The Orlando Sentinel recently reported that until last month, the Metro Orlando area was No. 1 in the country for its rate of mortgage foreclosures. This could explain why so many people have been calling my law firm with questions about mortgage foreclosure and bankruptcy. The intersection of bankruptcy and foreclosure is a place of confusion for many homeowners who are looking for options and answers. This week, a couple came to my practice with lots of questions about their mortgage foreclosure, even though they had completed a Chapter 7 bankruptcy with another lawyer several years ago!
Unfortunately, this is not uncommon. So, I thought this week I would post about the difference between a Chapter 7 bankruptcy and mortgage foreclosure, and what every home owner needs to know about these two very different legal processes.
A tale of two courts…
The first key to understanding the difference between bankruptcy and foreclosure is to understand that they take place in two different courts, actually two different court systems. Mortgage foreclosures are under the jurisdiction of the state court system. Bankruptcies are filed in the Federal District Court. Each court is doing something very different. The primary goal of bankruptcy is to discharge debt. In contrast, the goal of a foreclosure lawsuit is to sell the mortgage property to pay the creditor. The bankruptcy court cannot can not and will not do this. Only the state court can grant the remedy of foreclosure.
Three pieces of paper…
When clients with mortgages come to my office for a consultation, I explain the process by reviewing the three pieces of paper that create a mortgage debt.
The promissory note – this paper contains the promise to pay the bank the money they gave to the seller of your house when you bought it. When a Chapter 7 bankruptcy is completed, this paper is torn in half, shredded and nullified. The debt is gone forever. The same thing happens in a Chapter 13 bankruptcy, unless you decide you want to keep the house and work out a payment plan.
The title – also referred to as the deed. You received it when bought the house. It is filed in the official records and it tells the world that you own the house. Neither a Chapter 7 nor a Chapter 13 bankruptcy has any effect on the title to the house. When your bankruptcy case ends, you are still on the title to the property. You are still the owner, and nothing the bankruptcy court did will change that. So, you may be discharged from the mortgage debt, but you still own the house. That’s a funny thing!
The mortgage – this is the paper that says if you default on the debt, the bank can have the house sold at an auction to pay the debt. This is the bank’s remedy to get the debt repaid. That remedy is called foreclosure. The mortgage is also filed in the public records and stays there for as long as the bank remains unpaid. That prevents the home from being sold. The bankruptcy has no effect on the mortgage whatsoever, even after the mortgage debt has been discharged. (This applies to first mortgages. There are certain remedies that a bankruptcy court can grant relating to second mortgages, but that is the subject of another post). Again, the bankruptcy court doesn’t grant foreclosures, only the state court can. When the bankruptcy ends, the mortgage remains on the property. In fact, the bank can keep the mortgage on the property until the balance of the mortgage debt has been repaid, even if the debt has been discharged in bankruptcy. That’s a really funny thing!! The bank must complete the foreclosure process, or the mortgage remains on the property.
Bankruptcy has (almost) no effect on your mortgage foreclosure…
OK, that’s a little bit of an overstatement, but I got your attention. Filing bankruptcy, under either Chapter 7 or Chapter 13, does one thing to a foreclosure lawsuit: it stops it, but only temporarily. As a result of the Automatic Stay, any action by a creditor, including foreclosure, must halt immediately. At that point, the foreclosing bank has two choices: wait until the bankruptcy is over, or get special permission from the bankruptcy court to continue the foreclosure lawsuit. Until then, the foreclosure process must stop. But if the bank gets permission, it can commence or continue foreclosure in the state court, even while the bankruptcy is still going forward.
After the Discharge…
So at the end of a bankruptcy, here is where the homeowner is:
No debt is owed to the bank, but she is still the owner of the property, and the property has a mortgage on it.
What happens at that point depends on the status of the mortgage at the time the bankruptcy was filed, and whether the debt was discharged in a Chapter 7 or a Chapter 13 case.
In a Chapter 7 case, if the mortgage was in default when the petition was filed, then the bank will continue the foreclosure, or if foreclosure has not yet started, the homeowner must face an inevitable foreclosure. If the mortgage was not in default when the bankruptcy was filed, then the homeowner can keep the house by continuing to make the monthly mortgage payments. For as long as those payments are made on time, the bank will not foreclose.
If the homeowner filed a Chapter 13 case, then it depends on whether the choice was made to keep the house. Chapter 13 offers the opportunity to cure a default by making the missed payments, and continuing to make the payments during the 3 -5 year plan period. If the homeowner decided to surrender the house, then the bank usually gets permission to foreclose by the end of the plan period.
It was the best of times, and the worst of times…
Bankruptcy and foreclosure offer different remedies to the homeowner in distress. The good news is that mortgage debt can be easily be eliminated in bankruptcy court. A bankruptcy can offer great relief to homeowners who have been pulled down by the bad economy and the real estate market implosion. However, what to do about the mortgage and the deed are matters that must be handled outside of the bankruptcy court. Homeowners need an experienced guide to help them resolve all the issues related to homeownership. As a lawyer with expertise in state court litigation, and experience in the bankruptcy courts, I really enjoy working with homeowners who are trying to navigate this terrain. By working in both the foreclosure courts and the bankruptcy court, I make sure that the client’s goals are achieved, and their legal interests have been defended. If you know of a friend how is struggling with a mortgage problem, have them call my office for a free consultation.