Chapter 7 and Chapter 13–Surrendering Your Home
Oct. 14, 2015
If you are leaving your mortgage(s) behind, what are the advantages and disadvantages of doing so within the two main bankruptcy options?
Do You Need a Bankruptcy to Surrender the Home?
If you’re thinking about surrendering your home to your mortgage holder, most likely you are struggling to pay other debts besides the mortgage. You may have other voluntary obligations that are on the title of your home, such as a home equity line of creditor or some other kind of second mortgage. Or the home’s title may be burdened by debts which had resulted in involuntary liens such as income tax or construction liens. And you probably have debts that are unrelated to your home and do not attach to the home’s title.
However, you may have no debts, or at least no unmanageable ones, other than the home mortgage. Then you likely don’t need to file bankruptcy. Under many state’s laws you would not owe anything to the mortgage holder after surrendering the home, regardless of the amount of the mortgage debt compared to the value of the home. But that may depend on seemingly obscure factors such as what procedure the mortgage lender is using to foreclose (say, judicially or non-judicially—with a lawsuit or without). So it’s critical that you check with a local attorney whether you’ll owe anything on the mortgage.
If You Have a Second Mortgage
In many situations if you owe a second (as well as a third) mortgage, you would end up owing the full balance on that second (and third) mortgage, even if you owe nothing to the first mortgage holder after its foreclosure. That’s because usually the first mortgage holder’s foreclosure also wipes the “junior” mortgage(s) off the home’s title without paying anything on the debt(s), leaving you owing the entire balance.
In rare circumstances the junior mortgage holder bids in at the foreclosure sale and buys out the rights of the first mortgage holder. Then you may have a chance that the junior mortgage debt will be satisfied out of the proceeds of the sale of the home.
But you never know. The junior mortgage holder is taking a chance, so its debt may not be paid after all, or may only be paid in part, leaving you liable for the rest. And so you may need bankruptcy relief from that debt, and from the rest of your debts.
Other Liens on the Home
Almost all debts that are secured by liens on your home will still be debts that you are legally liable to pay after surrendering the home, and will not likely get paid by the mortgage lender or a purchasing bidder at the foreclosure sale.
The main exceptions are property taxes and sometimes homeowner association dues or assessments. That’s because the liens related to these debts often come ahead of even the first mortgage holder’s lien, and tend to attach to the property no matter what. So the first mortgage holder may well have to pay those special debts, often out of the proceeds of the sale of the home. That would leave you without any personal liability on those debts and with no reason to file bankruptcy as to those debts.
As to other debts secured by liens on the home, when the foreclosure sale happens these liens will likely be wiped out but the debts related to those liens will survive. They would be unsecured but valid debts against you nonetheless. You may well need to protect yourself from such debts with a bankruptcy.
Chapter 7 “Straight Bankruptcy”
Simply put, file a Chapter 7 case when the debts related to the surrendered house, as well as your other debts, can be “discharged” (written off) in bankruptcy.
For example, if you owe a bunch of medical bills and credit cards, some of which turned into lawsuits and then judgements against you, resulting in a couple judgment liens on the home, most likely a Chapter 7 case would result in the discharge of all those debts, and the fresh start that you need.
Chapter 13 “Adjustment of Debts”
Similarly, file a Chapter 13 case when enough of the debts—those related to the house and others—cannot be discharged in a Chapter 7 case and so you need the extra protections of Chapter 13.
For example, if you are behind on child support payments and income taxes, resulting in liens on your home, after a mortgage holder’s foreclosure of the home you would still owe those debts and have to pay them. Under Chapter 13 you are protected from those often-aggressive creditors while catching up on the child support and income taxes with flexible payments that fit within your budget, and that adjust around other important debts that you have to pay—such as your vehicle loan.