Suppose I’m facing foreclosure and would rather just let the house go: does a bankruptcy do me any good in that situation?

You may decide that struggling to keep a house that is too expensive isn’t doing you or your family any good.  You may be sacrificing other benefits you’d like to provide for your family or yourself rather than put every dollar into your mortgage payments or worry about how you will make next month’s payment.  You may be at the point of wanting to let the bank/mortgage company take the house back. Unfortunately, you likely owe more on the mortgage than the house is worth on the market.  Over the past several years, we saw the values of real estate go way down.  Although those values are beginning to rise again, they are not where they were when you bought your home.  At the same time, you may be making less income from your employment or had some other life event where your income has been impacted, such as illness or divorce.

Many people are finding that they cannot sell the house for enough money to pay off the balance of their mortgage.  If you find yourself in this situation, you may be dreading and wanting to avoid a foreclosure from being filed against you.  However, the bank must foreclose in order to take the property back.  If they do not foreclose, there is no legal way to force them to take back the property.  Unfortunately, there is no mechanism in the law or the bankruptcy process to simply give the house back to the mortgage company.  While you might have heard of something called “a deed in lieu”, the mortgage company has to agree to accept it, which they won’t do when the value of their collateral (the house) is less than the balance they’re owed.  Likewise with a short sale–the bank has to agree to it, which is unlikely, and even if they do agree, the whole process takes a very long time.  This becomes especially complicated if you have a second mortgage or equity loan on the property. While a bankruptcy cannot prevent the bank from filing a foreclosure action, what it can do is protect you from having any responsibility for an unpaid deficiency balance once the house is sold.

Even if the mortgage company forecloses, they might not be able to get enough money at the sheriff’s sale of the property to cover the balance due.  From what I’ve seen, most houses sold at sheriff’s sale are to investors who are hoping to buy the house at a bargain price and then re-sell at some point in the future when they can get considerably more.  Until then, they’ll likely try to rent the property.  If the mortgage holder/lender does not get enough money to fully cover the outstanding balance of your mortgage, you may not be off the hook for that deficiency without a bankruptcy to legally discharge it.

Until recently, the mortgage companies might report the unpaid mortgage balance to the credit reporting agencies, but weren’t really taking any action against their former customers to collect that balance.  That has changed over the past year or so.  I’m seeing in many instances where the mortgage companies are selling these debts to companies who buy up unpaid debts and then aggressively go after collecting them from the debtors.  They are threatening garnishments and other means of recovery, especially since the foreclosure process has already resulted in the bank having been awarded a judgment against the former homeowners.  You may be in a situation where such a creditor is calling you repeatedly or sending you threatening letters.

If you are eligible to file a bankruptcy under Chapter 7, the deficiency once the house is resold is officially wiped out by the discharge.  If you file under Chapter 13 after a foreclosure action, the deficiency will be treated as an unsecured debt since the collateral (the house itself) is gone. It is then paid at the same percentage as the other unsecured debts provided that the bank files a proof of claim.  If you surrender the real estate during the bankruptcy, but it starts off when you file as a secured debt, you will be paying off the deficiency at 100%.  Interestingly, however, if you surrender the house as part of your Chapter 13 Plan, the bank has 270 days from the date your Plan is confirmed to complete the foreclosure and file its proof of claim for the deficiency.  If the foreclosure has not yet been filed in your county’s common pleas court, the bank has to hustle to get that completed within that time period.  Since banks don’t customarily “hustle”, it is likely that it will not be able to file a timely proof of claim and any deficiency will be wiped out when you complete the Plan and receive your discharge.

Please understand that you legally own the real estate until it is sold at sheriff’s sale or directly be the bank following the foreclosure.  Therefore, you have the right to live in your home, without making the mortgage payments, until the real estate goes into someone else’s name.  Once the property is sold, the deed will be taken out of your name and you will no longer own the home.  At that point, you will be notified of the sale and when you have to move out.  Therefore, although you may have filed a bankruptcy and/or there is a foreclosure action filed against you, you will have many months where you can remain in your home.   Further, if the bank has to buy the property back at the sheriff’s sale because no one else has bid an acceptable amount, you can remain in the house for even longer.  Usually, the bank has no problem with you staying because a vacant property is a problem for them.  It is anticipated that you will keep the utilities on and keep the outside of the property acceptable.  So long as you are living in the property, and especially if it remains in your name, I would also recommend that you keep it fully insured.  More on that in another article.

I have tried here to give you some general ideas about how surrendering your home and filing a bankruptcy to deal with the deficiency on the mortgage balance works.  In real life, every person’s situation is different.  I would need to meet with you to discuss your personal circumstances, and how filing a bankruptcy would benefit you.

About Barbara Horwitz

Barbara Horwitz is an experienced bankruptcy attorney helping people get past financial difficulties. She believes in creating a relationship with clients and is dedicated to making the bankruptcy process as easy and stress-free for clients.

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