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Tax Returns, the Affordable Care Act (Obamacare), and Bankruptcy

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We recently interviewed Christopher Holmes and Jess M. Smith, III, the senior partners at Tom Scott & Associates, P.C. Below is Part 3 of that interview, which focuses on filing your taxes in relation to when you file for bankruptcy, as well as how a subsidize premium for health insurance purchased through the Healthcare.gov website can affect your taxes.
Q: On another topic, what happens when someone who has filed for bankruptcy has not been filing their taxes on time every time?
JS: A hot issue is tax returns in Chapter 13 filed late.
CH: Pre-2005, if you filed bankruptcy first and you had a bunch of unfiled tax returns, you could turn them in after your bankruptcy and basically all of the taxes were going away except for the ones from the last three years. That gave great incentive for people to get right with the IRS after they’ve file for bankruptcy. Now, they’ve reversed the law to make it much more harsh on debtors. If you don’t file your taxes within two years of the bankruptcy the taxes due are never going away.
Here is a horror story example: A salesman in his late 50s, who lived in Noblesville in Hamilton County, came to us in 2009 with a bunch of letters and documents from his accountant. Based on his recollection and the documents, he thought his taxes from 2000 through 2005 had been filed in 2005. So we were getting ready to file his bankruptcy case in 2009, we made sure he paid his taxes for 2006, 2007, and 2008, which were the three years before his bankruptcy filing. We went through the bankruptcy and he paid those taxes, and then he eventually obtained his bankruptcy discharge.
About two months after his discharge, the IRS started coming after him saying that his returns from 2000 through 2005 weren’t filed until 2008. Because they were filed within two years of the bankruptcy, they were had not been discharged. He swore those returns had been filed and said, “I know my accountant mailed these in.” he gave me power of attorney and I got on the phone with the IRS in Sacramento. Unfortunately for the client, the IRS had scanned the envelopes, with the postmarks, of all of those returns, so they had image files that showed that for some reason the returns had not been mailed in until 2008.
So, he had misrepresented to me the status of those returns when we filed his case in 2009, so as soon as he was out of his bankruptcy when we paid his 2006 through 2008 taxes, we now had to file another bankruptcy to deal with these old taxes, because the IRS was starting to levy his pension.
CH: His old taxes would have been discharged because they were more than three years old, except for the fact that those taxes were filed within two years of the day of the filing of the bankruptcy case, so you don’t get the benefit of that so-called three-year rule, which meant the taxes didn’t go away as they would have back in the good old days before 2005.
JS: Looking back, he had to file his case in 2009, because he had another creditor pursuing him in court, so he didn’t have the luxury of waiting two years and a day to file for bankruptcy. That’s important for people to understand now, if you have not filed your taxes and you want to get resolution on them. Usually, the recommendation is to get them done sooner rather than later to have any hope of discharging them in a bankruptcy.
CH: The moral of the story is to file your taxes every year to avoid that sort of problem.
JS: Another issue that is moving to the forefront of bankruptcy cases – and I don’t know yet how we’re going to resolve it because it is such a new issue – is that people have been signing up for personal health insurance under the recently legislated Affordable Care Act – otherwise known as Obamacare – and then it is turning out that their annual income is too high, so when they file their taxes they no longer qualify for the subsidized premiums they received. they are then getting nailed by the IRS with huge liabilities. I have client coming in tomorrow who owes over $3000 on his 2014 taxes.
CH: So he had a subsidy that was bigger that it should have been because it was based on his current income?
JS: Correct.
CH: So they projected his income as less than what it proved to be, so he received a bigger subsidy than he would otherwise.
JS:  I don’t yet know all of the details, but instead of receiving the refund his accountant projected, the IRS said, “No, you owe us a little over $3000.” What I currently know is that it has something to do with Form 8962 Insurance Premium Tax Credit, referred to as the PTC form. Moving forward, that is probably going to be a common issue that triggers tax liabilities the people don’t anticipate.
CH: Because the subsidy is based on an income means tests.
JS: I don’t know for sure yet, but apparently he sought out a subsidize premium when he applied through the Healthcare.gov website in 2013 for healthcare insurance coverage for 2014. When tax time came in 2015 to recapture, he got nailed. We’ll have to wait and see how this situation gets resolved, but it is an issue that will likely come up more frequently in years to come.

Parts 1 and 2 of This Interview

Part 1: Divorce and Bankruptcy
Part 2: An Experienced Bankruptcy Attorney Can Help You Keep Your Personal Property

Stripping Off Wholly Unsecured Mortgages: Chapter 13 and Why to File – Overview of Bankruptcy, Part 7

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Series: #12 0f 13
Our last post took a brief look at how to protect a co-debtor in a Chapter 13 bankruptcy. This article will discuss stripping off wholly unsecured mortgages.

Stripping: A Tool to Modify Unsecured Mortgages

One of the most valuable options to a debtor in a Chapter 13 case is the opportunity to modify a wholly undersecured second or other junior mortgage pursuant to 11 USC § 1322 – Contents of plan*(b)(2) which allows a Chapter 13 plan to modify the rights of holders of secured claims, other than a claim secured only by a security interest in real property that is the debtor’s principal residence, or holders of unsecured claims, or leave unaffected the rights of holders of any class of claims (emphasis added).
In conjunction with 11 USC § 506 – Determination of secured status*(a), a second or other junior mortgage can be avoided in its entirety, be given a value of zero and treated as an unsecured claim. See In Re Goda, Case No. 99-80983 (January 10, 2000), In Re Twyman, Case No. 00-4437-FJO-13 (July 31, 2000), In Re Gyger, Case No. 00-14683-AJM-13 (May 2, 2001) In Re Bailey, Case No. 02-01074-AJM-13.
In order to avoid a second or other junior mortgage, it cannot be supported by any equity whatsoever. The decision rendered by the Court in Kelly vs. Countrywide Home Loans, Inc., Case No. 01-14607, Adv. Pro. 01-572 (June 17, 2002), however, reaffirms earlier decisions that completely unsecured mortgages may not be stripped in chapter 7 cases.
In order to attempt to strip the wholly unsecured junior mortgage, the debtor must know the exact date of filing payoff balance on the first mortgage (including any arrears) as well as at least one walk through appraisal from an expert willing to travel to testify as an expert if there lien strip draws an objection. The lien strip language must be included the plan filed with the court (located in Paragraph 11 of the model plan used in the Indianapolis Division) and the attorney needs to file either a separate motion to strip the second mortgage (if you believe the issue deals with valuation only) or an adversary proceeding (if you believe the issue is to determine the validity, priority or extent of a lien).
An adversary proceeding is likely the best course to choose; however, attorneys in the Indianapolis Division have a general belief that they are not arguing the validity of the debt (conceding that it is a valid debt), but are instead only arguing about the fair market value of the real estate which can be determine without an adversary proceeding.
In order to protect the debtor from potential problems with future transfers of the real estate, the attorney should be vigilant in obtaining proper service, should always make sure that an order avoiding a second mortgage contains the full and exact legal description, and that the order is properly recorded. The debt is not officially discharged until the Chapter 13 plan has been discharged.
Accordingly, large notes should be made on the file that the case cannot be converted to Chapter 7; otherwise the second mortgage is no longer avoided.
Next: Discharging Property Settlements in Divorce or Separation

* Source: Cornell University Law School Legal Information Institute

Curing a Mortgage: Overview of Bankruptcy – Chapter 13 and Why to File, Part 2

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Series: #7 0f 13
Previously, we took a look at reasons why a debtor might be disqualified from filing Chapter 7, and have to file for bankruptcy under Chapter 13. Now, we will begin to discuss reason why a debtor would want to file a Chapter 13 instead of Chapter 7, the first being curing a mortgage.

What does Curing a Mortgage Mean? How does it Affect My Bankruptcy?

Put simply, a mortgage is cured by paying all outstanding payments currently in arrears, along with any fines, late fees, attorney’s fees, and any penalties that may be due and owing.
Mortgage creditors are afforded special protection in Chapter 13; a debt secured by a principal residence of the debtor cannot be modified through the filing of a bankruptcy. See 11 U.S.C. §1322*(b)(5) and Nobleman v. American Savings Bank, 113 S. Ct. 2106 (1993)*, holding that home mortgages secured only by the debtor’s personal residences cannot be modified to discharge any unsecured portion of the claim.
With the few exceptions discussed below, a Chapter 13 is useful for curing mortgage arrears, as it provides up to five years to accomplish the cure.
In Indiana, a sheriffs’ sale is not final until the gavel falls, and many Chapter 13’s are filed on the eve of the sale to save the family home.
When curing a mortgage in a plan, the cure runs through the month that the petition is filed and the current mortgage payments begin the following month.
When setting up a mortgage cure in a plan, it is important to estimate the amount of the arrears as closely as you can. Note that pursuant to Southern District of Indiana General Order 09-0005, for all cases filed on or after August 1, 2009, if there is a pre-petition arrearage claim on a mortgage secured by the debtor’s residential real property, then both pre-petition arrears and post-petition mortgage installments shall be made through the trustee.
Keep in mind then that the mortgage installment is also subject to the trustee percentage fee (currently anywhere from 6.5-10% in the Indianapolis division).

Exceptions to Curing a Mortgage

  1. Balloon mortgages.
    Plans can also propose to “cure” a balloon payment. If the balloon payment became due before the Chapter 13 was filed, and can be paid in full over the life of the plan, several cases hold that this is a proper use of a Chapter 13. See In re Nepil, 206 B.R. 72 (Bankr. D.N.J. 1997) and In re Chang, 185 B.R. 50 (Bankr. N.D. Ill. 1995), interpreting §1322(c)(2) to allow the payment of a balloon mortgage that matured pre-petition.
    It is not as clear whether an unmatured balloon payment (unmatured at the date of filing) can be cured in a Chapter 13 plan. Arguably, if the balloon payment becomes due during life of the plan, it is proper to provide for the full payment in the plan. Again, it is important to provide both the amount of the balloon and the interest factor.
  2. Cramming a mortgage – cross-collateralization.
    In some limited instances, case law has provided circumstances in which a residential mortgage can be crammed.First, if the mortgage is cross-collateralized with any other collateral, it loses the protection afforded under the Code. §1322(b)(2) provides that secured claim holders may be modified “other than a claim secured only by a security interest in real property that is the debtor’s principal residence.”
    Case law has interpreted that to mean if the real estate is income-producing (rental income), if the mortgage includes the residence and commercial property, or if the mortgage includes the residence and equipment, other acreage or anything other than the personal residence, the mortgage can be “crammed” to the fair market value.
    If you have a mortgage that you wish to cram, valuation becomes the primary issue, and value agreements become more difficult to orchestrate. If you are attempting a mortgage cram, it would be in your best interests to have a recent appraisal of the property available to the creditor to substantiate your offer.
    Also, remember that you need to deduct the value of the other pledged collateral, and the other pledged collateral must also be provided for in the plan – either with a payment offer or to surrender.
  3. Cramming an undersecured junior mortgage.
    Additionally, there have been some decisions that allow the debtor to cram a junior mortgage if there is absolutely no equity to support the note. For more about this issue, see:

    1. Matter of Sanders, 202 B.R. 986 (Bankr. D. Neb. 1996), holding that the “creditor must have a secured claim in both the literal and Code sense to have its rights protected by the anti-modification clause.”
    2. In re Geyer, 203 B.R. 726 (Bankr. S.D. Cal. 1996), “where the estate’s interest in property is zero, the claim under §506(a) is completely unsecured and thus not entitled to §1322(b)(2) protection.”

    In determining the amount of equity available to support a mortgage, you may not deduct any exemptions to which the debtor may be entitled. Again, an appraisal is vital in attempting this type of cram.

  4. Tax Sale Redemption.
    A Chapter 13 plan may be proposed to allow for the redemption of a property from a tax sale.In Indiana, a debtor has one year from the date of the tax sale to redeem the subject real estate.
    The trustee is often reluctant to take on the responsibility of redeeming tax sale properties due to the changing redemption amount and deadline for making the redemption. As a result, the trustee will usually require the redemption to be accomplished outside the plan by the debtor prior to the payment of any mortgage arrears by the Trustee.
    Another possibility is that the mortgage creditor may redeem the property, and then include the redemption amount in their arrears claim. This is probably the best method because the mortgage company is assured that the property has been redeemed, and they are often in a position to redeem it much more quickly than is the debtor.

Next: Cramming

* Source: Cornell University Law School Legal Information Institute

The Brunner Test Determines If Student Loans Can Be Discharged Via Bankruptcy Based Upon Undue Hardship

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We received the following question from a visitor to our website:

My husband and I have an insurmountable amount of student loan debt ($330,00 in private student loans, and roughly $250,000 in Federal), many of which are delinquent or in default because we have simply not been able to keep up with payments. I think we would pass the Brunner test, and I am fairly sure at least some of it is dischargable because they don’t qualify under 523(a)(8) of the bankruptcy law since there is no way we could possibly have incurred so much debt under the auspices of “qualified educational expenses”. In addition, we have some medical bills in collections (roughly $8000). Our student loan problem is not one that will be rectified with reduced payments because pretty much anything above and beyond our current living expenses is more than we can afford. So I feel like our only option is to see if we can discharge them. Or perhaps you can offer an alternative solution… I’d like to discuss my options.

Our response to this inquiry is:
The Brunner test (which determines whether student loans can be discharged based upon “undue hardship”) was actually decided in the Second Circuit (Brunner v. New York Higher Educational Services Corp., 831 F.2d 395 (2nd Cir. 1987)). However, you are correct that the Seventh Circuit adopted the Brunner test in 1993 in In Re Roberson, 999 F.2d 1132 (7th Cir. 1993). The Brunner/Roberson test has three requirements to prove the undifined term “undue hardship.” These requirements are:

  1. The debtors cannot maintain a “minimal standard of living” based upon current income and expenses if forced to repay the loans;
  2. That additional circumstances exist indicating that this state of affairs is likely to persist for a significant portion of the repayment period of the student loan; and
  3. That the debtors have made a good faith effort to repay the loans.

Thus simply having a significantly large balance of debt will not necessarily meet any of the three requirements of the Brunner test. One case that has recently found success was the case Krieger v. Educational Credit Management Corp., 713 F.3d 882 (7th Cir. 2013). In that case a debtor had obtained student loans in 1999 while she was already in her 40’s and eventually received a B.A. in legal studies. For ten years she sent out over 200 applications for employment but was not successful in obtaining employment. She filed for bankruptcy when she was 53 years old, had not had a job since 1986, had never earned more than $12,000 and was living with her 75 year old mother. She had no automobile and no source of internet so there was little chance that she would be able to find any employment as she lived in a remote area of Illinois. Her student loans had increased from $17,000 to $25,000 even though she had been making some payments for 10 years. Even though the bankruptcy court determined there was undue hardship, the case was appealed to the district court. The district court reversed the bankruptcy court finding that the debtor had not looked hard enough for a job and had not shown good faith because she had not signed up for an offered 25-year payback which would allow the loans to be repaid by the time she was 78 years old. The Seventh Circuit remanded the case back to the bankruptcy court and stated that undue hardship is a case-specific, fact-dominated standard.
Any attempt to discharge student loans in a bankruptcy proceeding is going to require specific facts that would relate to your past, current, and future income potentials; that there is no situations that would allow you to repay the debts in the future, and that you are making every effort that you can to try and repay the debt. I would suggest that you first contact both the student loan companies themselves to start a paper trail of efforts that are being made to work put an acceptable repayment plan. You should also contact the Willim D. Ford Direct Loan Program and attempt to consolidate the loan through an Income Contingent Repayment Program (ICRP). You would need to show the bankruptcy court that you set up an ICRP and that the maximum amount that you could afford to pay under this program would not significantly impact the account balance.
I hope that this information has been helpful. Prior to any bankruptcy filing, you need to make sure that the facts are clear that there is no possible way to repay the debt after making every good faith effort to pay such as allowing the student loan companies or other organizations to create more favorable repayment plans.

Liquidating Tax Debt / Protecting Co-Debtors: Basics of Bankruptcy – Chapter 13 vs. Chapter 7 – Part 4

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The previous installment of our series “Basics of Bankruptcy” discussed some of the reasons to file a Chapter 13 bankruptcy vs. Chapter 7 as they relate to cars and other personal collateral. This last installment looks at reasons why Chapter 13 might be the better choice for personal bankruptcy than Chapter 7 when it comes to liquidating tax debt and protecting co-debtors.

Liquidating Tax Debts

Summary: Chapter 13 is an effective tool for liquidating large tax and other obligations, as it can provide the debtor with more time than a non-bankruptcy setting would allow.
A chapter 13 is a very effective tool for liquidating large tax and other priority obligations, as it sometimes provides the debtor with more time than a non-bankruptcy setting would allow.

  • Generally, we see large income and trust fund taxes paid through the plan, and in the last few years, child support cures have become more common.
  • Also, if the debtor is self-employed, part of the confirmation order may include the requirement that the debtor make regular ongoing monthly estimated tax payments to the IRS.
  • If this becomes part of a confirmation order and is later breached, the IRS can move for dismissal for breach of the order.

a) Secured tax claims: A tax liability is secured to the extent that the debtor has equity in property if the taxing agency has filed a lien in the debtor’s county of residence.

  • One should always verify that the lien was recorded in the correct county.
  • In determining the amount of the secured claim, the equity that the debtor lists in schedules A and B is totaled.

Special note: the IRS asserts that their claims are also secured to the extent that the debtor has any interest in a retirement fund or a 401k, even though this is an asset that is generally excluded from, or exempted out of the bankruptcy estate. See In re Wesche, 193 B.R. 76 (Bankr. M.D. Fla. 1996) stating that federal tax lien attaches to all interests in pension, not just current benefits.
This is very important because if the debtor has a retirement fund, the IRS secured claim that may have appeared to be minimal based on the equity in personal property can become unmanageable, even in a 13. To the extent that the secured claim extends beyond the equity available to support it, the balance will fall to priority or general under the §507(a)(8)* analysis. Also remember, that the equity is applied to oldest liabilities first.
Secured real estate taxes are paid through the plan. Generally only the pre-petition amount due is paid, but if the next semi-annual installment is due shortly, and the taxing agency agrees, that post-petition obligation may also be included. Real estate taxes are paid with interest of 8%.
b) Priority tax claims: Again, taxes are prioritized in §507(a)(8), but briefly they include income taxes due within the prior three years, trust fund taxes and some personal property taxes. One thing to be aware of in determining the priority afforded personal income tax liabilities is the term of art “tolling”, which has now been codified at the end of §507(a)(8).
Tolling is a rule that provides that any time spent in a prior bankruptcy (any chapter) or when the government unit was prohibited from collecting a tax under applicable non-bankruptcy law will extend the reach back period for pulling tax years into priority status; an additional 90 days is added to time period.
Tolling applies only to pre-petition debt, but you need to be aware of any previous bankruptcies, as it can be a rude surprise to find that taxes due in 2003 retain their priority status in a 2009 filing.
As an example: The debtor previously filed a chapter 13 bankruptcy in April, 2004. In this bankruptcy, 2002 taxes (due April 15, 2003) are priority under §507(a)(8)(A)(i) due three years before the date of the filing of the petition.

  • If the 2004 bankruptcy was dismissed in April 2007 (the debtor was in the bankruptcy for 36 months). So, taxes originally due April 15, 2003 would retain priority status for three years, plus three years that the debtor was in the bankruptcy plus an additional 90 days.
  • Starting from the due date of April 15, 2003 the 2002 tax year retains priority status until July 16, 2009! So, a bankruptcy filed anytime before July 16, 2009 will pull the 2002 debt into priority status.
  • Furthermore, if the debtor asked for an extension until October 15, 2003, theses tax debts would be a priority claim until January 16, 2010. These facts may be confusing, but remain extremely important.
  • Other priority taxes that must be fully paid inside the plan include trust fund taxes (that portion that the employer withheld but did not remit to the taxing agency), and personal property taxes due within one year prior to the current bankruptcy filing.

A word about trust fund taxes — they are attributable to the responsible party of the employer. This determination is made by the IRS.
c) General unsecured taxes: ”Stale taxes”, those that are older than three years, and the penalty portion of priority taxes are general unsecured liabilities and are paid with the pro rata distribution afforded to other general creditors.

Protecting a Co-debtor

11 U.S.C. Section 1301* is otherwise known as the “co-debtor stay”, and prevents a creditor from pursuing a co-debtor on a consumer debt. In order to prevent the creditor from seeking relief from stay, the Debtor must propose in his or her Chapter 13 plan to pay the co-signed debt in full. There is no equivalent provision in Chapter 11 or Chapter 7.

* Source: Cornell University Law School Legal Information Institute (opens in new windows)

Cars and Other Collateral: Basics of Bankruptcy – Chapter 13 vs. Chapter 7 – Part 3

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In the previous installment of our series “Basics of Bankruptcy,” we discussed some of the reasons to file a Chapter 13 bankruptcy rather than Chapter 7 as they relate to mortgages.
This post looks at reasons why Chapter 13 might be the better choice for personal bankruptcy than Chapter 7 in relationship to cars and other personal collateral.

Cramming a Car

Summary: Provisions exist that can exclude any vehicle acquired for personal use or any other personal property purchased within 910 days of filing.
The ability to cram a recently purchased vehicle (or other personal property) has been limited by the BAPCPA (Bankruptcy Abuse Prevention and Consumer Protection Act) amendments (11 U.S.C. §§ 526–528 (2006)1), referred to as the 910-Rule). The unnumbered (hanging) paragraph at the end of §1325(a)1 excludes any vehicle acquired for personal use or any other personal property purchased within 910 days of filing from the application of §506.
In short, this means that if the personal automobile was purchased within 910 days of the filing date, the claim may not be bifurcated and the entire payoff balance shall be the secured value. However, because Section 1325(a)(5) gives debtors three options for confirmation of secured claims (creditor’s acceptance of the plan, satisfaction of enumerated terms, or surrender of the collateral), arguably, if the plan provides for the payment of only the fair market value for a 910 claim, and the creditor fails to object, upon confirmation the creditor is deemed to have accepted the plan and is bound by the terms of the plan.
In the past when cramming a car in a plan, it was advisable to include language that required that the title be released upon payment of the value offer. However, pursuant to the revised §1325(a)(d)(B), a secured creditor may object and the plan can not be confirmed unless the secured claim holder retains their lien until the debt is paid in full or the case is discharged.
However, because paragraph (5) gives three options (acceptance, satisfaction of enumerated terms, or surrender), arguably, if the plan specifies that title will be released upon payment of the secured portion of the claim, and the creditor fails to object, upon confirmation the creditor is deemed to have accepted the plan and is bound by the terms of the plan.
If a value agreement cannot be reached at the §341 meeting, the matter will be set over for a hearing before the Court. The Courts have generally favored concrete evidence of the value, but have recently indicated a willingness to look at “book” values, preferring the NADA guide.

Cramming other personal property

Summary: In an attempt to keep personal property, debtors may, within one year of filing, offer the fair market value on virtually any piece of personal property, including furniture, appliances and boats.
Subject to the same hanging paragraph limitation addressed above, debtors may offer the fair market value on virtually any piece of personal property, including furniture, appliances and boats. For any other collateral acquired for the personal use of the debtor, however, the time limitation is lowered from 910 days to one year.

  • If no objections are received, the trustee will pay the value offer with interest, and will treat the remaining balance of the claim as unsecured.
  • Interest should be offered as §1325(a)(5) requires that the creditor must receive “present value” of the collateral.
  • However, it would seem that if interest were not offered and the creditor failed to object, the value could be paid at a flat rate (no interest).

Use caution when “cramming” the debtor’s personal property in a plan however, as the “Best Efforts” test will have some bearing. That is, if the debtors are attempting to retain collateral that is not “reasonable and necessary” as contemplated by §1325(b), the trustee may raise an objection to the utilization of estate funds to retain an unnecessary item. This objection may be resolved by either a surrender of the collateral in question, or by a modification of the plan that will increase the amount offered to general creditors by the amount of funds necessary to retain the property.
Some items that may merit a trustee’s best efforts objection include additional or luxury cars, a big screen TV, a boat, or a baby grand piano.

Lowering Interest Rates on Cars (and other collateral)

Summary: Plans can be set up to lower interest rates on collateral to the “Till rate,” which is determined by the national prime rate plus a risk factor.
Regardless of whether the collateral is eligible to be crammed or not, the plan may lower the interest rate to the Till rate. In re Till, 541 U.S. 465, 124 S.Ct. 1951, 158 L.Ed.2d 787 (2004)2 is still assumed to be the appropriate standard for establishing the interest rate to be offered on secured claims.
Till, using the formula approach, established that the interest rate should be the national prime rate plus a risk factor (between 1 and 3%) depending on the circumstances of the particular debtor. A recent decision out of the Southern District of Illinois by Judge Coachys of the Indianapolis Division, In re Rushing (05-37004), applied Till to both cram downs and 910 vehicles. Other judges have since followed suit.
The last article in this series will take an in-depth look at liquidating tax debt, as well as discuss how to protect co-debtors.

Sources:
(links open in new windows)
1. Cornell University Law School Legal Information Institute
2. Bulk.Resources.org

Mortgages: Basics of Bankruptcy – Chapter 13 vs. Chapter 7 – Part 2

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In the previous installment of our “Basics of Bankruptcy” series, we discussed some of the reasons to file a Chapter 13 bankruptcy vs. Chapter 7 based on income and assets.
This post looks at reasons, specifically in relationship to mortgages, why Chapter 13 might be the better personal bankruptcy choice for you (the debtor) than Chapter 7.

Curing a mortgage

Summary: Since a debt secured by the debtor’s home (principal residence) cannot be modified, Chapter 13 can give the debtor time to catch up on (cure) mortgage payments, as it provides the debtor three to five years to accomplish the “cure.”
Mortgage creditors are afforded special protection in Chapter 13; a debt secured by a principal residence of the debtor cannot be modified through the filing of a bankruptcy. See 11 U.S.C. §1322(b)(5)1 and Nobleman v. American Savings Bank, 113 S. Ct. 2106 (1993)2, holding that home mortgages secured only by the debtor’s personal residences cannot be modified to discharge any unsecured portion of the claim. With the few exceptions discussed below, a Chapter 13 is useful for curing mortgage arrears, as it provides the debtor three to five years to accomplish the cure.
In Indiana, a sheriffs’ sale is not final until the gavel falls, and many Chapter 13’s are filed on the eve of the sale to save the family home. When curing a mortgage in a plan, the cure runs through the month that the petition is filed and the current mortgage payments begin the following month. When setting up a mortgage cure in a plan, it is important to estimate the amount of the arrears as closely as you can. Beginning on August 1, 2009, the Chapter 13 trustees have become “residential mortgage conduit trusteeships” meaning that all delinquent residential mortgages will be paid through the Chapter 13 trustee (plus statutory fees).

Cramming a mortgage – cross-collateralization

Summary: “Cram” is a word of art in bankruptcy practice. It literally means reducing a secured debt to the fair market value of the subject collateral. It is most often used with regard to automobiles, but it may also be used for household goods or even mobile homes. When cramming in a plan, the debtor offers the fair market value of the collateral with interest; the balance of the debt is treated as an unsecured claim.
In some limited instances, case law has provided circumstances in which a residential mortgage can be crammed. Mortgage cramming is the popular term for court-ordered loan adjustments on investment properties, in which a court order “crams” down the principal of the mortgage to the fair market value of the property. Mortgage cramming is only available as an option in certain situations, and can’t be used by homeowners though courts can order other adjustments to home mortgages if needed.
First, if the mortgage is cross-collateralized with any other collateral, it loses the protection afforded under the Code. §1322(b)(2) provides that secured claim holders may be modified “other than a claim secured only by a security interest in real property that is the debtor’s principal residence” (emphasis added).
Case law has interpreted that to mean if the real estate is income-producing (rental income), if the mortgage includes the residence and commercial property, or if the mortgage includes the residence and equipment, other acreage or anything other than the personal residence, the mortgage can be “crammed” to the fair market value.

  • If you have a mortgage that you wish to cram, valuation becomes the primary issue, and value agreements become more difficult to orchestrate.
  • If you are attempting a mortgage cram, it would be in your best interests to have a recent appraisal of the property available to the creditor to substantiate your offer.
  • Also, remember that you need to deduct the value of the other pledged collateral, and the other pledged collateral must also be provided for in the plan – either with a payment offer or to surrender.

“Stripping” a wholly unsecured junior mortgage

Summary: Some court decisions have allowed the debtor to strip off a junior mortgage if there is absolutely no equity to support the note.
Additionally, there have been some decisions that allow the debtor to strip off a junior mortgage if there is absolutely no equity to support the note. See Matter of Sanders, 202 B.R. 986 (Bankr. D. Neb. 1996), holding that the “creditor must have a secured claim in both the literal and Code sense to have its rights protected by the anti-modification clause,” and In re Geyer, 203 B.R. 726 (Bankr. S.D. Cal. 1996)4, “where the estate’s interest in property is zero, the claim under §506(a)1 is completely unsecured and thus not entitled to §1322(b)(2) protection.” In determining the amount of equity available to support a mortgage, you may not deduct any exemptions to which the debtor may be entitled. Again, an appraisal is vital in attempting this type of cram as the lien holder may object to this severe treatment.
Our next installment of this series will take a look at how cars and other personal collateral can be protected in a Chapter 13 bankruptcy.

Sources:
(links open in new windows)
1. Cornell University Law School Legal Information Institute
2. United States Bankruptcy Court, Northern District of Ohio
3. United States Bankruptcy Court for District of Nebraska
4. United States Bankruptcy Court, Southern District of California