Can Bankruptcy Eliminate a Second Mortgage on My Home?

The bankruptcy code is quite specific you cannot eliminate the LIEN of a second mortgage (such as a home equity loan) on your principal residence in a Chapter 7 bankruptcy. This means that, even though you can eliminate the DEBT from the second mortage, the mortgage will continue to be a LIEN against the home even after your chapter 7 discharge. However, under existing case law, you CAN eliminate (“strip”) a second mortgage lien against your home in Chapter 11 or Chapter 13 bankruptcy IF five conditons are met.

The first condition is that your home must be appraised for less than the outstanding balance of the first mortgage. Stated another way the home must be “underwater” with regard to the first mortgage only. If this is the case, then there is no equity whatsoever to support the second mortgage. The second condition is that your income must neither be too high nor too low depending upon your family size and other factors. If your income is too high, then even though you can strip the second mortgage lien you may end up having to pay back a large portion (or possibly all) of the second mortgage debt under your Chapter 13 or Chapter 11 plan of reorganization. This obviously would defeat the whole purpose of “stripping” the mortgage lien. If your income is too low, you may not be able to get the bankruptcy plan of reorganization approved because it is not viable. Assuming that the value of the home and your income levels are ripe for a lien-strip, the third condition is that you must, within your bankruptcy case, file the appropriate proceeding and successfully obtain a court order stripping the second mortgage. The mortage company has the right to oppose this proceeding (assuming that grounds to oppose exist). The fourth condition is that you must obtain court approval of your overall bankruptcy plan of reorganization. The fifth condition is that you must successfully complete the approved plan or reorganization and obtain a discharge in your bankruptcy case. Remember, these rules apply only to your principal residence. A whole different set of rules apply to rental and investment property, which will be the subject of another blog.