I had a consult scheduled with a potential client recently who did not make it in. No worries, I just reached out to her to see if she wanted to reschedule. She declined because she had initiated a consolidation loan process to pull together all her outstanding unsecured debts under one, lower interest rate. She was getting this consolidation loan by refinancing her house and using up any equity in the house to secure the loan. I still offered to meet with her – for free even though I likely would see no business result from the meeting. I did not want to talk her out of this plan; I simply wanted to make sure she had full knowledge of all the ramifications. This is because I know people who have done this successfully and avoided bankruptcy. I have known others who did this and it ended up putting their home at risk.
Essentially, a consolidation loan like the own my potential client was wrangling does not reduce debt principal. It usually does reduce interest costs over the lifetime but, to be sure of this, one must factor in the closing costs and fees associated with an equity loan secured by your house. What does happen is that unsecured debt gets converted into secured debt. Secured loans offer lower interest rates because the risk of total loss on the loan is mitigated by the value of the property securing the loan. In other words, if you do not pay they take your house.
A bankruptcy, whether Chapter 7 or Chapter 13, shreds off most or all unsecured debt. So, in a bankruptcy situation, unsecured debt is good debt to have because you will not have it long. Secured debt does not pass away so quietly. You can sever the personal obligation to repay the debt, but there are only very narrow avenues by which the secured obligation – the liability on the property – can be done away with. An equity line on a house can only be completely discharged in a Chapter 13 IF there is absolutely zero equity to which the loan actually adheres.
So, if my potential client does follow through with this secured consolidation loan, then she has closed off the possibility of shedding that debt unless she sheds the house as well. This may be a great strategy. She may have enough income that is reliable enough to make that extra house payment and still meet her living expenses. I just want her to know that doing so commits her to that one way out of debt and to make that decision with as full knowledge as she can get. And, if it works out, I am glad for her. If it does not work out, well – perhaps I can still help her save the home with a Chapter 13.
A young man I know recently talked to some students about gratitude. Usually we equate gratitude with stuff we have but Britt used illustrations from the Bible to show that the most grateful hearts are connected to empty hands.
For example, most of us know the story of the women who poured out the whole jar of perfume on Jesus’ head. She could have just poured out a portion and it still would have seemed extravagant, yet she ended up empty handed and was filled with gratitude.
On this Thanksgiving Day this lesson is quite apt. I help people who are unduly burdened by debt. Most are robbed of any ability to focus on gratitude because of the anxiety of losing everything they have worked so hard to obtain. I do not suggest that bankruptcy is something to be desired. Rather, what is desirable is to find peace and gratitude. This comes by no longer clutching onto things and behaviors that fail to fulfill. Sometimes this means recognizing that we cannot overcome our debt without help. Sometimes it means receiving the mirror image of grace offered by the bankruptcy code and emptying your hands.
Thankfully though, that code allows you to keep everything you need and many things you want while still giving you a fresh start. This is a worldly example of redemption that I hope somehow points people to the redemption that matters eternally through Jesus.
A young woman approached me wondering if “medical bankruptcy” was actually “a thing”. She had a lot of medical debt and a friend encouraged her to contact this place that promised to get rid of medical debt for $71.00. I had to disappoint her because one cannot just file on certain debts; all your debts must come in. Also, a bankruptcy for $71.00 is a scam. They are just selling forms that can be obtained online for free.
I had a call from a young lady that lost their license due to a debt from a car accident. They had been told they could get it back as soon as they filed. Actually, bankruptcy can help but, you can only get it back after the bankruptcy was discharged. This means a 4 to 6 month process.
Many people who own a home have more than one loan secured against their residence. These junior liens (a consensual lien against real property is also called a mortgage) may be home equity lines of credit, business loans where the lender insisted on a personal residence as security, judgment liens, and so on. Judgment liens can be “stripped off” (the security interest ended) in either a Chapter 7 or Chapter 13 if it cuts into the debtor’s exemption. 11 USC Sect 522(f)(A). However, voluntary liens (one the debtor consented to) are more challenging.
The Sixth Circuit Court of Appeals made clear that voluntary security interests against real estate in this neck of the woods (including Kentucky) cannot be stripped off in a Chapter 7. In re Talbert, 344 F.3d 555 (6th. Cir. 2003). They stuck with the pre-code rule that “real property liens emerge from bankruptcy unaffected.” Id. at 561. This case focused on the role of 11 USC Sect. 506 which provides for the determination of a secured debt status.
So, if the only way to save your home is to get rid of (strip off) a second or third mortgage, you must file a Chapter 13 bankruptcy. However, the relief provided in a 13 is limited as well. If the loan is secured solely against the debtor’s real property which is also their principal residence, then the loan cannot be modified. 11 USC Sect. 1322(b)(2). The one exception to that takes us back to 11 USC Sect. 506: If the loan is completely underwater – that is, if there is zero equity in the property for the security interest to attach to (and I mean not even $1), then even such a loan can be stripped off and treated as wholly unsecured debt in the Chapter 13. When home prices were dropping consistently, this was a more common occurrence but it still happens.
What can be done with junior loans where there is some equity to which their lien attached? Well, this is where your bankruptcy attorney needs to take a careful look at the promissory notes, mortgages, and secured property. In an interesting case coming out of Ohio, the Sixth Circuit took a look at the meaning of the words “only”, “real property” and “principal residence” and found that they all three must come together for the 1322 protection to come into play. The In re Reinhardt, 563 F.3d 558 (6th. Cir. 2009) case involved a loan secured against a mobile home and the real property upon which it sat. Most would see that as real property which is the principal residence, but under Ohio law, the mobile home was personal property. Just like in Kentucky, that mobile home only became real property (affixed thereto) when the title was surrendered and the proper documents filed with the County Clerk.
Because the Reinhardt’s never surrendered the title of the mobile home, the loan was secured BOTH in the real property and an item of personal property. Therefore, the terms of the loan could be modified by the Chapter 13 plan. Basically, this means that the loan could be valued under 11 USC Sect. 506 and split into a secured claim and an unsecured claim. The part that was secured (equal to the value of the property at the time of the filing) would be paid in full (not necessarily in the plan though) and the rest would be paid pro-rata as with all the other unsecured debts. The other place where it is common for a loan to be secured against both one’s principal residence real estate and other property is with business loans. These lenders often want security in the home and in any assets of the business. However, this makes those loans vulnerable to modification (cram down).
Be sure that you bankruptcy attorney takes a careful look at all the factors that come into whether a secured debt with a lien against your home can be stripped off or crammed down.
In a Chapter 7 or a Chapter 13, one can avoid a judicial lien on property that impairs an exemption pursuant to 11 USC Sect. 522(f). The most common way this plays out is that a creditor has filed suit, obtained a judgment, and then filed a lien on that judgment against your real property. This lien can sit dormant against your home for fifteen years, but it must be satisfied if the property is ever sold. Or, the creditor may pursue foreclosure but they rarely do that unless they believe there is enough equity in the property.
In order to strip off the judgment lien, your bankruptcy attorney must file a motion within the bankruptcy as a contested matter. In other words, if your attorney does nothing else, then the lien will survive the discharge. Previously, this was done within the plan of a Chapter 13, but the local rules have changed so that it must be done by motion in both Chapter 7 and Chapter 13 bankruptcies.
If your attorney was unaware or the judgment lien or otherwise failed to file that motion to strip the lien, not all is lost. A decision in the Eastern District of Kentucky Bankruptcy Court, In re Cross, Case No. 93-50547, the Debtors failed to strip the lien off their real property while the bankruptcy remained open. Twenty months after the case closed, the Cross’ reopened the bankruptcy and moved to have the lien stripped. Despite the passage of time and the creditor arguing that the Debtors waived the right to strip the lien based on so much time passing, the court still granted their motion.
If you have made it to an attorney and are preparing to file bankruptcy, then you have received a packet requesting a lot of information including a list of assets. Be sure to be complete in listing your assets. Now, I do not mean you need to count your skivvies or socks, but you do NOT want to exclude items of value (yes, do give an estimate of the number of outfits and wearing apparel in your household but no need for an exact inventory unless they are fancy designer clothes).
A few things that tend to get left off that list: life insurance policies (even term policies that have no cash value need to be listed), burial plots, and tax refunds. These are all out of sight and out of mind things that, nevertheless, are assets of your estate. Most people have enough exemptions to cover them, and so there is no down side to listing them. The up-side to listing them is a smooth bankruptcy.
This post can be found on my family law website here. It addresses issues connected to post-divorce debt and distribution of assets and is a must read.
I have written in the past about the ability to “force” down interest high interest rates on car loans in a Chapter 13 and even to decrease the principal mount due on cars purchased over two and a half years prior to the bankruptcy. These are tremendous benefits to a Chapter 13, but there is a downside to including your vehicle to be paid through the plan. That is, at least in the Sixth Circuit which includes Kentucky.
The case, In re Nolan, 232 F.3d 528 (6th Cir. 2000) is the prevailing law in Kentucky on surrendering a car after a Chapter 13 plan has been confirmed. Whereas some other courts have adopted only a “good faith on the totality of the circumstances test” as to whether surrendering a car post-confirmation allows the claimed debt to become an unsecured debt, the Nolan case precludes such judicial discretion.
Nolan dictates that if a debtor seeks to surrender a car that is being paid through a confirmed Chapter 13 plan, the creditor still gets paid in full through the plan. The creditor gets to seize the car and auction it, applying the sale price to the debt owed. However, cars rarely auction for much and so most of the debt remains. Since that debt, which outside of bankruptcy would become an unsecured deficiency debt, must be paid in full, then debtor will likely not be able to decrease their plan payment much if at all. All the other unsecured creditors realize no benefit, nor any noticeable harm.
The debtor’s position is harmed even though they will be making the same plan payment as before. This is because they are likely having to purchase a new vehicle which will NOT be paid through the plan. This makes the debtor budget all the tighter and possibly untenable.
A temptation that many people have when facing a bankruptcy is hiding assets. Often this arises from the mistaken notion that a debtor cannot get relief from debt unless they give up most of what they own. The bankruptcy code is not intended to be a punitive mechanism to harass people who do not pay their debt; it is intended to be a tool to give people a fresh start when they cannot reasonably cover all their debts. As part of this “fresh start’ intent, the federal bankruptcy exemptions are fairly generous. Some state law exemptions are more generous, but most are far less expansive.
One must first determine if their state law allows a debtor to utilize the federal exemptions. Kentucky does allow a debtor to opt for either the state exemption or federal exemptions. I have only found two cases where the Kentucky state exemptions were more favorable than the federal ones: 1) a case where a joint-bankruptcy was filed but one of the debtors passed away while the bankruptcy was pending, and 2) a case where the debtor was due a substantial worker’s compensation package. In each of those circumstances, the state exemptions were 100% of those assets being exempt where the federal ones were limited to “reasonably necessary”.
In all my other bankruptcies, the federal exemptions were the best choice. And, in nearly all consumer Chapter 7 bankruptcies, the federal exemptions will allow debtors to keep all their property. Since most debtors have enough exemption to keep all their properties, then there is no reason to try to hide those same assets. The attempt to hide assets, creates a real risk that could sabotage the entire bankruptcy and lead to the trustee giving tremendous scrutiny to your whole situation. It can also lead to loss of the relief of a discharge of debt.
- Consolidation loan conundrum
- Empty Hands to Gratitude – thanks @brittpendleton
- Medical Bankruptcy
- Getting your license back through bankruptcy
- That Pesky Equity Line of Credit
- Good Riddance Judgment Lien!
- Things to be aware of when facing bankruptcy 9
- Things to be aware of when facing bankruptcy 8
- Cars and Chapter 13
- Things to be aware of if facing bankruptcy 7
- Things to be aware of if facing bankruptcy 6
- Things to be aware of if facing bankruptcy 5
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