By John Lee
One of the primary reasons people file for bankruptcy is that a creditor has obtained a judgment against them for a deficiency balance. A deficiency balance occurs when the mortgage lender (or other secured creditor) forecloses on the debtor’s house and sells the property for less than what is owed on the note. For example, if the house sells for $100,000.00; but the debtor owes the lender $120,000.00, then there is a $20,000.00 deficiency balance. The lender can sue the debtor after the sale for the $20,000.00 still owed on the note.
A few States don’t allow lenders to sue for deficiency balances and a few mortgage companies choose not to collect on them, however, if your house sold for less than what was owed, there is good chance the lender will sue you for a the deficiency balance owed on the collateral. Once the lender sues you for the deficiency judgment, then he can garnish your bank account and your wages. Sometimes a lender that holds the first mortgage will not pursue the deficiency balance, but in most cases, if the debtor has a second mortgage or equity line, the lender on the second mortgage or equity line will pursue a judgment for the deficiency balance.
Even more common than mortgage companies pursuing a deficiency judgment is an automobile lender pursuing a judgment for a deficiency balance. In Virginia, I see many clients that have huge deficiency balances from repossessed automobiles. Often times the deficiency judgment from a repossessed automobile can be fifteen to twenty thousand dollars. With Virginia allowing a 25% wage garnishment, these judgments can force a Hampton Roads or other Virginia resident into bankruptcy quickly.
One contributing factor to the large deficiency balances on repossessed automobiles is the fact the auto finance companies will allow the debtor to roll over their existing negative equity into their new purchase. Let’s say you owe $10,000.00 on a pick up truck that is worth $4,000.00. That means you have $6,000.00 negative equity. You go to trade that pick up truck in on a sedan that is worth $7,000.00. The finance company that is financing the sedan will take the pick up as trade, but put the $6,000.00 negative equity on top of the balance on the sedan you are buying. Once they roll the negative equity into the new loan you owe $13,000.00 on a sedan that is worth $7,000.00. A year later, the sedan has dropped in value to $5,000.00 and it gets repossessed for non payment. You now have an $8,000.00 deficiency balance on the repossessed sedan. The $8,000.00 deficiency balance quickly grows to over $10,000.00 as a result of accruing interest, court cost and attorneys fees.
Another problem debtor’s face is if the mortgage company chooses to take the deficiency balance as a loss on their taxes. When this happens, the debtor may receive a 1099-C tax form from the Lender for the deficiency balance and the debtor may have to declare the deficiency balance as income. This means the $20,000.00 deficiency balance becomes taxable income to the debtor. If the deficiency balance becomes taxable income then you may be able to fill out tax forms to show you were insolvent at the time and avoid paying the taxes on the deficiency. If you don’t qualify for an insolvency exception, then the tax obligation resulting from the foreclosure deficiency balance may be non-dischargeable in bankruptcy.
In order to avoid having the deficiency balance become a non-dischargeable tax debt or a judgment, you could file for bankruptcy. If the bankruptcy is filed before the debt becomes a tax liability or a judgment then you may be in a better financial position. After your house is foreclosed on, you should determine what it sold for and if there is a deficiency balance. If there is a large deficiency balance, you should consult with a bankruptcy attorney to determine if filing a bankruptcy is your best option. In the vast majority of cases, a bankruptcy can discharge the deficiency balance on both foreclosed houses and repossessed automobiles.
Another place where we see very large deficiency balances is when the debtor breeches a residential or commercial lease. Typically a debtor will sign a lease with a landlord that lasts for several years. When the debtor stops paying rent, the landlord can sue the debtor for, not only for rents that were owed at the time of breech, but also for rents that would come due in the future under the lease. In some cases, a landlord will claim the debtor owes him several hundred thousand in future rent that was to be due under the lease. In cases like this, the debtor is almost always pushed to seek relief in bankruptcy. Often times the debtor will file bankruptcy and list the landlord as one of the creditors. If the landlord files a proof of claim for excessive future rents, the debtor’s attorney will normally object to that Proof of Claim. Typically the court will allow the proof of claim for the payments that were actually missed while the debtor was still in the property and few months of future payments.
The attorneys at John W. Lee, PC have helped thousands of people around the Hampton Roads, Virginia area file for bankruptcy. If you are being sued or garnished by a creditor call us for a free consultation to determine what we can do to help you.
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