Yes, a bankruptcy can stop a foreclosure, but how it works can get a little complicated. The purpose of this article is to provide you all of the information and answer all of your questions in regards to bankruptcy and foreclosure. We will cover both Chapter 7 and Chapter 13 foreclosure scenarios.
Here’s the guide we will be using:
- What is a Foreclosure?
- Judicial vs. Non-Judicial Foreclosures
- Bankruptcy and Foreclosure
- Chapter 7 Bankruptcy and Foreclosure
- Chapter 13 Bankruptcy and Foreclosure
- Paying Mortgage Arrearage in a Bankruptcy Plan
- Chapter 13 and Homestead Exemptions
Many families face losing their homes each day because they are behind on their mortgage payments. A small financial crisis can cause you to miss a few mortgage payments. Once you are two or three payments behind on your mortgage, it may be impossible to catch up. Many mortgage companies demand full payment of the past due balance or they will foreclose on the mortgage. Let’s discuss bankruptcy and foreclosure in more detail and ways to stop foreclosure. Through this, you can determine if bankruptcy is the right choice for you. We also have an article on foreclosure alternatives to avoid bankruptcy.
3 Important questions to consider before jumping into bankruptcy and foreclosure
Most of this article will cover nuances related to bankruptcy and foreclosure to provide the information you need to make the most informed decision. You should consider these 3 important questions before we start, so you can understand your options and estimated payments for the options. The calculator below helps answer these questions.
- What is your estimated Chapter 13 plan payment? Is it affordable when comparing to current monthly obligations?
- Would you qualify for a Chapter 7 bankruptcy?
- What are your alternatives to a foreclosure bankruptcy?
What is a Foreclosure?
A foreclosure is the legal proceeding a bank or mortgage company uses to seize real estate if a borrower (the owner of the property) fails to pay mortgage payments. When you take out a loan to purchase your home, you sign a loan agreement and a mortgage. The loan agreement creates the debt that you owe to the lender. The mortgage is the legal document that places a lien on your home to secure the debt.
Each state has foreclosure laws that lenders must follow. In most cases, lenders are required to send a notice in writing to the homeowner. The notice states:
- The principal balance owed on the loan;
- The total past due mortgage payments (mortgage arrearage);
- The total of late fees and other costs owed to the lender; and,
- The deadline for catching up on the outstanding payments.
Understanding the Foreclosure Auction
A foreclosure action by the lender is a process of assuming ownership of the home or selling the home at a foreclosure auction to satisfy the debt. The terms of the loan agreement and the mortgage outlines how to repay the debt according to the terms of the promissory note. For example, if you fail to make the mortgage payments or default on any other terms of the loan, you acknowledge that the home will be used to repay the debt.
If you do not pay mortgage arrearage or the full balance owed on the account before the deadline, the lender may proceed with a foreclosure action. Most lenders do not begin a foreclosure action until several months after your first missed payment. The lender may call and write letters to get you to catch up on your mortgage payments.
However, at some point, the lender turns the account over to a foreclosure attorney to handle the foreclosure. It could take several months for the foreclosure attorney to begin the action. It depends on the attorney, the lender, and other factors that are not within your control.
What is Important to Consider About Foreclosures
The lender could technically begin the foreclosure process the day after your missed payment. Many people mistakingly assume that a lender must wait until the grace period for a missed payment expires, or that a lender must wait a certain number of days or months before beginning a foreclosure.
If you read your mortgage documents, you will note that you are in default the day after your payment is due. For payments due on the first of the month, you are in default on the second day of the month. You may have until the 15th to pay the payment without a late fee, but this is simply a grace period for the late fee. You are in default if you do not make the payment on or before the date it is due.
Therefore, you should never assume that a lender will not begin foreclosure proceedings the very next month. Generally, lenders do not start foreclosures that quickly because they want your money, not your home. However, they do have the legal right to start the foreclosure at any time after your first missed payment.
The Foreclosure Process: Judicial Foreclosure vs. Non-Judicial Foreclosures
There are two types of foreclosures.
In some states, the lender must file a foreclosure lawsuit (judicial foreclosure) to gain court permission to sell the home. You are served with the foreclosure lawsuit and have a specific number of days to respond to the lawsuit. If you do not respond to the lawsuit, the court enters a default judgment and orders your home to be sold at the next foreclosure sale.
A judicial foreclosure involves filing a summons and complaint with the court asking that the court order the home to be sold at a foreclosure auction. You must be served with a copy of the foreclosure complaint. In most states, you have 20 to 30 days to respond to the complaint.
The court schedules a hearing. At the hearing, the foreclosure attorney for the lender presents evidence of the debt to the court. In most cases, an employee of the mortgage company testifies that you have missed your mortgage payments and how much you owe.
You have the right to hire an attorney to defend the foreclosure action. Even if you are behind on your payments, if the lender broke the law, you could have a valid defense. You may want to talk to a lawyer before your time to respond to the complaint runs out to discuss your legal rights and your options.
At the hearing, you present evidence proving that you paid the mortgage payments. However, if you are behind on the mortgage payments or you did not respond to the complaint before the deadline set by the court, you may not have a valid defense to the foreclosure action.
If the court finds that your mortgage payments are past due and you have no legal defense, the judge will likely grant the foreclosure and schedule your home to be sold at the next foreclosure sale.
Some states allow for non-judicial foreclosures. These foreclosures are generally handled by the Clerk of Court’s Office or the Sheriff’s Office in the county where the property is located. The mortgage lender must send you a notice of default and give you a specific number of days to cure the default (catch up the missed payments). Generally, the lender must file and serve notice of the intent to foreclose the mortgage because of non-payment. The time frames and rules for non-judicial foreclosures vary by state.
If you fail to make up the missed payments, the property may be sold by the sheriff or the clerk of court at a designated time and place. In some states, the mortgage company may be permitted to list the home for sale after the default date passes without payment.
NOLO lists the foreclosure process for each state and provides additional information about the detailed process of foreclosing on a mortgage. However, this is not legal advice. If you are behind on your mortgage payments, please consult a foreclosure attorney in your area as soon as possible. The foreclosure process can move very quickly, so you could lose your home in a matter of months after missing your first payment.
How Long Does It Take for a Bank to Seize my Home?
Most lenders do not want your home. They want your mortgage payments. For that reason, many banks do not begin foreclosure proceedings until you are several months behind on your mortgage payments.
However, it is important to remember that a bank could begin legal action to seize your home as soon as the first payment is late. Therefore, it is up to the lender when it begins foreclosure proceedings. The amount of time it takes to complete the foreclosure depends on state foreclosure laws.
In most cases, a mortgage company calls you to ask about a past due payment. If you don’t respond to the phone calls, the mortgage company sends a letter. If you still don’t pay the past due mortgage payments, the lender may send increasingly threatening letters. At some point, an attorney may send a letter stating that this is your last notice to pay the mortgage arrears (past due mortgage payments), or the lender will begin foreclosure proceedings.
Once you retain a foreclosure attorney, you may owe additional fees to catch up on the mortgage payments. If you file a foreclosure action, you will have to pay all associated costs to stop your home from being sold at a foreclosure auction. Typical costs include attorneys’ fees, appraisal fees, and costs of the foreclosure lawsuit.
Bankruptcy and Foreclosure
When you file for bankruptcy relief, the mortgage lender cannot proceed with a foreclosure action without approval from the bankruptcy court. The Automatic Stay provisions of the Bankruptcy Code protect you from creditor actions. The intent of the automatic stay is to give you time to either reorganize your debts in Chapter 13 or obtain debt relief through Chapter 7.
What happens to your home after you file for bankruptcy depends on several factors. The overriding factor that determines what happens is the chapter of bankruptcy you choose to file. Let’s dig into the Chapter 7 foreclosure and the Chapter 13 foreclosure guides.
Chapter 7 Foreclosure
Filing a Chapter 7 bankruptcy case stops foreclosure. However, Chapter 7 is not a repayment plan. Most Chapter 7 cases are no-asset cases, meaning that the Chapter 7 trustee does not seize any of the person’s property. In such circumstances, the Chapter 7 case is completed in four to six months after it is filed.
To understand what happens to the foreclosure in Chapter 7, it helps to understand a little bit about Chapter 7 cases.
The Role of the Chapter 7 Trustee
A Chapter 7 trustee is in charge of the bankruptcy estate. The bankruptcy estate consists of all your assets at the time you file for Chapter 7 relief. The Chapter 7 trustee reviews your assets to determine if any of the items can be sold to repay your unsecured creditors.
Unsecured creditors do not hold collateral on property. They include medical debts, credit cards, personal loans, and student loans. Back taxes that are not secured by a tax lien and unpaid alimony or child support are also unsecured debts. Secured debts are loans that have collateral, such as your mortgage and car loan.
The trustee must determine if there is sufficient net equity in any property that can be used to repay unsecured creditors. The formula for calculating net equity is:
In most cases, there is little to no equity remaining after deducting the required amounts. Most Chapter 7 cases are no-asset cases. In a no-asset case, the Chapter 7 trustee abandons all assets because there would be no money to pay unsecured creditors after liquidating the property. As a result, the debtor keeps all of his or her property in a no-asset Chapter 7 case.
Mortgages in Chapter 7 Cases
A Chapter 7 trustee could sell your home if there is sufficient net equity to repay some of the unsecured debts that you owe. However, the Chapter 7 trustee must pay off the mortgage loan and pay your allowed bankruptcy exemption before deducting the trustee’s fees or costs.
Bankruptcy exemptions protect specific amounts of equity in property from being used to repay unsecured creditors. Some states require debtors to use state bankruptcy exemptions. Other states allow debtors to choose between the federal bankruptcy exemptions and state bankruptcy exemptions. Each state can set its own bankruptcy exemptions, so the amounts vary.
We have a blog that explains the homestead exemption in great detail here, but we will briefly review it in this guide to discuss foreclosures in Chapter 7. We will assume that you are required to use the federal homestead exemption for our example.
If you file Chapter 7 with a pending foreclosure, the Chapter 7 trustee analyzes the net equity in the home using the above formula. Let’s assume your home is worth $200,000 and you owe $100,000.
The trustee may determine that a quick sale price (discounted price because of the foreclosure and the bankruptcy filing) would be $180,000. A Chapter 7 trustee seeks the highest price for an asset, but he also does not want to keep the asset for more than a few months before selling it. The goal is to move the property quickly to get money to the unsecured creditors. Therefore:
In the above case, the Chapter 7 trustee could sell the home and use the $4,435 to pay your unsecured creditors. You would receive a payment of $25,150 for your bankruptcy exemption. The decision whether to sell the home depends on how much unsecured debt you owe. If creditors may only receive a penny on the dollar, the trustee may abandon the property (not sell it). However, some Chapter 7 trustees are willing to do the work to earn the commission.
What Happens if the Trustee Does Not Sell The Home?
If you have a pending foreclosure action, the mortgage company may file a motion asking the court to allow it to proceed with the foreclosure. The company may also wait until your Chapter 7 case is finished (about four to six months for a no-asset case) and then proceed with the foreclosure.
Many people question whether filing Chapter 7 is worth it if you cannot afford to keep the home. Chapter 7 may be beneficial if you owe other debts that you cannot pay. You can get rid of those debts and get a fresh start. In a few years, you may be financially stable and ready to purchase a home after bankruptcy. Also, because you surrendered the home through a Chapter 7 bankruptcy, the mortgage company cannot seek a deficiency judgment. A deficiency judgment is the amount of money you owe on the loan after the home is sold. In some states, you could face a wage garnishment for a deficiency judgment. Chapter 7 stops the deficiency judgment and the wage garnishment.
What Happens if I Am Behind On My Mortgage Payments and I File Chapter 7 Bankruptcy Case?
Chapter 7 does not get rid of a mortgage lien. You must pay your mortgage payments to keep your home in Chapter 7. The mortgage company can ask the court to modify the automatic stay to continue the foreclosure process before closing your Chapter 7 case. Or, it can wait until your Chapter 7 case closes and then proceed with the foreclosure.
Chapter 7 delays foreclosure, but it cannot stop foreclosure unless you find a way to catch up on your mortgage payments. Surrendering your home in Chapter 7 does get rid of the possibility of a deficiency judgment. A deficiency judgment may be granted when a person owes more on their home than the home is worth. In other words, you lose your home and you still owe money to the bank. The Chapter 7 case eliminates a deficiency judgment.
Therefore, if you want to get rid of your home, a Chapter 7 bankruptcy might be the best way to avoid owing any money after the foreclosure sale. You can also get rid of other debts for a fresh start, so that you can rebuild your finances and recover from a financial crisis.
Chapter 13 Foreclosure
Let’s discuss filing Chapter 13 and foreclosures. Chapter 13 cases are repayment plans. When you file Chapter 13, you must submit a proposed repayment plan. The plan is based on your financial situation at the time you file the case. The plan payment is based on several factors including:
- Your income and expenses;
- Disposable income;
- Means Test;
- Types and amounts of debt;
- Excess equity in the property; and,
- Recent financial transactions.
If you are curious about what your Chapter 13 plan payment might be, you can try our Chapter 13 payment calculator. A significant part of your Chapter 13 plan payment may be based on your mortgage and home value. Let’s take a closer look.
How Can Chapter 13 Bankruptcy Stop Foreclosure to Save My Home?
When you file for bankruptcy relief, the automatic stay provisions of the Bankruptcy Code protect your property from creditors. Creditors, including mortgage companies and banks, cannot take any further action to collect the debt. The mortgage company must stop all attempts to collect past payments, including stopping foreclosure actions.
Filing a Chapter 13 bankruptcy plan can save your home from foreclosure. Through the bankruptcy repayment plan, you can catch up on the past due mortgage payments over three to five years. As long as you make your Chapter 13 plan payments and resume making your regular mortgage payments, you can keep your home in Chapter 13.
Your Chapter 13 case can also lower your car payments and relieve other debt obligations so you can afford your mortgage payments. It will not lower your mortgage payment or reduce the amount you owe to your mortgage company.
How Do I Catch Up On My Mortgage Arrears in Chapter 13 bankruptcy?
Most individuals who want to stop foreclosure and keep their home file for bankruptcy relief under Chapter 13. Chapter 13 is designed to allow homeowners to catch up mortgage arrearage through an affordable monthly plan.
Your past due mortgage payments are included in your Chapter 13 plan. Most Chapter 13 plans are calculated based on a 60-month plan. Some individuals could qualify for a three-year plan, but most Chapter 13 plans are for five years. By spreading out the mortgage arrearage over five years, you may be able to afford to keep your home in bankruptcy.
Keep in mind that you must resume making your regular monthly mortgage payments outside of the Chapter 13 plan. If you fall behind on your mortgage payments again, the mortgage lender could petition the bankruptcy court to modify the automatic stay.
Modifying the automatic stay means that the mortgage lender can resume foreclosure even though you are in Chapter 13. Therefore, it is very important that you make your mortgage payments on time moving forward.
What Happens to My Second Mortgage in Chapter 13 bankruptcy?
If you have a second or third mortgage, you can also use the Chapter 13 plan to catch up past due payments on those loans. However, just like your first mortgage, you must resume payments to these mortgage lenders outside of the Chapter 13 plan.
In some cases, you could get rid of a second mortgage for pennies on the dollar. If your home is worth less than you owe to your first mortgage lender, you can file a motion with the court to value the second mortgage at zero. However, your home cannot be worth even $1 more than you owe on the first mortgage to value the second mortgage at zero.
If the second mortgage is valued at zero, the entire debt becomes an unsecured debt. The second mortgage lender receives the same percentage as other unsecured debts. Therefore, if your plan pays 10 percent to unsecured creditors, your second mortgage lender receives 10 cents on the dollar. When you complete your Chapter 13 plan, the second mortgage lien is canceled.
What Happens to My Equity in a Chapter 13 Foreclosure Case If The Equity Is More Than The Homestead Exemption?
Another issue that could become a problem in a Chapter 13 foreclosure is net equity in your home. As we discussed above, you can exempt a certain amount of equity in your home.
Don’t panic. The homestead exemption in many states is much higher than the federal homestead exemption. You can check online or talk to a bankruptcy lawyer to determine how much equity you can protect in your home if you file a Chapter 13 case.
You Can Keep Your Home in Chapter 13
In a Chapter 13 case, the Chapter 13 trustee does not sell property that has non-exempt equity. However, the non-exempt equity must be included in your Chapter 13 plan. Your unsecured creditors must receive equal to or more than they would receive in a Chapter 7 liquidation if you have non-exempt equity. As long as you can afford your Chapter 13 payments, you keep your home in Chapter 13. The equity in the home remains in the home.
We mentioned above that we have a blog that discusses homestead exemptions in great detail. We will briefly discuss how that impacts your plan payment in a Chapter 13 foreclosure by using our example from above.
Net Equity in a Home and Your Chapter 13 Plan Payment
In our example above, the net equity in your home totals $4,435 after deducting the mortgage payoff, exemptions, commissions, and costs. Therefore, your unsecured creditors must receive a minimum of $4,435 through your Chapter 13 plan because that is what they would receive if you filed under Chapter 7.
That amount equals about $74 per month over a 60-month Chapter 13 plan. If your proposed Chapter 13 plan pays unsecured creditors $100 per month, then the equity in your home does not impact your plan payment.
However, if you have substantial equity in your home above the allowed exemption, your plan payment could change. Let’s assume that you have $100,000 in net equity in your home. Over a 60-month Chapter 13 plan, that totals $1,667 per month. For some debtors, that payment would be too much. In most cases, this situation does not arise. Most debtors do not have substantial equity above the allowed homestead exemption.
Keep in mind that your unsecured creditors cannot receive more than you owe on the accounts. Therefore, if you owe $50,000 in unsecured debts, your unsecured debt payment would be $834 per month, regardless of how much equity you have in your home.
Individuals who have significant equity in the home can benefit from discussing their situation with a bankruptcy lawyer. A bankruptcy lawyer analyzes your entire financial situation, explains all your options, and discusses the pros and cons of each option.
Contact Ascend for More Information About Bankruptcy and Debt Relief
Struggling to pay debts can be overwhelming. Most people who file for bankruptcy do so because of a financial hardship created by a situation that was out of their control, such as unemployment, sudden illnesses, or the death of a spouse.
If you have questions about bankruptcy relief, you can access more information in our blog. You may also contact Ascend by calling or texting 833-272-3631. We can help you find a bankruptcy lawyer near you, answer questions about debt relief, and discuss our services in greater detail.