Bankruptcy is a major financial move, yet it usually permits you to keep your house. However, while there are measures to preserve your home after declaring bankruptcy, this does not guarantee that you will keep it.
Filing for bankruptcy involves a complex balancing act between what you owe, what you own, and what you can afford to pay. Filing without losing your house is dependent on three factors:
- What kind of bankruptcy are you declaring?
- Are your mortgage payments current?
- What is the amount of equity you have in your home?
The good news is that bankruptcy can save your property from foreclosure. Even if you are behind on payments, Chapter 13 bankruptcy allows you to keep your house. If you maintain your home after filing for bankruptcy, the fact that your other obligations are dismissed should make it simpler to pay your mortgage.
As we get into the specifics, keep in mind that bankruptcy is a second opportunity for those who have more debt than they can pay. Bankruptcy rules were enacted with the notion that there is no benefit to leaving someone on the street, and the bankruptcy courts work hard to ensure that this does not occur.
"The primary goal is to maintain at least a baseline standard of life," said Ariane Holtschlag of Chicago's Factor Law Group. "Individuals will feel some relief when they declare bankruptcy and stop debt collectors from pestering them, but it's an overwhelming sense of satisfaction when the final decision is made and people realize they aren't going to lose their house," says one expert.
So there is help for maintaining your house through bankruptcy.
Paying off debt, on the other hand, is a must with no "free house" alternative attached. A principal mortgage is not dischargeable in bankruptcy.
The bottom line is that you must continue to pay your mortgage if you wish to remain in your home.
Different Methods of Filing for Bankruptcy
Bankruptcy is a legal procedure in which the court determines the best way for a person who is drowning in debt to pay as much as feasible given their assets. The remedy might be Chapter 7, which not only dismisses debts but also liquidates assets, albeit not all of a person's assets. Chapter 13 bankruptcy permits a person to maintain their assets while imposing harsh repayment terms.
The court issues a "automatic stay" on any foreclosure action, regardless of whatever type you petition for. This implies that if your house was being foreclosed on, the process will be halted while the court determines your ability to pay. It does not, however, imply that you will inevitably maintain your home.
In all forms of bankruptcy, there is a homestead exemption, which allows you to keep some of your equity. It's another aspect of bankruptcy that makes it more likely that you'll be able to keep your home. Each sort of bankruptcy is a unique process, but the premise underlying exemptions is that the individual has to safeguard some vital assets in order to survive. Exemptions are also available for retaining your automobile and other critical things. The amounts vary by state, but the items you may exclude are restricted to what you require to survive. Luxury things are not included.
The federal government, as well as 42 states, have enacted a homestead exemption, which permits a person filing for bankruptcy to keep a certain amount of value in their house. The federal exemption is $25,150 until April 2022, and it adjusts every three years.
State exemptions might be greater or lesser. A person filing for bankruptcy in 19 states and the District of Columbia can select either the state or federal exemption. Other states require the individual to use the state exemption.
To claim a state exemption, you must have resided in the state, in that residence, for at least 40 months. Check your state's regulations for specifics.
In Bankruptcy, How Does Your Equity Affect You?
Property equity is the market worth of your home less the amount you owe on it. Assume your home's market worth is $250,000. You owe the bank $195,000 on it. That implies you have a total of $55,000 in equity. In other words, if you sold your property tomorrow after paying all your debts, you'd make $55,000 profit. The debt on your property comprises not only the mortgage but also any home equity loans or lines of credit you may have, as well as any liens.
Up to a limit, the homestead exemption preserves equity. In the above example, if your state had a $50,000 exemption, the bankruptcy court would only consider what followed that as equity — $5,000. This is a simplification for clarity; costs for the bank and trustee are also deducted, so it would be less in reality. If you used the federal exemption, your exemption would be $29,850 in equity, less expenses. If you live in a state where you may only utilize the state exemption and the state exemption is smaller, say $10,000, the court will consider $45,000 in equity, less the expenses.
In a Chapter 7 bankruptcy, the court would look at your equity after the exemption to see if you have enough to pay off your obligations. If your equity after the exemption is small or nothing, you will most likely be permitted to keep your home since selling it would not be profitable. If you owe more on your house than it is worth, you don't even need the exemption. If you have a lot of equity in your house, the bankruptcy court may order you to sell it to pay off your creditors.
The equity in your house is also considered in a Chapter 13 bankruptcy and is factored into the amount available to pay your unsecured creditors. It's a little complicated, but basically, the court totals your assets and decides how much will be used to pay off unsecured debt, such as credit card companies. The homestead exemption reduces your equity; the court will only evaluate your equity once the exemption is deducted. So, if you have $29,650 in equity after the exemption, that amount is added to the amount distributed among your creditors to pay off your unsecured debt.
As you'll see shortly, while Chapter 13 is intended to assist you in keeping your home, doing so is challenging. The courts advise clients seeking Chapter 13 bankruptcy to consult with a bankruptcy attorney or financial counselor who is knowledgeable about the process.
Keeping Your Home While Filing for Chapter 7 Bankruptcy
In a Chapter 7 bankruptcy, the court will liquidate the majority of your unsecured obligations, which include debts such as credit card debt and personal loans that are not secured by an asset such as a house or a car. Once that debt is paid off, it should be easier to keep up with your mortgage payments.
If you can't pay your mortgage after bankruptcy, the effect will be the same as if you didn't pay it before bankruptcy: you'll lose your house.
If you know you're about to file for bankruptcy but want to maintain your house, investigate if your mortgage lender would work with you to alter your mortgage arrangement so you can catch up on payments. Do this before declaring bankruptcy. When you file, the court seizes your assets and you lose control.
Here are some of the factors that increase the likelihood that your home will be safeguarded if you file for Chapter 7 bankruptcy:
- You have made all of your mortgage payments.
- An exemption protects all or most of your equity.
- You owe more on your home than it is worth.
- You show the court that you can make your mortgage payments on schedule.
- You arrange a loan adjustment with your lender before filing for bankruptcy.
Keeping Your Home While Filing for Chapter 13 Bankruptcy
The good news is that Chapter 13 bankruptcy is meant to allow you to keep your home. With Chapter 13, you, the bank, and your creditors all agree on a three to five-year repayment plan, but your assets are not liquidated. Your unsecured debt is discharged after the plan is finished. The difficulty, of course, is to make it all the way to the conclusion.
If you can afford it, the plan worked out with the court and your creditors will include a mechanism to catch up on and pay your mortgage.
If you are behind on your mortgage payments, a Chapter 13 repayment plan will figure out how you pay the past due installments over three to five years, but you must also make the current monthly payments.
When you declare bankruptcy, what happens to your mortgage?
A mortgage is a secured obligation, which means that if you pay it, you keep the collateral, which is your home. You will lose it if you do not pay. Of course, bankruptcy complicates everything.
If it is decided that you are unable to pay your mortgage, the bank will foreclose under Chapter 7. The house will no longer be yours, and you will be forced to leave. In most circumstances, you do not make any further payments.
You keep the mortgage alive by continuing to make monthly mortgage payments as well as past due payments under Chapter 13. But it's not easy: in 2020, more Chapter 13 cases were dismissed, which implies they were done but not completed, than were released. When a case is dismissed, it's as if the person never filed it in the first place. The majority of cases were dismissed because homeowners did not or could not make their payments. Whatever the cause, the obligations are still outstanding, putting you right back where you started.
You must pay your mortgage whether you can or cannot keep to the payment schedule, or you may lose your home.
If You're Behind on Your Mortgage Payments With Chapter 7, you can surrender your home if you're behind on your mortgage payments and can't catch up. There is no mechanism in Chapter 7 for catching up on payments, thus as previously said, it should be done before filing for bankruptcy.
One of the most significant advantages of Chapter 13 bankruptcy is that it makes it simpler to maintain your home, including catching up on payments. Payment plans enable a mortgage modification with a bank that can stretch missing payments over the duration of the plan, which can range from three to five years, while also requiring current payments.
In any event, if the bank is about to foreclose on your house and you know you won't be able to stop it, file for bankruptcy before the foreclosure. If the bank sells your home after a foreclosure but does not recoup the amount you owe them, there is a "deficiency judgment," which means you must repay the difference. There is no deficiency judgment if the foreclosure occurs as a result of the bankruptcy.
If You Have Numerous Mortgage Loans Under Chapter 13, a borrower with multiple mortgage loans on the same residence might have everything except the principal mortgage loan classified as unsecured debt. That is, they are covered by your capacity to pay and will most likely not have to be paid back in full. This only applies if you owe more on your home than it is worth.
How to Determine Whether Your Home Is Exempt
It's a simple arithmetic problem to determine whether your home is exempt: if you owe more than the market value, it's exempt. Make careful to verify your state's exemption regulations, as this is part of the math. To put it another way, the paperwork you fill out requires you to list what you owe, your exemption, and your equity. Schedule C contains the things you feel are exempt. This covers not just your home, but also an allowance for your automobile and other stuff such as furniture, tools for your profession, and so on. It's always a good idea to seek the assistance of a bankruptcy professional who can guide you through this intricate process.
Deficiency Decisions
If the lender who holds the mortgage on your property forecloses due to nonpayment, the house is sold. If they do not get enough money to satisfy what you owe, the remainder is known as a "deficiency judgment."
Normally, you would be liable to the bank for that money. However, if you surrendered the residence under Chapter 7, you are not required to pay the shortfall judgment. If you had previous deficiency judgments, you would not be required to pay them under Chapter 7. Because you maintain your home under Chapter 13, you are accountable for that payment.
The Drawbacks of Keeping Your Home When Filing for Bankruptcy
Even if you're deeply in debt and contemplating bankruptcy, you may be desperate to keep your home. That's understandable - it has an emotional attachment as well as the potential to be an asset in the future, even if you're currently behind on payments.
However, there are certain financial disadvantages to keeping your home throughout a bankruptcy procedure.
If you file for Chapter 13 bankruptcy, you must continue to make your monthly mortgage payments as well as settle any arrears. Even if the payment plan agreed upon by you, the court, and your lenders appears to be manageable, this can be challenging.
Almost two-thirds of Chapter 13 filings fail. Even though adjustments are permitted, it is difficult to stick to a payment plan that spans three to five years. Those include returning to court and explaining why you require one. Throughout it all, you must remain current on your mortgage payments as well as any other payments stipulated in the plan.
You must make the monthly payments if you file for Chapter 7 and keep your home. The bank itself is the only hope for a change.
Bankruptcy is obviously complicated, and it becomes even more so if you are concerned about keeping your home. If you're wondering, "Should I file for bankruptcy?" the first step should be to consult with a credit counselor.
Credit counseling from a non-profit organization can assist you in developing a debt management plan with manageable payments in order to avoid bankruptcy. If the credit counselor is able to negotiate reduced payments and interest rates on your unsecured debt, such as credit cards, it may be possible to avoid filing for bankruptcy.
Even if you decide to file for bankruptcy, the law requires you to first visit with a credit counselor. Federal bankruptcy courts have a list of nonprofit credit counselors on file, and you should consult one before filing.