What’s required to void a mortgage?

When I was quoted on the front page of the Mercury News  about voiding home loans in bankruptcy,  I was inundated with inquires about how lien stripping in bankruptcy works.

So here goes:

1. A voluntary lien, like a deed of trust securing a second loan, line of credit, or HELOC, can be voided only in Chapter 13 or Chapter 11.
2. It can be stripped only if there is no equity in the property after deducting the payoff balances of the liens senior to the lien from the fair market value of the property.
3. The lien is permanently voided only upon the successful completion of the reorganization plan.

Thanks to lobbying by the mortgage lenders more than twenty years ago, bankruptcy courts are prohibited from compelling any changes to mortgages liens secured only by the debtor’s home.

So, the work-around, if you like, is a finding by the bankruptcy court that the junior lien isn’t really “secured” by any value in the home.  If there is a dollar’s worth of equity in the property, the lien must remain. A dollar out of the money, and the whole lien is gone.

As a result the help for homeowners that can be provided by a bankruptcy reorganization is limited to voiding totally unsecured liens and to eliminating other debts of the homeowners.

Neither can the bankruptcy court  require the senior lender to modify a mortgage or to defend its decision to reject a modification.

Legislation passed by the House of Representatives in 2009 would have overturned the prohibition on modifying home loans and allowed judges to reduce mortgage balances to the present value of the home and alter other terms of the loan if the borrower was willing to file bankruptcy and successfully made the plan payments. The Senate defeated the bill, so bankruptcy judges remain powerless to weigh in on the tug of war between the mortgage bankers and the homeowners.

As always, you need to determine whether you should keep the house. and what the viability of a modified mortgage is.

You’ve got choices for a house even after you file bankruptcy.

Stripping off judgment liens

Eliminating tax liens

Cancel by Nick Youngson CC BY-SA 3.0 Alpha Stock Images