You want to save your home. Which is the best way to stop a foreclosure, get caught up on your monthly payments, and save your home? Is it loan modification? A workout? Or a bankruptcy?

A recent article, “The Home Ownership Experience of Households in Bankruptcy” by Professor Sarah W. Carroll, of the University of Pennsylvania Law School and Wenli Li, of the Federal Reserve Bank of Philadelphia, provided the first in-depth analysis of the home ownership experience of home owners in Chapter 13. Its conclusions mirror what most bankruptcy attorneys’ personal experience has been: Chapter 13 is one of the most effective ways to let you save your home.

The study followed homeowners who filed for Chapter 13 between 2001 and 2002 in New Castle County, Delaware, from the time of their filing to October 2007. (Since most Chapter 13 plans last five years, this was a fair trial period.) After analyzing the data, it found two important results:

First, the Chapter 13 filing was not always the solution: 27.9 percent of filers lost their houses in foreclosure despite filing for bankruptcy. This is typically a result of poor cashflow. If job loss, or illness continues and there is not enough money coming into the household, the house will be lost regardless of filing bankruptcy or not. Many of the homeowners in this group will end up converting their cases to one under Chapter 7, so that they can wipe out any personal liability for the mortgage(s), as well as most of their other debts.

However, when compared with homeowners who did not file, debtors who filed for bankruptcy were able to stay in their homes for, on average, 27.7 additional months, over two years. This figure includes those who ended up losing their homes.

So, if you’re behind on mortgage payments, consider a Chapter 13–it may let you stay in your home a lot longer than other options.

The full article can be found here.

I frequently meet with clients who own a business that has financial problems. It may not be able to pay its bills as they come due, there may be an eviction threatened, or a lawsuit. These clients have done some homework, and usually start out our meeting by saying that they want to retain me to file Chapter 7 bankruptcy for their corporation or LLC.

They are also surprised when I tell them that for most businesses, Chapter 7 makes absolutely no sense.

Why?

Chapter 7 is the type of bankruptcy that most people think of when they think of bankruptcy. For individuals, it results in the discharge of general unsecured debts, such as credit cards and trade debt. It allows for the discharge of some older taxes. So why wouldn’t it make sense for a business in financial difficulty to file?

The answer lies in Section 727(a)(1) of the Bankruptcy Code. This section, which deals with Chapter 7 discharges, says: “The court shall grant the debtor a discharge, unless the debtor is not an individual.” Since corporations and LLCs are not individuals, they cannot receive a Chapter 7 discharge.

This means that, although a corporation or LLC can file for Chapter 7, it cannot receive a discharge. So why would it even think about filing for Chapter 7? That is the subject of an earlier blog I wrote on this topic.

Almost all of my clients hate to schedule their first appointment with me.

It’s not because I’m a bad guy, or that I treat my clients poorly–just the opposite. My clients are shown respect and understanding, and we give them a ready ear to hear their problems. So why don’t people want to meet with me?

It’s because almost all people who file for bankruptcy feel embarrassed. They feel that they are a failure. They feel ashamed that they cannot pay their bills, or that they are faced with a foreclosure, or a lawsuit. They feel completely alone, a pariah with a large letter “B” tattooed on their forehead that people will point to and turn away. They think they are a bad person for even thinking about filing for bankruptcy.

While these feelings are real, they are wrong.

Debt problems are nothing recent. In fact, the historical basis of bankruptcy can be found in the Bible. In fact, the seven-year forgiveness of debts in Deuteronomy 15 is why Chapter 7 received its name.

Bankruptcy is part of American history as well, going back to the Constitution. It even predates the Bill of Rights. The right of Congress to establish laws for bankruptcy appears in the 1789 Constitution in Article I, Section 8. The Bill of Rights wasn’t adopted until 1791. Why? Some of the Founding Fathers of this country, among them Patrick Henry and Thomas Jefferson, had severe debt trouble. Much of President Jefferson’s property, including his home, Monticello, was sold after his death to pay his debts.

Many famous people have filed for bankruptcy, among them President Harry S Truman, Walt Disney, John Wayne, Donald Trump (3 times), Willie Nelson and Larry King. And, of course, the number of multi-billion dollar corporations that have filed is too large to mention.

So why the shame?

Part of it is that most folks are good, honest people who genuinely want to repay their debts. In fact, most of my clients would have been better off financially had they seen me a year earlier. But they don’t, because they try to work things out without having to file for bankruptcy. The problem is that, in today’s financial market, creditors make it as hard as they can to do this. They hike interest rates up to 30%, charge huge fees, call and write with nasty threats, and are unwilling to work with people who just need a bit of time to get things back on track.

By the time most of my clients meet with me, they have already paid back, in full, the amount of money they borrowed on their credit cards, paid an equal amount–100%–in interest and fees, and are working on 200% to 300% of the original amount.

So why do they think they’re such bad people?

Creditors have an economic interest in making people feel bad about filing for bankruptcy. They run ads saying what a terrible thing it is. They whisper that it’s immoral. Their collectors make people feel like scum. And, since people want to do the right thing, these messages fall on fertile soil…and make people believe that they are bad for even considering bankruptcy, let alone actually filing.

They aren’t.

One of the most common questions I am asked is why a clients need to list their mortgage, their car loan, the “credit card that payments are current on that’s just used for emergencies and I really need” or the loan from Mom on their bankruptcy schedules. While the short answer is, “Because you have to,” the full answer is more nuanced than that.

First, the Bankruptcy Code and Rules require that all creditors be scheduled in your bankruptcy filing. This is primarily so that they will receive notice of the bankruptcy filing, and stop all collection activity pursuant to the automatic stay. If they are not scheduled, they do not get notice and do not know to stop. The Bankruptcy Code defines “creditor” as “An entity that has a claim against the debtor that arose at the time of or before” the bankruptcy is filed. This includes the mortgage, the car loan, the credit card, and Mom. (Many people are worried that merely scheduling their mortgage or car loan means that they will lose their house and car. This is not true. The overwhelming majority of people who file for bankruptcy keep everything they have.) Failing to list all of your debts can get you into trouble in your case.

From a creditor’s perspective, bankruptcy is all about the same type of claims being treated in the same way. For example, all general unsecured debt–credit cards, medical bills and most personal loans–receive the same distribution in a bankruptcy case, regardless of who is owed the money. This means that Mom gets the same amount as Bank of America. It means that the hospital bill for saving your life is treated the same as the credit card bill for dinner. If you do not schedule all creditors, they cannot be treated the same.

Failing to include all of the required information also is perjury. You sign the schedules under penalties of perjury, stating that you have listed “all entities holding claims”. At the Meeting of Creditors, you are typically asked, under oath, whether you listed all of your assets and all of your creditors.

So when your bankruptcy lawyer asks you to list all of your creditors, please make sure that you list all of your creditors!

When I meet with a new client to go over their possible bankruptcy filing, I always ask about what they own–real estate, cars, etc.–and what claims are filed against it–mortgages, title loans, etc. Often, the client says that they don’t own any of these things. When I press a bit, I am told, “Well, the bank owns it; I just make the payments.”

It would be more accurate from a legal perspective to say, “I own it, but the bank has a lien on it.” What is a lien, and why does it matter?

Sometimes called “security interests,” a lien is a legal claim against something that you own. What you own is called the “collateral” for the loan. If you don’t make the loan payments, most liens let the lender sell the collateral, after following specific rules regarding documentation, timing and notice. Mortgages and car loans are the most common sort of liens that people agree to have placed against their property. There are also “involuntary liens,” such as court judgments, tax liens, mechanic’s liens, or homeowner’s association or condo liens, that are imposed even though you don’t want them.

All liens give the holder certain powers over the collateral. Apart from the ability to sell the collateral if there is a default, there are usually restrictions on sale or the transfer of title. For example, you can’t sell your car if there is a lien against it unless the lien is paid off, or give your house to your sister without the lien continuing to apply despite the change of ownership. Liens may show up on your credit report.

It is very important to let your bankruptcy attorney know about everything you own–even if there are liens on it–as well as any liens you are aware of. How your case is handled may depend on the type of lien that exists. Some liens may be able to be “avoided” or “stripped off” or “crammed down,” meaning that you might not have to pay them or may be able to pay less, in a bankruptcy case. It may also be possible that the lien wasn’t “perfected,” or recorded in the way or in the time your state’s laws require for it to be effective.

Tax liens usually aren’t good things. But in at least one situation, they can help someone save their home in bankruptcy.

In those states, such as Maryland, that do not have unlimited homestead exemptions, bankruptcy attorneys often have to deal with clients who own real estate that has non-exempt equity. This equity can be a problem, requiring either large payments through a Chapter 11 or Chapter 13 under the “Chapter 7 Liquidation Analysis Test,” or loss of the property in a Chapter 7.

In one recent case, this problem was “solved” through a large state tax lien. The client owned a house that had $60,000 in non-exempt equity. This typically would have resulted in the property being sold in a Chapter 7–something the client did not want to occur–or would have required a monthly payment in excess of $1,000 in a Chapter 13–something the client could not afford. She did have some rather large old state taxes in connection with a long-closed business, and the state had filed a $200,000 tax lien several years earlier. As a result, all of the equity in the house was eaten up by the secured claim of the state on the tax lien, meaning that the client could keep the house in a Chapter 7 or make affordable payments in a Chapter 11 or Chapter 13, taxes that were not part of the lien could be discharged, and the rest of the tax lien could be “stripped off” the property, leaving only $60,000 in claims to deal with.

The client ended up filing a Chapter 7 and worked out an affordable payment plan with the state that started after she got her discharge.

I recently got a phone call from a client. She got a letter from her mortgage company giving her the “opportunity” to reaffirm her mortgage. She wanted to know whether she should do this. I told her, “Absolutely not.” In the overwhelming majority of cases, it makes absolutely no sense to reaffirm a mortgage debt. Why? The Bankruptcy Code is written in such a way so as to make a mortgage reaffirmation bad news with a very small upside.

When the Bankruptcy Code was rewritten in 2005, additional provisions were inserted dealing with the reaffirmation of personal property, such as jewelry, cars, etc. A “reaffirmation” means that you sign a document, that must be approved by the Court, making you permanently liable for the loan, regardless of what happens, as if you had never filed for bankruptcy. You might say, “I want to keep my house, so I need to reaffirm the loan.” But this is not true. Unlike some personal property, you don’t need to reaffirm a mortgage to keep your house. So long as you keep your payments current, you keep the house, regardless of whether you reaffirm the mortgage or not.

What’s the benefit of not reaffirming? No matter what happens, so long as you have the mortgage you scheduled in your bankruptcy (even if it’s been sold but not if it’s been refinanced) the lender can’t go after you personally for any shortfall or deficiency. If you fall behind, it won’t show up on your credit record, and if there’s a foreclosure, the lender can’t go after you for any shortfall. This is true for the length of the mortgage. And if the payments are current, you keep the house.

What’s the down side of reaffirmation? If you fall behind on payments for any reason, the mortgage company can make a negative credit report, and if there’s a foreclosure, in those states that allow deficiency judgments, can go after you for any unpaid principal, interest, late fees, lawyer’s fees, costs, etc. as if you had never filed for bankruptcy.

I meet with potential clients every day. In each case, I ask that the client fill out two questionnaires, a short, two-page form to be brought to our initial meeting, and a second, much longer one, to help me in drafting the Schedules for filing with the Court.

These questionnaires, even the short one, take a lot of time to fill out. Many of my clients do not like to do this. Sometimes, they bring in copies of bills, lists of monthly payments, spreadsheets, etc. instead. If they do this in addition to filling out the questionnaire, it may help me (although, as discussed below, it usually does not). But if they bring in this information instead of completing the questionnaire, I may not meet with them, or the preparation and filing of their case may be significantly delayed. Why would I act this way?The answer lies primarily in time.

In our initial consultation, I want to spend as much time as possible talking about the client’s case, the options that are available, fees, and how things are likely to proceed. I wrote the questionnaire to give me the information I need to evaluate the client’s circumstances and let me do this as quickly and efficiently as I can.

I know just what I need, and the questionnaire is designed to give me precisely that information in a layout and format I am very familiar with. If I have to spend time looking at the client’s list of what he or she thinks is important, it may not be what I think is important (for example, the monthly payments on credit cards are generally irrelevant to anything in the bankruptcy case, although they are very important to the client), and certainly is not in a format that I can quickly and accurately analyze. Reviewing my standard questionnaire lets me spend most of my time talking about what the client is really interested in: what I think will happen in their case.

When it comes to the more detailed questionnaire, the benefits of using my standard form are even greater. My staff uses the questionnaire to enter data into the computer for inclusion on the schedules that will be filed with the Court. They are used to seeing information laid out in a particular manner in a particular order in a particular place on a particular form. This allows them to enter the data quickly and correctly. If they are faced with a spreadsheet or stack of bills instead of the form they are used to seeing, it takes them much longer to find what they need, be sure that it has all of the information that the court requires (and which is requested in my questionnaire), and enter it in the appropriate place in the database. The result: delay. Instead of it taking three hours to draft your schedules, it may take seven or eight hours. And my staff will normally need to call to get the information you didn’t include, delaying things yet further.

As a result, I will generally instruct my staff not even to start a case where the questionnaire isn’t completed properly, and have been known to refund fees and not represent clients who won’t “do it my way.” I know that it may be more difficult for you to get the information I need in the format I ask. But this lets me hold down my costs, and thus my fees.

Image credit: Steel Wool/Flickr

Editorial Cartoonist Ed Stein's take on underwater mortgages

About 25% of all mortgages in the United States are “Under Water,” that is, a mortgage where the property is worth less than what is owed on the mortgage. Many people who own these properties also have second mortgages, equity lines,  HELOCs, or tax, HOA or other liens, pushing the property still farther into the red. A Chapter 11 or Chapter 13 bankruptcy may offer a solution: the “Lien Strip,” or “Strip-Off.”

A lien strip lets you stop paying the second mortgage (or equity line, HELOC or lien), treat it as a general unsecured claim, and at the conclusion of the case when you get the discharge, the lien must be released. Since liens generally survive a bankruptcy discharge, a lien strip requires that you file a Motion to Avoid Lien with the Court and have it granted. Then you have to make all of the required payments under your reorganization Plan and receive a discharge.

To be eligible for a lien strip, your first mortgage must be more than the value of your property.

This is not always a simple process, and you should discuss whether you are eligible for a lien strip with your bankruptcy attorney.

Recently, a colleague of mine was given a letter from a client. She had received it from a law firm, and it said:

Dear Borrower:

We are your mortgage company’s lawyers. We are attempting to reproduce certain loan documents that are now missing from your loan file. Enclosed you will find a Loan Security Agreement. Please sign it in the presence of a Notary Public and return it to us in the enclosed prepaid envelope.

Sincerely,

The client said that she was afraid that this meant she was in some sort of trouble with her mortgage, and asked my colleague for advise.
The advise was to ignore the letter. Why? Because it really means that the lender can’t find the Mortgage Note, and is trying to “fix” things by having her sign a brand new one.
Signing a new mortgage note generally isn’t a good idea. It may create liability and make it easier for the lender to foreclose against your property. If there were violations of the federal statutes in connection with the loan, it may prevent you from suing for relief. It will restart the running of any statutes of limitations related to payments under the mortgage. And it results in there being no consequences for the lender in having sloppy (at best) or fraudulent (at worst) procedures in effect for dealing with closings and the maintenance of documents.
Check with your lawyer before doing anything, but don’t assume that there’s something wrong on your end, and don’t assume that this is something that you need to fix.