Most people who have done even a small amount of research know that Chapter 7 and Chapter 13 bankruptcy will eliminate most debts, but there is at least one additional benefit that Chapter 13 provides that few people who come in for a consultation know about. Chapter 13 will allow you to remove your second (or third) mortgage, leaving you with only your first mortgage when you exit your Chapter 13 bankruptcy. Lawyers call this “lien stripping”.
This is how it works. First, we can only strip a second mortgage if your first mortgage exceeds the value of your home. So, if your home is worth $100,000 and you only owe $99,999 on your first mortgage, we can’t get rid of your second. Before we even file your petition, we’ll recommend you have an appraisal done so we can be sure of your home’s value. If you’ve refinanced recently, we can probably use that appraisal. After we file your petition, we’ll file a motion to determine secured status arguing that the second mortgage should be stripped because there is no value in your home for the second mortgage to secure. If we’ve done our homework, the court should approve the motion without a problem.
Once the court approves our motion to determine secured status, your second mortgage gets treated the same way the rest of your unsecured creditors do in Chapter 13. They get a portion of whatever you send to the bankruptcy trustee every month (which is based on your disposable income). You should be aware that the second mortgage will only be removed if you complete your Chapter 13 bankruptcy. If your Chapter 13 gets dismissed, your second mortgage lender will again have a secured interest in your home. If you default on that loan it could exercise its right to foreclose, just like before you filed.
You should also keep in mind that Chapter 7 does not allow you to lien strip. This is just one reason someone might choose to file a 7 instead of a 13. If you qualify for Chapter 7, it probably only makes sense to file a Chapter 13 to strip a second mortgage if that mortgage is substantial. You might not be able to strip your second in a 7, but you’ll be through the bankruptcy process much sooner (four to six month versus three to five years).
Chapter 13 bankruptcy may allow you to get rid of your second (or third) mortgage. Consider talking to a bankruptcy lawyer before you decide if it’s a good option for you. Most offer free consultations.