If you’re behind on your mortgage, you may be wondering if Chapter 13 bankruptcy can save your home. Chapter 13 can temporarily stop foreclosure and, in some cases, allow you to strip a second mortgage lien. However, bankruptcy comes with serious downsides, and it’s not always the best option for homeowners who want to protect their property.
In this article, we’ll break down what happens to liens in Chapter 13 bankruptcy and explain the risks that come with lien stripping so you can better understand if it’s the right option for you.
Contact Denbeaux Law today for a free consultation to learn about foreclosure defense strategies that may help you save your home.
What Happens to Debt in Chapter 13 Bankruptcy?
Chapter 13 bankruptcy doesn’t erase all your debt right away. Instead, it reorganizes what you owe into a repayment plan that covers different types of debt based on its structure.
Secured debt typically must be paid in full to keep the property, whereas unsecured debt is often reduced or even wiped out. In some cases, Chapter 13 also allows lien stripping, which permits some second mortgages to be reclassified as unsecured debt.
What Is Lien Stripping the Second Mortgage?
Lien stripping in Chapter 13 bankruptcy allows homeowners to remove a second mortgage lien or home equity line of credit (HELOC) if the home’s current value is worth less than the balance owed on the first mortgage.
Let’s say your home is valued at $500,000, but you still owe $550,000 on your first mortgage. Because your first mortgage balance is higher than the value of the home, there’s no equity left to secure the second mortgage.
In that case, Chapter 13 lien stripping allows you to ask the court to treat the second mortgage as unsecured debt. Once it’s classified as unsecured debt, it can be “stripped”, which means it may only be partially repaid or the owed balance can be removed entirely.
Lien Stripping Eligibility
Many homeowners ask if lien stripping a second mortgage is possible in Chapter 7 bankruptcy. Unfortunately, lien stripping is not permitted in Chapter 7. It is only available in Chapter 13 bankruptcy, and even then, you must meet strict requirements.
To qualify for Chapter 13 lien stripping, your second mortgage must be completely unsecured. That means your home must be worth less than what you owe on your first mortgage. Even if your home has just one dollar of equity beyond the first mortgage, the second mortgage cannot be stripped.
It’s also important to know that lien stripping does not happen right away. The second mortgage lien is not officially removed until you successfully complete your Chapter 13 repayment plan, which usually takes three to five years. In many cases, you may still have to make both your mortgage and second mortgage payments throughout that time.
While lien stripping can sound like a great solution, it comes with some negative consequences that are important to be aware of.
The Downsides of Chapter 13 Bankruptcy & Lien Stripping
While bankruptcy and lien stripping can seem like a great way to reduce your debt, they come with significant downsides.
Home Value Disputes
Stripping a second mortgage depends entirely on proving your second mortgage is wholly unsecured. Second mortgage lenders often take homeowners to court to dispute the home’s value. If the court decides your home is worth even slightly more than the first mortgage balance, the second mortgage is considered secured and cannot be stripped. And even if you win the case, the legal process is time-consuming and costly.
Bankruptcy Repercussions
To be eligible for lien stripping, you must file for Chapter 13 bankruptcy. A Chapter 13 bankruptcy filing stays on your credit report for up to seven years, making it harder to qualify for future mortgages, loans, or rental applications. If you are approved, you’re likely to face higher interest rates, which will increase your costs for years. Chapter 13 also puts you under court financial supervision, which restricts how you can use your money.
Foreclosure Risks
Chapter 13 bankruptcy may pause foreclosure through the automatic stay, but it doesn’t eliminate the risk of foreclosure. Lien stripping only affects a second mortgage, so if you miss payments on your primary mortgage, foreclosure can restart.
Even if you are on time with payments, lien stripping and bankruptcy don’t address other problems that could lead to wrongful foreclosure, like mortgage servicing errors or lenders violating your foreclosure rights.
Because of these concerns, filing for bankruptcy to strip a second mortgage is rarely the best option for homeowners trying to prevent foreclosure.
Finding the Best Option to Avoid Foreclosure
Bankruptcy carries serious downsides, and there’s no guarantee you’ll actually get the benefit of lien stripping. If it doesn’t work, you’re left dealing with the consequences of bankruptcy without any of the relief you were hoping for.
There are better alternatives to prevent bankruptcy, including loss mitigation, forbearance, and loan modification. An experienced foreclosure defense attorney can explain your options to help you protect your home. Schedule a free consultation to speak with a foreclosure attorney and learn how we can help you stop foreclosure.
