Even a simple Chapter 13 case has many powers unavailable under Chapter 7. So the extra time Chapter 13 takes can be highly worthwhile.
Consumers file a Chapter 13 case mostly because of significant advantages that it gives them over Chapter 7. Also, sometimes people file under Chapter 13 because they don’t qualify under Chapter 7.
In 2016, out of about 771,000 consumer bankruptcies, almost 294,000 were Chapter 13 cases. Administrative Office of the United States Courts. That’s about 38%, a significant part of all consumer cases.
Why are all these people choosing a procedure that usually takes three to five years to finish, instead of the three or four months to do a simple Chapter 7 “straight bankruptcy” case?
Your Powers under Chapter 13
People file under Chapter 13 because it enables them to do what Chapter 7 does not. In a simple Chapter 13 case, in the right circumstances you could:
catch up on your mortgage arrearage over as long as 5 years, while continuously being protected from foreclosure;
“strip” off a second or third mortgage from your home’s title;
do a “cramdown” on your vehicle loan, reducing your monthly payments AND the total amount paid for your vehicle;
pay off unpaid income taxes that can’t be discharged, in a flexible way based on your budget, while being protected from tax collection;
catch up on child and/or spousal support arrearages, while protected from aggressive collection tools of ex-spouses and support enforcement agencies; and
keep for yourself assets that you would lose under Chapter 7.
We cover the first two of these in today’s blog post, and the rest of them in the next one.
Catching up on a Mortgage
One of the biggest reason people file Chapter 13 is to save their home. And the most direct way it does this is to give them up to five years to catch up on mortgage payments.
Under Chapter 7 your mortgage lender could start or re-start a foreclosure right after your Chapter 7 case is over. That’s only about 3 months later. And if the lender wants to be pushy it can likely get permission to do this even sooner. If you want to keep the home you likely have to catch up very quickly. You’re completely at the mercy of your lender about the timetable for doing so. 1 year is often the maximum amount of time they give. If you have fallen behind by, say, $10,000, coming up with an extra $800 or $1,000 per month beyond your regular monthly mortgage payment is beyond most people’s ability.
In a Chapter 13 case, your catch-up payments are much lower because you have so much longer to catch up. Plus your lender can’t foreclose as long as you maintain the payments approved in your payment plan.
“Stripping” a Second/Third Mortgage
If your first mortgage balance is less than your home’s value, Chapter 13 gives you the power to “strip” your second mortgage off the title. That means that the second mortgage is treated as an unsecured debt. It’s not secured by your home since there is no equity backing it. And that means that you would no longer need to make the monthly payments. So this debt would only be paid to the extent, if any, that you would have extra money during your Chapter 13 case to pay it. Instead of having to pay it in full, with tons of interest, you’d often pay only pennies on the dollar.
This applies to third mortgages as well. The combination of the first and second mortgage balances just needs to exceed the value of your home.
When calculating in the future interest payments that you would no longer have to pay, this could save you tens of thousands of dollars. If your stripped mortgage is large, it could potentially save you a few hundred thousand dollars. In addition this mortgage stripping can bring a home that is hopelessly “under water” and bring its debt closer to its value. This makes the effort of holding onto the home much more economically sensible.
Neither of these first two Chapter 13 powers is available under Chapter 7. Clearly, either of these alone would make Chapter 13 worthwhile. If you need and qualify for both a Chapter 13 case could be incredibly beneficial.