Chapter 13 Bankruptcy Home Mortgage Strip-Down Would Stop Foreclosures

by Jill Michaux, Esq.

August 31, 2008

Strip-down of residential mortgages in chapter 13 bankruptcy would cause an additional 109,000 homes to be saved from foreclosure, two California academics concluded recently.

“Although small compared to the current level of foreclosures,” Professors Ning Zhu and Michelle ‘White conclude, strip-down “would contribute to solving the subprime mortgage crisis by saving some homes from foreclosure when debtors wish to keep their homes, but lenders are unwilling to consent to refinancing or to renegotiate the mortgage contract. Strip-down would therefore complement and strengthen the proposed Congressional program for solving the mortgage crisis.”

Strip-down is bankruptcy jargon for modifying a real estate loan secured by a mortgage on the borrower’s principal residence downward to the value of the home, rewriting the terms of the loan and discharging the undersecured portion of the debt.  Strip-down is allowed in bankruptcy on farms, investment property and vacations homes, but not on the debtor’s principal residences.

Lenders rarely agree to any change in mortgage terms and few borrowers are likely to qualify for the the Federal Housing Administration program, the professors conclude.  Changing the bankruptcy law provides a mechanism for judges to force a strip-down of residential mortgages and may be the only alternative to foreclosure.

A recent study by Levitin and Goodman (2008) suggests that allowing strip-down would have only a negligible effect on the supply of mortgage credit, the professors note.

Ning Zhu, an associate professor of management at UC Davis, and Michelle White, a professor of economics at UC San Diego, report their findings in a working paper, “Saving Your Home in Chapter 13 Bankruptcy,” available online at http://www.gsm.ucdavis.edu/Faculty/Zhu/Chapter13.

Strip-down is one of many bankruptcy proposals pending in Congress.

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Jill Michaux has helped Kansas consumers with debt problems for three decades. She and her partner, Mark Neis, are Topeka's only bankruptcy specialists, board certified in consumer bankruptcy law by the American Board of Certification. She help start the National Association of Consumer Bankruptcy Attorneys.

Last modified: October 22, 2012