After yesterday’s post about rebuilding credit after bankruptcy, I got two different questions about how to keep your home during bankruptcy. One of the readers seemed a bit frustrated and finished by asking, “Why can’t I get a simple answer to this question: Can I keep my home if I file bankruptcy?”
The simple answer is: Yes, you can keep your home if you file bankruptcy, but only if you do the right things. I suspect it is that, but only if, part that is causing the answer to not seem simple, so let’s break it down.
Keeping Your House After Filing Bankruptcy
First, it is important to understand that a home mortgage is a secured loan. The security, or collateral, for the loan is the home. If the debt is not repaid, then the lender may take the collateral and sell it in order to pay off the loan.
Now, just like any other debt, a mortgage can be discharged in bankruptcy. Doing so means that the lender may no longer attempt to collect the debt.
So far, so good.
However, the lien, or the right to take possession of the loan’s collateral is NOT discharged, or affected in any other way, by a bankruptcy filing. This is where things start to seem complicated. Just because you don’t have to pay the loan anymore, does not mean that you get to keep the house. However, it does mean that if lender does foreclose on the home, and the amount raised from the foreclosure sale is not sufficient to pay off the entire mortgage balance, then the lender cannot attempt to collect the rest of the money from you.
Bankruptcy and Home Mortgage Options
Perhaps the easiest way to construct a “simple” answer about what happens to your house if you file bankruptcy is to walk through the possibilities.
Scenario 1: Keep Making Payments: If you want to keep your home after filing bankruptcy, the easiest way to do so is to just keep making the payments. Foreclosure can be a complex, expensive, and time consuming process. Besides, your lender makes a profit by collecting the interest from each mortgage payment. So, the lender would prefer that you just pay the mortgage as agreed. However, there will be some differences in how payments are made and collected if your mortgage is discharged.
There is a process called reaffirmation, which is where you reaffirm, or re-agree, to pay a debt. This makes the debt fully collectable and enforceable again. This typically is not advantageous to the debtor, so avoid this except in unusual circumstances.
Scenario 2: Stop Making Payments: If you do not pay your mortgage payments after bankruptcy, they lender may not attempt to collect the debt from you because it was discharged. This means that they will not call you about late payments, or send demand letters, or pursue any legal action such as garnishing your wages. Most communication will be by mail, and it will all be marked, “For information purposes only,” to ensure that it is not seen as an attempt at collection. However, the lender does still have a legal and enforceable right to take the collateral pledged to the loan, in this case, your home.
Unlike repossessing a car, where the lender just hooks it up to a tow truck, taking a home requires a special legal process known as foreclosure. The foreclosure process is completely separate from the bankruptcy process. This is the result of some of the complexity of the question. While bankruptcy erases the debt and bars the lender from attempting to collect the debt, foreclosure still allows the lender to take your home. Foreclosure it not affected by your bankruptcy.
Scenario 3: Work with the Lender: Some additional complexity stems from the ability of lenders and borrowers to come to a new arrangement. Again, this is not actually a part of bankruptcy. What two legally consenting entities decide to do after a bankruptcy is not the court’s business. Thanks to recent government programs to help homeowners, there is more incentive for lenders to modify a mortgage or adjust the repayment terms to help you keep your home. Of course, the better shape your finances are in, and the better shape your mortgage is in, the more likely your lender will be willing to work with you.
Hopefully, this provides some clarity as to what happens to your house when you file bankruptcy. The key detail is that foreclosure is not modified by a bankruptcy filing, even though pretty much everything else is. If you want to keep your home, then make the payments or work with your lender. If not, drag the process out as much as you like. Stop making your payments and save the money so that you can move to a new home once the foreclosure actually happens.