It’s not possible for debtors to cram down or reduce the principal amount of a primary mortgage in a New York bankruptcy case. This was an unfortunate route that Congress chose to take during the Great Recession. Although, debtors do have options for dealing with junior mortgages that are underwater, i.e. not secured by any equity after the senior mortgage is accounted for. Often, debtors discharge them in a chapter 7 case, which eliminates their personal liabilities on the debts, but this leaves the liens the creditors still have on their homes—along with substantial monthly payments. What options do debtors have for second mortgages that are underwater?
The answer is quite a few.
(1) Commit to a chapter 13 bankruptcy to strip the second lien from the home. I’ve discussed this option frequently. New York bankruptcy lawyers call this the “chapter 20” option, i.e. it’s a chapter 13 bankruptcy filed after a successful chapter 7 case, adding up to twenty. The advantage here is that after all their unsecured debts have been discharged, they shouldn’t have as much difficultly completing the repayment plan. On the other hand, it does require a three-to-five-year commitment.
(2) Negotiate with the lender to reduce the value of the lien. This might be a surprising option. Why would lenders be willing to negotiate when they can always foreclose? The answer is that in many cases it’s not worth their while to bother for a variety of reasons. Foreclosures cost them in legal fees, they don’t want the home, and they have to satisfy the senior mortgage creditor, which is also underwater, to purchase the home. In other words, the full amount of the second mortgage is not actually what you’re negotiating over. Often debtors can promise to pay as little as ten percent of the second mortgage in a lump sum to release the creditor’s lien on their homes. This can be a lot less than the amount they’d pay under a chapter 13 plan.
(3) Do nothing. This is an even more surprising option, and to the extent it is an option and available to debtors, it’s only because they don’t have the money to settle with their creditors. It’s likely to work only if the junior mortgage is so hopelessly underwater that the creditor won’t gain anything by foreclosing. The lien will remain until the debtors either settle or refinance the home.
(4) Refinance. Debtors can try to split the difference between doing nothing and negotiating for a lump-sum payoff if they can convince the junior creditor to refinance the home, reducing the total amount to be paid and consequently the monthly payments.
Of course, debtors can always choose to just sell the home, particularly if they’ve already discharged the second mortgage, but that leaves them with a deficiency for the first mortgage, which they aren’t going to be able to discharge for several years. As a result, consulting with an experienced New York bankruptcy lawyer before filing any bankruptcy is the best option for resolving an underwater junior mortgage.
For answers to more questions about bankruptcy, the automatic stay, effective strategies for dealing with foreclosure, and protecting your assets in bankruptcy please feel free to contact experienced Brooklyn bankruptcy attorney Bruce Weiner for a free initial consultation.