Bankruptcy Judge Uses Creative Solution to Help Homeowner in Foreclosure Limbo

02 Sep Bankruptcy Judge Uses Creative Solution to Help Homeowner in Foreclosure Limbo

Nashville bankruptcy judge George C. Paine, II confronted one of the thorniest issues facing debtors in his district, and crafted a creative solution to deal with the problem. The debtor in that bankruptcy case was caught in a situation more and more homeowners now face. Having filed Chapter 7 bankruptcy and elected to give up her home, which was seriously damaged in the Nashville floods of 2010, she continued to face new debt because Bank of America, which holds her mortgage, refused to move forward with foreclosure, leaving her responsible for continuing homeowner’s association fees.

If you’ve read a few posts here at Bankruptcy Law Network, you have probably come across some criticism of the 2005 bankruptcy legislation referred to as BAPCPA. One of the changes in the law probably seemed innocuous enough at that time had to do with HOA fees. Instead of being responsible for HOA fees as long as you occupy your property, the law now says you are now responsible for HOA fees as long as you own the property.

n 2005, however, special interests successfully lobbied for changes to the bankruptcy code so that debtors are still liable for homeowners association fees as long as they continue to legally own the home, whether they’ve abandoned it or not.

The issue has started creating headaches nationwide, with debtors arguing that the change denies them the fresh start a bankruptcy is supposed to provide. They accuse banks of intentionally dragging their feet to complete foreclosures so they don’t have to assume the costs associated with ownership. Last year’s flood has brought the issue to the forefront in Middle Tennessee, where flood-damaged homes are an even larger liability than other distressed properties. When Pigg declared bankruptcy in September, she owed $97,500 on a home that was worth only $55,000, according to her bankruptcy petition.

These days it is not unusual for lenders to wait months, if not years, to foreclose–if they ever do. For someone whose HOA fees continue to accrue in a home that they can’t, or don’t, live in, that delay can be critical. And the worse the market, or the condition of the house, the more likely it is to happen.

Despite the fact that the debtor no longer lives in the home, and Bank of America has taken possession of the home, Judge Paine concluded, as have other judges facing the same issue, that the law offers no way to force Bank of America to foreclose. But, instead of leaving the debtor in zugzwang, he crafted a unique solution:

[T]he Court used its equitable powers under the Bankruptcy Code to order a sale, under Section 363, of the property, with the Bank’s lien claim subordinated to the costs of the Trustee’s sale and to the HOA debts owed (and HOA attorney fees). The Court expressly found that “the Bank and the HOA have consented to the sale by their inaction.”

This is an interesting ruling, because nothing in the Bankruptcy Code allows a Court to subvert the priority of a valid and properly perfected property lien. Here, using only its equitable powers, the Court fashioned a fair outcome, but a clear departure from state law lien priority statutes.

Chapter 7 trustees don’t usually sell property when there is no value over and above the mortgages, so this is a departure. And because the court ordered Bank of America’s lien to be paid after the HOA fees and costs of sale, the bank will not recover the full value of the property. I’m not sure how this approach would be viewed by an appellate court; Bank of America has elected not to appeal. But a couple of things are clear. This is a problem in need of a solution. Frankly, it’s a problem Congress created, and they need to fix it. But until they do, kudos to a bankruptcy judge innovative enough to find an answer in at least one case.


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