Sometimes a person will inherit a property where the mortgage payments are behind, and the property is being foreclosed on. In many cases, the new owner will just catch up the mortgage payments or pay off the balance to avoid foreclosure. Sometimes the new owner will decide the property is not worth catching up the payments and just allow the foreclosure to proceed. If the new owner did not co-sign the mortgage, then he is not responsible for the mortgage debt on the deceased’s property. Often, the new owner really wants to “save” the property from foreclosure but cannot afford to catch up the payments. In these cases, the new owner may attempt to file a bankruptcy to stop the pending foreclosure on the property that they just inherited or came to own by some other means.
Filing a bankruptcy to stop a foreclosure on a property that you own but where you are not responsible for the mortgage is not straight forward. In other words, you now own the property through inheritance, intestate succession, or deed transfer, but the mortgage debt is still only in the prior owner’s or deceased’s name. In this case, the question becomes can you file bankruptcy to restructure the debt of another person? Not surprisingly, there is a split of authority on this issue. Some courts have ruled that you may not restructure a debt in Chapter 13 bankruptcy where there is no privity of contract between you and the mortgage lender. Other courts have ruled that you can restructure the debt of a mortgage lender to which you have no privity of contract, if they have a lien on a property that you now own.
Prior to 1991 there really wasn’t any division among the courts on this issue; all courts agreed that you could not restructure a debt in bankruptcy unless you were personally liable to pay that debt. In 1991 the Supreme Court ruled in Johnson v. Home State Bank, 501 U.S. 78, that a person who had been relieved of all personally liability for his mortgage could still file a Chapter 13 bankruptcy and restructure the mortgage arrears into a payment plan. In the Johnson case, the Chapter 13 debtor who was trying to restructure the mortgage debt, was the same person who initially took out the loan, even though he had discharged the debt in a previous Chapter 7 bankruptcy.
After the Johnson decision, some courts began to broadly construe the Supreme Court’s ruling to mean that a Chapter 13 debtor could restructure any secured debt attached to their property even if there was no personal liability. So, in these jurisdictions, if you inherit a property with a mortgage in default, you may
be able to file a Chapter 13 bankruptcy to restructure the balance owed to avoid a foreclosure.
The Court in In re Escue, 184 B.R. 287 (Bankr, M.D., Tenn. 1995), where the debtor filed for bankruptcy after his mortgage note had fully matured and become due and payable, wrote, “. . . this Court concludes, that based upon the legislative history, the stated objectives of Chapter 13, and Congress’ preference for a Chapter 13 filing rather than a Chapter 7, that Congress intended to allow debtors to cure a mortgage indebtedness which mature or ballooned prepetition by providing for full payment of to the mortgager over the life of the Chapter 13 Plan.”
The Court in Wilcox, In Re Wilcox, 209 B.R. 181 (Bankr. E.D.N.Y. 1996), where the debtor inherited a house subject to a reverse mortgage, wrote, “Wendover holds a “claim” within the meaning of § 1322(b)(2), (5) and (6) against the Debtor’s estate, even though no privity of contract ever existed between Wendover and the Debtor, and consequently, the Debtor may repay the claim owing Wendover as part of his Chapter 13 plan of reorganization.”
These two decisions, expanding on Johnson, essentially held that a debtor can include a debt in his Chapter 13 where there is no privity of contract between the debtor and lender, or where the entire mortgage has come due and payable in full. These decisions have been followed by numerous other courts across the country. In both of these situations the debtor would likely have to repay the entire debt within the five years of the Chapter 13 plan.
In a case where the borrower deeded a property to a debtor after a default on the mortgage, the bankruptcy court in In re Rutledge (Bankr.E.D.N.Y.1997) wrote, “After a careful reading of the decisions of the bankruptcy courts that have dealt with this issue, this Court is persuaded by, and agrees with, the decisions that have followed the reasoning in Johnson and applied it to situations in which a transferee-debtor who is not the original obligor under a mortgage, and who is without any personal liability under the mortgage, may still treat the claim of the mortgage arrears in a Chapter 13 plan.”
In City Corp. Mortgage v. Lumpkin (Matter of Lumpkin) (Bankr.D.Conn.1992) the bankruptcy court ruled that a debtor who had received property from her mother and had no privity of contract with, or personal liability owed to the lender could restructure her mother’s mortgage arrears in her Chapter 13 plan.
In both Rutledge and Lumpkin, the bankruptcy court allowed a debtor that had no privity of contract with the mortgage lender to include mortgage arrears in a Chapter 13 repayment plan, when the debtor’s house was in jeopardy of foreclosure. In both of these cases the debtor was to continue paying the regular monthly mortgage payments directly to the lender, outside of the bankruptcy plan.
Not all bankruptcy jurisdictions agree with how the courts in Rutledge and Lumpkin broadly interpreted the Johnson decision, allowing for the repayment of mortgage arrears on a debt owed by a third-party.
Many jurisdictions do not allow a debtor to restructure a third-party debt in the Chapter 13 plan where there is no privity of contract between the debtor and lender. You are not likely to find a Court in the Eastern District of Virginia that will interpret Johnson in the same way as Rutledge and Lumpkin.
Even if you live in one of these jurisdictions you may still choose to file a bankruptcy and list the lender to be paid through the plan. If the lender objects to your proposed repayment plan, then confirmation of your plan will likely be denied, and the lender would likely proceed with a foreclosure sale.
In this case, you may have a failed bankruptcy on your credit report and still lost the house. But if the lender does not file an objection to confirmation, then you may be permitted to restructure the debt even if it’s not in your name. Sometimes lenders do not file an objection to confirmation in these situations, either due to simply missing a deadline or they decide there is a high likelihood of the bankruptcy being successful and are willing to wait and see.
If you are considering bankruptcy to repay a mortgage debt owed by the previous owner of a house that you inherited, you should seek legal counsel. If the balance owed on the mortgage is small enough that you can repay the entire amount (not just the arrears) during the five-year Chapter 13 repayment plan, then you may have a greater chance of success.
However, if you are attempting to pay only the arrears in the Chapter 13 bankruptcy, then the mortgage company may object to your proposed plan depending on what jurisdiction you live in. In jurisdictions that do not follow the Rutledge and Lumpkin interpretation of Johnson there is substantial risk (at least to your credit score) when filing a bankruptcy to stop a lender from foreclosing on a mortgage for which you have no personal liability.
Filing a bankruptcy to stop a foreclosure on a property that you inherited but have no privity of contract with the lender is tricky and should not be attempted without the assistance of counsel. The Lawyers at John W. Lee, PC can help you determine if you should risk filing a bankruptcy to protect a piece of real estate where the previous owner’s lender is attempting a foreclosure sale.