Another 5 Big Ways Chapter 13 Can Save Your Home

Last week’s blog gave you 5 important ways Chapter 13 can save your home. Here are 5 more. You won’t ever need all of them, but together they cover a lot of scenarios.

 

6. Get lots more time to sell your home.

If you need to sell your home but are now or expect soon to be under threat of foreclosure, Chapter 13 usually gives you much more time to sell than would a Chapter 7 filing. That means you’d have more market exposure, which gives you a better chance at selling at a better price. That’s especially true if you are being forced to sell during a traditionally slower time of the year, or are trying to sell on a short sale (in which the house is worth less than the amount of the mortgage(s) against it).

If you are behind on your mortgage payments and have a foreclosure scheduled, filing a Chapter 7 case will usually only buy you an extra three months or so, or less if the creditor decides it wants to hurry the process. Often the only way to stop a foreclosure without filing under Chapter 13 is by paying the entire arrearage of payments—as well as late charges, foreclosure fees and attorney fees—all in a lump sum. This can easily total tens of thousands of dollars. Instead, in a Chapter 13 case you can usually stay in the home by making your regular monthly mortgage payments plus some progress towards paying the arrearage. If there is enough equity in the property, all the arrearage can often just be paid from the proceeds of the anticipated sale.

7. Deal effectively with child/spousal support liens against your home.

Chapter 7 does nothing to stop collection efforts against you if you are behind on your child or spousal support obligations, which can affect your home in two ways.

First, support obligations usually turn into liens against the real estate you own, including your home. This gives your ex-spouse the ability to force the sale of your home to pay the support arrearage. If a lien for unpaid support was already attached to your home before your bankruptcy is filed, then Chapter 13 would stop the execution of that lien as long as you comply with your Chapter 13 plan. Your plan must show how you are going to pay that arrearage before your case is completed, and you must stay current on those Plan obligations. But as long as you do all this, the support lien cannot be executed against your home. Instead after the underlying support debt is paid off, the lien will be released, with no further risk to your home.

Second, if not support lien has been placed on your home, Chapter 13 would prevent that from happening. Instead you’d have the opportunity to pay off the support debt while under bankruptcy protection, avoiding a lien from ever being placed.

8. More effectively address an income tax lien on a dischargeable tax debt.

If you owe an income tax upon which the tax lien has been recorded against your home, but the underlying tax can be discharged—because it is old enough and meets the other conditions for a dischargeable tax debt—then dealing with the lien is likely better under Chapter 13. Depending on the amount of equity you have in your home, under Chapter 7 the IRS or other taxing authorities may well not release the tax lien even after the underlying tax debt is discharged. In a Chapter 13 case, in contrast, there is an established mechanism for determining the value of that lien, and for paying it, so that at the completion of your case the tax debt is discharged and its lien is satisfied.

9. Property tax arrearages are also handled well under Chapter 13.

Usually, your mortgage requires you to be current on your property taxes, giving your mortgage lender another reason to foreclose if you are not. Your Chapter 13 Plan will demonstrate how you will pay off your property tax arrearage, so as long as you comply with your Plan obligations you will eventually catch up on your property taxes. Besides stopping any threat of tax foreclosure itself, your Chapter 13 case also stops your mortgage lender from arguing that you are in breach of your requirement to stay current on the taxes.

10. Prevent a Chapter 7 trustee from taking your home if has more value/equity than the applicable homestead exemption.

If you have more equity in your home than the homestead exemption allows, you risk losing your home in a Chapter 7 case. That risk is greater than usual now because the irregular housing market makes property values difficult to predict accurately. Also, Chapter 7 trustees have a lot of discretion, and so predicting how aggressive yours will be is difficult.

In contrast, Chapter 13 provides a much more predictable procedure for determining the value of a home, and a mechanism to protect the value of the home in excess of the homestead, if any. 

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5 Big Ways Chapter 13 Can Save Your Home

Chapter 13 is known as the home-saver. It provides a set of tools, each of which solves a different problem. It’s a powerful combination.

 

Here are five of those tools:

1. Catch up on your mortgage arrearage, while protected and with flexibility.

You have the length of your Chapter 13 plan–as long as 5 years—to pay your mortgage back payments. During this entire repayment period, you are protected from foreclosure and most other collection efforts, as long as you follow the terms of the court-approved plan.  If you do follow your plan, you will be current on your home when you finish your case.

2. “Strip off” junior mortgages.

If your home is worth no more than the amount of your first mortgage, then a second mortgage can be “stripped” of its lien against your home. This means that you would no longer need to make the monthly second mortgage payments, thereby significantly reducing the monthly cost to keep your home. The second mortgage debt is treated in your Chapter 13 case like a “general unsecured creditor,” meaning that the second mortgage balance is paid only as much as you can afford to pay. Whatever portion of that balance that is not paid during your case is written off at the end of it.

3. Prevent income tax liens from being recorded on your home.

Both Chapter 7 and Chapter 13 prevent federal and other income tax liens from attaching to your home while the cases are open. But Chapter 7’s protection lasts only a few months, with a tax lien able to be imposed against your home just as soon as the Chapter 7 case is over, usually only about three months later. This gives the IRS or other taxing authorities much additional leverage against you, and puts your house in jeopardy.

If instead you file a Chapter 13 case before a tax lien is recorded, there won’t ever be such a lien against your home. Instead this tax would be paid off in your Chapter 13 case as a “priority creditor” while the IRS/state could not record a tax lien throughout the process.

4. Satisfy income tax liens, and clear them off your title.

If at the time of your Chapter 13 case, your home already has an unpaid income tax lien against it, the IRS/state will be stopped from acting on that lien. Assuming that lien was imposed for a tax that cannot be written off in bankruptcy, Chapter 13 both provides you a mechanism to pay these inescapable debts on a reasonable timetable and also protects you while you do so.

5. Slash other debt obligations.

Chapter 13 reduces what you must pay on your other debt obligations. As a result, you would be more able to afford your mortgage obligations.

Chapter 13 can surprisingly give you more room in your budget to pay towards your home than if you had filed a Chapter 7 case. That’s because if you owe certain kinds of debts that would not be written off in a Chapter 7 case—such as an ongoing vehicle loan, certain taxes, child or spousal support arrears, and most student loans—Chapter 13 could well allow you to pay less each month on those obligations, leaving more for the home.

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Why STATE Property Exemption Laws Can Be Used in FEDERAL Bankruptcies

The U.S. Constitution makes bankruptcy a federal procedure. So how come it’s different in every state because of the property you can protect?

The Constitution makes it sound like a bankruptcy case should be the same in every state. It says that Congress has the power “to establish… uniform Laws on the subject of Bankruptcies throughout the United States.” Article 1, Section 8, Clause 4.

But bankruptcies don’t sound like they are governed by “uniform Laws” if the residents of one state get to exempt (protect) way more of what they own than residents of another state. For example, you can exempt only $5,000 of value in your home if you live in Mobile, Alabama (Ala. Code Sect. 6-10-2), but if you live an hour’s drive to the east on I-10 in Pensacola, Florida, you can exempt an unlimited amount of value in your home (Art. X, Sect. 4, Fla. Const.).

How can the supposedly “uniform” bankruptcy laws be applied so differently in different states?

A Compromise

The reason is that the current law—created in the late 1970s—is a major political compromise involving the most basic tension in the Constitution– states’ rights versus federal power. (Remember, we fought the Civil War about this.)

The issue here is whether a federal set of property exemptions would be required for everyone throughout the country filing bankruptcy, or whether instead each state would be able to create its own separate exemptions to be applied to their residents filing bankruptcy. The compromise—quite firmly in favor of states’ rights—is that the Bankruptcy Code does contain a federal set of exemptions, but each state is allowed to “opt-out” of those federal exemptions and require its residents to use that state’s exemptions when filing bankruptcy.  

So, if you live in one of 32 states, you cannot use the federal exemptions. Instead you must use your state’s separate set of exemptions. In the remaining 18 states and the District of Columbia, you can use either the federal or local exemptions.

A Long Time Coming

Before this was settled, it was probably the most contentious issue in bankruptcy law. In fact, it’s a big part of why we didn’t even HAVE a bankruptcy law during most of the 1800s.

Throughout that century, an ongoing political and economic fight raged between bankers mostly in the Northeast against farmers and small merchants mostly in the South and West. Because of regular cycles of financial “panics,” the farmers and merchants endured a pattern of losing their homes and farms to out-of-state creditors. Because of this, the first law exempting certain property from creditors was adopted in 1839 in Texas even before it became a state. From this exemption laws spread quickly through the South and the Midwest during the 1840s and 1850s.

Three different times during this same century, Congress passed a set of bankruptcy laws, each time to address the fallout from one of the reoccurring financial panics. But none of the bankruptcy laws stayed in force for long, expiring or being repealed as soon as the economy improved. With no federal bankruptcy law in effect most of the time, various kinds of state laws tried to fill the gap in various ways, including through property exemptions.

The first “permanent” bankruptcy law was passed in 1898, but it could only muster enough votes in Congress by letting states continue to use their own system of exemptions for bankruptcies filed by their residents.

So our latest late-1970s compromise was a long time coming. Some in Congress wanted to continue using state exemptions as in the 1898 law, while others wanted a mandatory uniform federal system.  The compromise was that each state was given a choice: it could let its residents file bankruptcy using EITHER a new set of federal exemptions or the state’s exemptions, OR each state could require its residents to use the state’s exemptions.

The end result is that in every state’s residents are either allowed or required to use their state’s exemptions, while in 18 states residents also have the option to use the federal exemptions. Between states’ rights and federal power, it sure looks like this favors states’ right. The result is that bankruptcies can look quite different from one state to another, in spite of the “uniform Laws” requirement in the Constitution. That’s certainly true if you own a home with a sizeable amount of equity on one side of the Alabama-Florida border versus the other.   

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Qualifying for Chapter 13

Chapter 13 sometimes gives you huge advantages over Chapter 7. So how do you qualify for those advantages?  

 

You can file a Chapter 13 case if:

  • the amount of your debts does not exceed the legal debt limits
  • you are “an individual with regular income”

Debt Limits

Under Chapter 7 there is no limit how much debt you can have. But under Chapter 13 there are maximums for both secured and unsecured debts.

Debt limits were imposed back in the late 1970s when the modern Chapter 13 procedure was created.  Congress wanted to restrict this new, relatively streamlined option to simpler situations. With a very large debt amount, the more elaborate Chapter 11 was instead considered appropriate.   

The original debt limits were $350,000 of secured debts and $100,000 of unsecured debts. In the mid-1990s these limits were raised to $750,000 and $250,000 respectively, with automatic inflation adjustments to be made every 3 years thereafter. The most recent of these adjustments applied to cases filed starting April 1, 2013, with a secured debt limit of $1,149,525 and unsecured debt limit of $383,175. These limits apply whether the Chapter 13 case is filed by an individual or a married couple—they are NOT doubled or increased for a married couple. Reaching EITHER of the two limits disqualifies you from Chapter 13.

These limits may sound high, and indeed do not get in the way of most people who want to file a Chapter 13 case. But they can cause problems unexpectedly. As just one example, a serious medical emergency or medical condition that is either uninsured or exceeds insurance coverage can climb to a few hundred thousand dollars of debt shockingly fast.

“Individual with Regular Income”

First, only “individuals”—human beings, not corporations or partnerships—can file a Chapter 13 case.

Second, an “individual with regular income” is defined in the Bankruptcy Code as one “whose income is sufficiently stable and regular to enable such individual to make payments under a plan under Chapter 13.” 

If that doesn’t sound very helpful to you, you’re not alone. How “stable and regular” does a debtor’s income need to be before it is “sufficiently” so, in that it enables the debtor to make plan payments?  How is a bankruptcy judge going to make that determination at the beginning of the Chapter 13 case, especially if there hadn’t yet been any history of income from its intended source?

Having such a ambiguous definition gives bankruptcy judges a great deal of leeway about how they read this qualification. Most are pretty flexible at least at the beginning of the case, giving debtors a chance to make the plan payments, thereby proving by action that their income is “stable and regular” enough. But if your income has been inconsistent, you may need to persuade the judge that your income is steady enough to qualify. A good attorney, especially one who has experience with your judge, can present your circumstances in the best light and get you over this hurdle. 

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