When it comes to consumer bankruptcy, chapter 7 takes a far lead in filings, partially due to how much faster and simpler it is than filing for chapter 13 bankruptcy. This is a matter of fact and not opinion, but there are also benefits to choosing chapter 13 bankruptcy for debt relief. One of those is the possibility of removing secondary mortgages on a primary residence. This process is known as lien stripping, and has the potential to make life much easier for the debtor after bankruptcy discharge. Lien stripping is not an option for debtors in chapter 7 bankruptcy cases. If you qualify for both, this could be the factor that tips the scales in favor of chapter 13. Want to make that decision with guidance from an experienced bankruptcy professional? Schedule your free consultation with Henderson Bankruptcy Lawyers today by calling 702-899-3328.
Lien Stripping in Bankruptcy, Explained
It isn’t uncommon for a homeowner in financial distress to rely on the value of their home to obtain funds. Secondary home mortgages can provide a homeowner with cash in an emergency situation, but it may leave them with more pervasive financial issues afterwards. A person under these circumstances may find chapter 13 bankruptcy especially beneficial. Chapter 7 bankruptcy doesn’t have the same power to transform a secondary mortgage from secured to unsecured debt.
The first step to lien stripping in bankruptcy is analyzing the debtor’s overall mortgage situation. The debtor should subtract their home’s appraisal value from their first mortgage balance. There must be equity left in the home for a second home mortgage to have any security in the property. But this can be easier to illustrate through numbers than words. Find below two examples of a debtor seeking to clear secondary home mortgage debt in chapter 13 bankruptcy.
Example 1: The debtor owns a home worth $490,000. The remaining balance on their principal mortgage is $500,000. They also have a HELOC (home equity line of credit, essentially a type of secondary mortgage) with a balance of $50,000. Because the debtor has negative equity in their home due to owing $10,000 more on the first mortgage than the home is worth, the second mortgage is considered to be wholly unsecured. A wholly unsecured secondary mortgage is treated like other unsecured debts in chapter 13 bankruptcy. The lien can be stripped and the debtor will only have to pay as much of the second mortgage as they can afford in their payment plan.
Example 2: The debtor owns a home worth $250,000. The remaining balance on their principal mortgage is $230,000. They also have a HELOC with a current balance of $30,000. This means the debtor has $20,000 equity in their home before the secondary mortgage. Even though this is less than the secondary mortgage balance, this means the second mortgage is partially unsecured, giving it much stricter treatment in bankruptcy. Federal law dictates that even if there is $1 securing a secondary mortgage, it can’t be cleared by a bankruptcy filing. If this disqualifies a debtor from lien stripping in chapter 13 bankruptcy, they may want to explore the possibility of filing for chapter 7 bankruptcy instead.
Qualifying for Chapter 13 Bankruptcy
Just because a debtor wishes to file for chapter 13 bankruptcy to lien strip their home doesn’t automatically mean that they will qualify. There is significant commitment involved in filing for chapter 13 bankruptcy, as a successful case will always last 3 or 5 years. The trustee assigned to the case will thoroughly review the debtor’s financial information to make sure that they can feasibly complete their payment plan. This is part of why a bankruptcy petition needs to be so detailed.
Proving eligibility for chapter 13 bankruptcy involves the debtor showing they have enough income to pay off certain debts, as opposed to the opposite for chapter 7 bankruptcy. For chapter 13 bankruptcy purposes, debts are sorted into four distinct categories: bankruptcy expenses, secured debts, priority debts, and unsecured debts. They are paid off in the same order, with the first three categories of debt needing to be paid in full. Unsecured debts are only paid off to the extent that the debtor’s disposable monthly income allows. Disposable monthly income is calculated by deducting reasonable and necessary expenses from the debtor’s average monthly income. The length of the payment plan depends on how the debtor’s household income compares to the state median household income for their household size- if they make less, the payment plan lasts 3 years, and if they make that amount or more, the payment plan lasts 5 years. A debtor will only qualify if they can pay off mandatory debts during that 3 or 5 years.
The court doesn’t just take the debtor’s word for it that they will be able to complete their chapter 13 payment plan. Every bankruptcy case has a neutral, third-party appointed to review the petition and oversee the procedures known as the bankruptcy trustee. The bankruptcy trustee is not a judge. The trustee is the one who will go over the debtor’s documentation to make sure all of their mandatory debts will be repaid in chapter 13 and that they will realistically be able to complete the payment plan. This is done formally at the plan confirmation hearing, which is not required for chapter 7 bankruptcy debtors.
The Homestead Exemption in Nevada
Another consideration for lien stripping in bankruptcy is whether the debtor’s home is protected by the homestead exemption. Any equity the debtor has more than the exemption amount should theoretically be contributed to the bankruptcy estate. The homestead exemption in Nevada currently protects $605,000 equity in a home. It can also be used on a condo, townhome, mobile home, and other types of residences, as long as the home is attached to the land and the debtor’s primary residence. While Nevada offers a wildcard exemption that can typically be stacked on top of pre-existing exemptions, this can only be used on personal property and not real estate. Nevada also does not allow for the use of federal exemptions, so debtors in our state need to find a way to protect their home with the homestead exemption as is.
Make Sure Your Chapter 13 Case Is Filed the Right Way with Our Henderson Bankruptcy Team
Lien stripping is a hugely powerful benefit to bankruptcy, which already provides debt relief in so many ways. But it can also be a complicated process, and mistakes during lien stripping could cause a bankruptcy filing to be more headache than its worth. Chapter 13 cases are already notoriously difficult to complete without attorney representation, with more than 90% of pro se chapter 13 cases ending in dismissal. If you are drowning in debt and have more than one mortgage on your home, it’s time to start learning more about chapter 13 bankruptcy. Chapter 13 bankruptcy could help you save your home from your lenders and remedy your financial situation as a whole. Don’t enter a chapter 13 bankruptcy case without input from a dedicated professional. Schedule your free consultation by phone with an experienced Henderson bankruptcy lawyer today by calling 702-899-3328.
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