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High court ruling a loss for underwater homeowners

On Behalf of | Jun 5, 2015 | Personal Bankruptcy |

Dealing with mortgage-related debt is an important goal for many debtors who enter the bankruptcy process. In Chapter 13 bankruptcy, one of the benefits for struggling homeowners is that they are able to do something known as “lien-stripping.” This refers to the ability to eliminate debts associated with second or third mortgages, provided the amount of equity in the home doesn’t secure any of the debt connected to those mortgages. This is done by reclassifying those debts as unsecured.

In most states, lien stripping is not available through the Chapter 7 bankruptcy process. That being said, the federal bankruptcy code does define secured claims as including claims that are secured by property with a value greater than the claim, and unsecured claims as those which are worth less. A certain interpretation of that language would suggest that claims held by junior lien-holders could, in some cases, be classified as unsecured. 

A recent Supreme Court case where this language was at issue determined that legal precedent prevented lien-stripping in Chapter 7 cases, despite the ambiguity in the language of the code. In effect, this means that junior lien-holders are able to object to settlements between primary lien-holders and the debtor, despite the fact that there is nothing available for them anyway.

Underwater homeowners looking for a break on second or third mortgage debt are still able to find relief in Chapter 13 bankruptcy, of course, but the decision about which form of bankruptcy to file for is normally dependant on various factors. Working with an experienced attorney is important in order to make a good decision as to which form of bankruptcy to pursue and in obtaining guidance navigating the process.  

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