to satisfy the money owed on the mortgage.
While a Chapter 7 bankruptcy can eliminate the requirement that you continue to make any further payments on your mortgage, it also means that you have to forfeit your home to the lender.
And since Chapter 7 does not allow for the restructuring of debt, this type of bankruptcy does not provide a useful benefit in answer to the above question.
Chapter 13 bankruptcy and home mortgage
A Chapter 13 bankruptcy allows the individual to reorganize their debt into a payment plan they can afford over a period of up to five years. This reorganization may be helpful to those looking to restructure their mortgage in several different manners.
First, if you are behind on your mortgage payments, Chapter 13 bankruptcy provides you the legal protection to catch up on payment of that past due amount over the payment plan period. While this does not reduce the total loan obligation you must pay on your mortgage or modify the mortgage terms such as interest rate, this additional time to catch up on payments may be valuable to some.
Second, if your home has a second lien on it but the value of your home has dropped below the amount owed on your first lien, the Chapter 13 bankruptcy can be used to potentially eliminate the second lien entirely since that lien would now be considered unsecured debt.
Finally, depending on your situation and the approach the judge presiding over your bankruptcy case uses, the judge may at his discretion make your mortgage lender modify your mortgage, reducing the interest rate, principle due, or both. However, such a reduction is not a legal benefit of a Chapter 13 bankruptcy, so it is not a guarantee that all Chapter 13 bankruptcy cases will be afforded this option.
Keep in mind that the information above is general in nature. The bankruptcy laws vary by each state and each individual situation is unique. Therefore, if you are considering filing bankruptcy, you should speak with a bankruptcy attorney who is familiar with the applicable bankruptcy laws in your state and who can inform you of the ramifications of filing bankruptcy.
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