Mortgage Modification? Try filing bankruptcy…

Many people wanting or needing a mortgage modification are drowning in debt. Indeed, it may well be that in a fruitless effort to stay caught up on credit card debt that they let their mortgage payments slide… which is exactly the wrong thing to do.  Surprisingly, a bankruptcy filing may be the best avenue to getting the relief that overburdened borrowers may need.

To begin the process of saving a home through mortgage modification, you need to shed excess debt so that you can free up more income for paying housing costs. And since your ability to pay is a major factor in whether you get a mortgage modification or other relief, anything which reduces other expenses is quite helpful.

For some people, a Chapter 13 Plan in which they cure their mortgage arrears over 3 to 5 years, often without interest, is the best course of action. Many other tools can be used in Chapter 13, including possibly removing second or third mortgages (see other posts by me in this blog)

Even better, in New Jersey, (and in a few other places) the court has implemented a “Loss Mitigation” program which allows people filing bankruptcy to request mortgage modification or other forms of relief (such as a deed in lieu of foreclosure or short sale). Doing this has several big advantages. First, the process is under court supervision. Second and just as important, debtors have use of the DMM Loss Mitigation Portal. This is a specialized website that collects and makes available to borrowers and lenders (and in this case the court) any documents which have been uploaded in a particular case. As a result, no lender can claim they did not get the documents you filed, since they are always available right on the web portal, along with a record of when they were filed and by whom. This eliminates a big problems (and a big source of frustration for borrowers). Third, lenders have to designate a single point of contact on the lender side–a person who is responsible and answerable for the lender. Finally, the court monitors the process and sets deadlines by which things either happen or they do not. No more dragging things on interminably!

Some of these ideas are being adopted outside of bankruptcy. But in our view, when courts get involved, if anything good is going to happen it is more likely.

Cram down or strip off– a way to surface after being underwater

Many people have homes that are “underwater”, ie the mortgage balances are more than the home is worth. Under certain circumstances, in a Chapter 13 bankruptcy, relief is available through a “cram-down” or a “strip-off”. A cram-down is where you get the Court to reduce the lien to the amount of equity available for it. For example if the first mortgage is $150,000.00 and the house is worth $160,000.00, there is only $10,000.00 in equity for the second mortgage. If the second mortgage is more than this, it can be crammed down to the $10,000.00, in Chapter 13.

There are, however, two big catches. First, you cannot do this if the second mortgage is secured only by your  residence. You have to have given some other collateral as well. This could happen where the second mortgage was given in support of a business loan also secured by the assets of a business.

Secondly, if you do the cram down, you have to pay off the reduced balance through your Chapter 13 plan. However, once you do that, you have only the first mortgage.

Cram down is usually not available for most homeowners. But a “strip-off” can be. A strip-off is where there is ZERO equity for the second mortgage (ie the value of the house equals or exceeds the first mortgage). Many courts, including those in New Jersey, will allow this. The result is that the stripped off junior mortgage becomes an unsecured debt, treated the same as credit cards or other unsecured debt. And at the end of the plan, the second mortgage can be discharged.

Either way, the result is a court-ordered “mortgage modification” that can help beleaguered homeowners get back on track.

These are options that deserve careful consideration, and assistance of a qualified bankruptcy attorney. They also require careful consideration of your long term and short term financies and objectives.

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