By: Timothy McCandless
Bankruptcy Ruling Allows Homeowners to Keep their Home
In a recent earth-shattering decision by the United States Court of Appeals for the 11th Circuit, which includes Georgia and Florida, the Circuit Court ruled on May 11, 2012 that it is possible for a Chapter 7 Debtor to strip off a second mortgage on their home pursuant to the Bankruptcy Code. Prior to this decision, a Debtor was only allowed to strip off a second mortgage in a Chapter 13 filing.
To more fully explain the significance of this ruling, I must first give you some background on what it means to strip off a mortgage and the difference between a Chapter 7 and a Chapter 13 filing. Prior to this decision, a Debtor was only allowed to strip off a second mortgage in a Chapter 13 case. In order to strip off a second mortgage, the Debtor is required to show that the value of the house on her primary home is less than the value of the first mortgage. In the case where the first mortgage exceeds the value of the property, the second mortgage is thereby rendered totally unsecured. Traditionally, in a Chapter 13, if the Debtors desired to keep their home, they would be able to make payments of the first mortgage and stop making payments on the second as the second was totally unsecured and would be treated like other unsecured creditors such as a credit card. Upon completion of a Debtor’s Chapter 13 payments over a period from anywhere from 36 to 60 months, the Discharge would render the second mortgage removed as a lien of record, the Debtor would be relieved from that obligation, and the bank would be left to filing a Proof of Claim and receiving its pro rata share of distribution to unsecured creditors.
The reason Debtors were not allowed to strip down a second mortgage in a Chapter 7 case, was based upon the United States Supreme Court’s decision in Dewsnup v. Timm, 112 S.Ct. 773 (1992), in which the Supreme Court ruled that a Chapter 7 Debtor could not “strip down” a partially secured lien under the Bankruptcy Code. However, in a decision prior to the Supreme Court’s decision, the 11th Circuit ruled in Felendore v. United States Small Business Administration, 862 F 2d. 1537 (11th Cir. 1989), that the claim was wholly unsecured, it was avoidable under the Bankruptcy Code. In a very narrow and precise interpretation of the Supreme Court’s decision in Dewsnup, the 11th Circuit Court in its recent decision of In re: Lorraine McNeal, concluded that since the Supreme Court’s decision in Dewsnup did not specifically address the issue where a second mortgage was wholly unsecured, its ruling was not controlling on it and that its decision in Felendore was still the binding law in the 11th Circuit.
The 11th Circuit Court stated “that the reasoning of an intervening high court decision is at odds with that of our prior decision is no basis for a panel to depart from our prior decision. As we have stated, obedience to a Supreme Court decision is one thing, extrapolating from its implications a holding on an issue that was not before that Court in order to have upend settled circuit law is another thing.”
This is a great decision for potential Chapter 7 Debtors in the future, since it will allow them the opportunity to strip off a second mortgage without having to go through the repayment process of anywhere from 36 to 60 months in a Chapter 13. Under a Chapter 7, a Debtor may receive a Discharge in as quickly as four to six months from the date of filing. This will certainly open up additional opportunities for individual to keep their homes and force second mortgage holders to be more creative in attempting to be paid prior to a bankruptcy filing. This may allow more underwater homeowners to save their homes.
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