Stripping Second Mortgages in Chapter 13: Minnesota Court Says “No”

17 Oct Stripping Second Mortgages in Chapter 13: Minnesota Court Says “No”

Bankruptcy lawyers across the country have assumed for years that “stripping” completely unsecured second mortgages on homestead real estate was accepted as fact, at least in chapter 13 cases. A minority of courts have even allowed this to be done recentlyin chapter 7 cases. Imagine the surprise, then, when a Minnesota bankruptcy court ruled in April that second mortgage stripping was never allowed in chapter 13 on a debtor’s homestead.

Even worse, the court ruled that under the U.S. Supreme Court’s recent decision in United Student Aid Funds v. Espinosa, 2010 WL 1027825 (March 23, 2010), bankruptcy courts had an independent duty to review chapter 13 plans and deny confirmation if a plan contained the forbidden lien stripping language, even if no objection to the plan was filed by any party.

This Minnesota case, In re Loban, 2010 WL 1292787 (Bky.D.Minn. April 2, 2010), places a substantial roadblock in the way of chapter 13 debtors desiring to “strip off”second mortgages which are not secured by any value of the homestead real estate. In the federal appeals court’s Eighth Circuit, plan confirmation denials are not “final orders” and thus cannot be appealed. In the Eighth Circuit, the only way to appeal a plan confirmation denial is to let the case be dismissed, and then appeal from the dismissal. Few debtors can afford to let their cases be dismissed, which then prevents an appeal and stifles development of appropriate case law.

The overwhelming majority of courts facing the issue of homestead second mortgage stripping have approved of such plans,including most federal appeals courts. However, bankruptcy practitioners might well wonder if other courts will adopt the reasoning of this unexpected Minnesota bankruptcy court ruling.

Second mortgage stripping is usually allowed when the value of the chapter 13 debtor’s home is less than the balance owed on the first mortgage. This renders the second mortgage “unsecured” by any value of the home, pursuant to bankruptcy code section 506, and thereby makes the second mortgage vulnerable to avoidance, notwithstanding section 1322(b)(2)’s protections for “secured” mortgages.

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Craig W. Andresen is a consumer bankruptcy lawyer in Bloomington, Minnesota, with 22 years’ experience in consumer and small business bankruptcy cases. He is the Minnesota chair of the National Association of Consumer Bankruptcy Attorneys, and is a member of the Minnesota State Bar Association’s Bankruptcy Section. Mr. Andresen lectures often on the topic of consumer bankruptcy at local and national legal seminars.
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