How does bankruptcy affect mortgage? A major concern for many homeowners contemplating Chapter 7 or Chapter 13 bankruptcy in Houston is whether they will lose the roof over their heads as part of the bankruptcy process.
The good news is that your mortgage company cannot raise your interest rate or change other terms of your loan as punishment when you file for bankruptcy in Texas.
How Does Bankruptcy Affect Your Mortgage?
The question of ‘how bad the bad news is’ in terms of bankruptcy and house mortgage is determined by what type of bankruptcy you are considering filing. For example, some homeowners filing for Chapter 7 bankruptcy might lose their homes due to the equity in the home being above the amount of homestead value exempted in their state. On the other hand, in Chapter 13 bankruptcy, you can keep your home and continue with your current mortgage under a repayment plan.
We discuss the relationship between bankruptcy and mortgage in the article below.
What Happens to My Mortgage If I File Chapter 7?
Chapter 7 bankruptcy is known as “total,” “straight,” or “liquidation” bankruptcy. It is a wipeout of much (or all) of your outstanding debt under the guidance of a court-appointed bankruptcy “trustee,” who manages your assets in relation to your creditors. As part of a Chapter 7 Bankruptcy filing, the bankruptcy trustee may force you to sell, or liquidate, some of your property to pay back the debt you have accrued, and this may include your home under certain circumstances.
Does the property you may have to sell in a Chapter 7 Bankruptcy include your home in Texas? If you file and qualify for Chapter 7 Bankruptcy, you will likely have the choice of keeping your home, provided you continue to make your mortgage payments. However, if you want to abandon your home, you also have the choice of stopping your mortgage payments, and bankruptcy discharge of mortgage debt related to your home loan will occur at the end of the case, meaning you will not have to pay any more payments.
The lender’s security interest in the property, however, remains in full force and effect, so the lender will be able to foreclose on your home if you stop making payments, once the bankruptcy is over. So, in short, the answer to “can I include my mortgage in bankruptcy” is a yes. Your personal obligation to pay the mortgage can be discharged, just remember that the lender can enforce their rights and retake your home.
The key to understanding how Chapter 7 impacts your existing home mortgage and your option to stay in your home is understanding the difference between a loan and a lien. When you get a mortgage, the bank, credit union, or other lender gives you a loan. They let you borrow money for the express purpose of buying a property. When the lender does that, the lender places a lien on the property as collateral. This is sometimes also why mortgages are called “secured loans” – meaning the loan is secured by the property and improvements to the property. A lien is created as part of the mortgage, which is an interest in the property that the lender continues to have until the mortgage is paid in full.
Due to the mechanics of Chapter 7 Bankruptcy, you will likely receive a discharge and no longer be legally obligated to personal repay the loan. However, the lien on the property will remain, and the lender will still have a right to foreclose on the property if the debt is not paid. You can use bankruptcy to stop foreclosure for a short time, but creditors may file a motion to lift the automatic stay afforded by filing for bankruptcy. For these reasons, if you can keep your home as part of Chapter 7, and you want to stay in your home, you should work with a competent attorney to do everything in your power to figure out how to stay compliant with your mortgage obligations.
Additionally, it is important to understand why you will probably not be forced by the bankruptcy trustee to sell your home as part of Chapter 7 Bankruptcy in the State of Texas. This is because in Texas bankruptcies, all of a primary homestead – up to ten (10) acres of land with structures in an urban area; up to one-hundred (100) acres of rural land and a home for a single person; and up to two-hundred (200) acres of rural land and a home for a family – are “exempted” from being entered into the bankruptcy under Texas Property Code §41.001.
This means that the homestead does not become included in the bankruptcy proceeding, and sale of the home cannot be forced by the trustee. Texas State law for exempt property thus gives you greater protections if you want to stay in your home. Just remember, you still must have to make your mortgage payments, because your mortgage has a lien associated with it that gives the lender the right to foreclose on your house when bankruptcy is over.
What Happens to Your Mortgage When You File Chapter 13?
Chapter 13 Bankruptcy is more like a structured repayment plan than a wipeout of all debts, and thus a very different species from Chapter 7 Bankruptcy. With Chapter 13, you file a plan with the bankruptcy court detailing how you will repay your creditors. The bankruptcy trustee reviews the plan, ordering some debts to be paid in full, some to be paid in part, and possibly a handful to be forgiven.
Chapter 13 Bankruptcy does not affect your home mortgage, so you can file for bankruptcy and keep your house in Texas. You continue to make your mortgage payments during and after the bankruptcy, ie., there is no Chapter 13 discharge of mortgage debt in the traditional sense.
If you have fallen behind in mortgage payments, you have the option of paying mortgage late while in Chapter 13 and you can add the arrearage to the Chapter 13 repayment plan, which typically lasts from three to five years. Chapter 13 and mortgage payments thus have a different relationship than Chapter 7 and mortgage payments, which does not allow for the accumulation of arrears (all payments must be current in a Chapter 7) and allows for the discharge of mortgage debt.
Now that we’ve discussed bankruptcy and mortgage debt, we move on to second and third mortgages on your home, which you may be able to get rid of during bankruptcy through a process called “lien stripping.” Here’s how it works. If you don’t have enough equity in your home to secure the second or more junior mortgages, then the bankruptcy court can “strip” the liens securing the mortgages and reclassify the debt as “unsecured,” which unsecured debt can be incorporated into your repayment plan, and which will most likely be substantially reduced from its original amount. Because the liens are being “stripped,” they are no longer liens, and the lenders can no longer use them to assert interests in your home and foreclose. Just remember that as with Chapter 7 Bankruptcy, you must stay current on any mortgage payments that are due after you file your bankruptcy petition.
Do You Have to Reaffirm a Mortgage in Chapter 13?
In certain situations, you may have the option of reaffirming the debt to avoid losing the house if you continue making your payments. This involves communicating with the lender and executing new documents confirming your intent to repay the mortgage. We recommend this process not be undertaken without the assistance of a skilled bankruptcy attorney.
Getting a Mortgage after Bankruptcy
You will not be able as a practical matter to get a mortgage during your bankruptcy. This is because all major lenders and mortgage investors require that the bankruptcy be either discharged or dismissed before considering your application.
You may, however, be able to get a mortgage after bankruptcy if you otherwise qualify. This depends largely on your credit score, which will sharply decline at the time of bankruptcy and for a little while after, then slowly begin to restore itself over time. Learn more about how long bankruptcy stays on your credit report on our blog. It’s not impossible to move forward and get a mortgage down the line, but you may have some recovery to do. A secured credit card or credit builder loan can help in this regard.
Most reputable lenders will require a waiting period of at least two (2) years after your Chapter 7 Bankruptcy discharge to consider you for a mortgage, and any who offer more favorable terms should be scrutinized. Certain types of loans like Federal Housing Administration (FHA) loans may take less time, while “jumbo” loans may require up to seven (7) years of waiting. Chapter 13 Bankruptcy waiting periods are generally shorter, requiring just four (4) years from the filing of the Bankruptcy petition to be considered for a mortgage.
Get Mortgage Guidance from the Law Offices of Seth Kretzer before Filing Bankruptcy
As we have demonstrated, the answer to the question of ‘does bankruptcy clear mortgage debt’ is very often ‘yes.’ When you are trying to figure out how to issues related to your mortgage and bankruptcy, you will need a lawyer with specific experience on bankruptcy in Texas and who has the right knowledge and resources to help you. Contact the Law Offices of Seth Kretzer today to discuss your bankruptcy concerns.