Many people who are struggling financially hesitate to consider bankruptcy because they have heard that they will lose their homes if they file for bankruptcy protection. “Can I keep my home if I file for Bankruptcy” is one of the most common questions we hear in our office. The truth, though, is that most bankruptcy filers are able to keep their homes. In fact, some people who have fallen behind on mortgage debt can use the bankruptcy process to help save their homes.
How bankruptcy will impact your homeownership depends in part on which type of bankruptcy you file, and in part on whether you are already at risk of foreclosure.
Filing Bankruptcy When Your Mortgage is Current
For homeowners whose mortgage debt is current when they file for bankruptcy, and who expect to be able to continue to make mortgage payments in a timely manner, the key concern is the amount of equity in the home.
What is Equity?
In simplest terms, the equity in your home is the difference between the value of the property and the amount you owe on the mortgage loan or loans. For instance, if the house is worth $150,000 and you owe $130,000, then you have $20,000 in equity. That $20,000 is an asset you own.
Alabama law protects a certain amount of value in a house that is the bankruptcy petitioner’s primary residence through what is known as a homestead exemption.
How Bankruptcy Exemptions Work
In Chapter 7 bankruptcy, the bankruptcy trustee can sell certain property of the bankruptcy petitioner to make partial payment to creditors. In practice, though, this rarely happens. The reason most Chapter 7 filers don’t lose any property is that Alabama law provides exemptions for certain types of property. When property is exempt, it’s protected from creditors, and so the bankruptcy petitioner gets to keep it.
There are limits on the exemptions, though. While a handful of states have unlimited homestead exemptions, Alabama–like most other states–exempts only a specific amount of equity. As of this writing, the Alabama homestead exemption is $15,500 for an individual filer, or $31,000 for a married couple. By law, this number is adjusted every three years, and is next scheduled to increase in 2021.
If the equity in the home is larger than the exemption, the bankruptcy trustee can sell the property and pay the excess to creditors. For example, if an individual bankruptcy petitioner has a home with $35,500 in equity and files for Chapter 7, the bankruptcy trustee could sell the home, pay the $15,500 in equity to the petitioner, and then distribute the remaining $20,000 (less costs) to creditors. So, Chapter 7 usually isn’t a good choice for homeowners who have significant equity in their homes.
However, that doesn’t mean no homeowner can benefit from Chapter 7 bankruptcy. Alabama residents who have no equity, or whose equity falls within the exemption, can often use Chapter 7 to discharge unsecured debt and improve the household budget with no risk to their homes. And, a great many Alabama residents are in that situation. GOBankingRates recently put three Alabama cities on its list of 40 cities that may be headed for a housing crash. One key factor in the analysis was the percentage of homes underwater–that is, homeowners whose mortgage debt is higher than the value of their homes–in the area. 16.1% of Mobile, Alabama homeowners are in this situation, along with 26.5% of Birmingham mortgage holders and 28.2% of those in Montgomery.
Chapter 13 bankruptcy, discussed in greater detail below, may be an option for homeowners who have non-exempt equity in their homes or who are behind on their mortgage payments. In a Chapter 3 case, the bankruptcy petitioner keeps his or her property while making payments across a three to five year plan.
Filing Bankruptcy During Foreclosure
Typically, either a Chapter 7 or Chapter 13 bankruptcy petition will briefly protect against foreclosure. That’s because in most bankruptcy cases, an automatic stay is entered as soon as the bankruptcy case commences. The automatic stay is a court order to creditors and debt collectors that requires them to stop taking collection action for as long as the stay is in effect.
The automatic stay can provide short-term relief even if the foreclosure action is already underway. For example, if a foreclosure sale has already been scheduled but has not yet been held, the automatic stay will require the sale to be canceled and will prevent it from being rescheduled for as long as the stay remains in effect. In a Chapter 7 case, this relief is typically very short-lived, and rarely leads to saving a home approaching foreclosure.
Chapter 13 bankruptcy, however, provides a real solution for many homeowners facing foreclosure–specifically, for those who can afford to make mortgage payments moving forward, but have fallen far enough behind that they cannot catch up in time to prevent foreclosure.
In a Chapter 13 bankruptcy case, the debtor and his or her bankruptcy attorney propose a three to five year repayment plan. If the plan is confirmed, the mortgage lender is prohibited from taking further collection action for the duration of the plan, as long as both plan payments toward the past-due balance and current payments are made on time.
Imagine, for example, that a homeowner’s regular monthly mortgage payment is $1,000, but she is currently $6,000 behind on her mortgage payments. She may have enough regular income to pay the $1,000 per month as it comes due, and to pay a bit extra to catch up the arrearage. But, often, the lender won’t accept that, and will proceed to foreclosure if the $6,000 isn’t paid within a relatively small window.
A homeowner who is eligible for Chapter 13 bankruptcy and has adequate income to fund a Chapter 13 repayment plan might be able to continue paying the $1,000 per month as it came due, and also to split up that $6,000 across a three to five year plan. Not only can Chapter 13 stretch out payments over time to make repayment more manageable, but you may avoid additional late fees and other charges on the past-due balance. In fact, Bond & Botes attorney, Suzanne Shinn, states that she is often able to help homeowners who are on the verge of losing their home stop a foreclosure sale and catch up what they are behind through a well-constructed Chapter 13 reorganization plan.
Finding the Best Approach for You
Whether you’re struggling with other debt and concerned about putting your house at risk or you’re trying to save your home from foreclosure, the right answer will depend on a variety of factors. Some of the most important include your goals and priorities, whether you are behind on your mortgage loan, whether you have adequate income to catch up and stay on track, what other debts you have, and how much equity you have in your home.
To discuss your situation with an experienced bankruptcy attorney and learn more about your options, schedule a free consultation right now. Just call 877-581-3396 or fill out the contact form in the right-hand sidebar of this page.
Brad Botes is a principal of each of the Bond & Botes Law Offices throughout Alabama, Mississippi, and Tennessee. He holds a Bachelor of Science from the University of North Alabama, and a Juris Doctorate from Cumberland School of Law at Samford University. He and his team of bankruptcy lawyers have spent over 30 years guiding people through financial challenges. Read his full bio here.