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Why file bankruptcy when you’re facing foreclosure?

by Dorota Trzeciecka on July 7th, 2011

There are three main reasons for filing bankruptcy when you are facing foreclosure . The number one reason for filing bankruptcy is to save your home from foreclosure.  I hear this from clients all the time.  Their financial situation has improved since foreclosure was filed, and, as a result, they have the ability to resume their regular mortgage payments, but are unable to meet the large delinquency amount that has accumulated over time, and which their lender wants them to pay to re-instate their mortgage.  Chapter 13 comes to the rescue of such homeowners.  Chapter 13 bankruptcy offers the ability to repay the delinquent amount on your mortgage over a period of  three to five years, while you’re making your regular monthly mortgage payments, thus solving the problem of having to pay the large lump-sum delinquency to re-instate the loan.

Number two reason for filing bankruptcy when you are facing foreclosure is to remove a junior lien, like a second mortgage, that is no longer secured by the equity in your home.   If you have more than one  mortgage on your primary residence, and the first mortgage is of equal or lesser value than the appraised value of your home, you can petition the bankruptcy court to remove any subsequent lien.  This is called lien stripping.  To understand the mechanics of lien stripping, you must read my earlier blog on junior mortgages and Chapter 13 bankruptcy.

And finally, the number three reason for filing bankruptcy is to save you from personal liability for deficiency judgment resulting from foreclosure.  What is a deficiency judgment? Deficiency judgment is a judgment for the difference between the balance you owe on your mortgage and the sale price at the foreclosure sale.   Let’s say you owe more on your mortgage than your house is worth, which in this housing market is a very likely scenario.  When your lender sells your home at a foreclosure sale, the lender then has an option to seek a deficiency judgment against you personally for the difference between the amount of the mortgage and the sale price.   But, if you file bankruptcy and surrender your home to the bankruptcy Trustee, the lender is precluded from pursuing any deficiency judgment against you.

 

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