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Lien Stripping 101: How to Kill Your Second Mortgage in Chapter 13

We help Debtors keep their homes in a Chapter 13 reorganization by making the mortgage company accept past due payments over time. But even that won’t reduce future payments. That calls for mortgage modification or a lien strip. What’s a Chapter 13 lien strip? Allow me to explain.

The lien strip technique permits Chapter 13 debtors to remove wholly unsecured mortgages from their primary residences. See In re McDonald, 205 F.3d 606 (3 Cir. 2000), which explains a lien strip may only be used by one in Chapter 13; Dewsnup v. Timm, 502 U.S. 410 (1987) explains why Chapter 7 debtors may not take advantage of the lien strip. Not that if joint debtors own their primary residence jointly or in tenancy by the entirety, they must both be in bankruptcy to affect a lien strip.

When is a mortgage wholly unsecured? When a more senior lien accounts for the entire value of the residence and there is no equity to ascribe to that loan. 

Example:  Debbie and Danny Debtor bought a house in 2002 for $150,000 and put down $0; so the first mortgage is $150,000. Over the next few years the house appreciated in value on paper (ahhh, the good old days …) so they naturally took out a pair of $25,000 lines of credit. In 2011 however, their house is worth a mere $100,000 but they still owe $140,000 with respect to their 1st mortgage and $25K a piece on the two HELOCs. Hence the two junior mortgages are wholly unsecured and can be dealt with via lien strip.

Are we lien stripped yet? Hold on cowboy. You’re not done yet. Once you’ve determine that junior liens can be stripped in a Chapter 13 reorganization because they are wholly unsecured, you must make the lien strip happen by filing an adversary complaint against the relevant mortgage companies. Note that not all bankruptcy courts require an adversary complaint – some will allow you to simply bring a motion. We in the Northern District of Illinois are not so lucky. But it can be done.

Is it hard to strip a lien? Depending on your lender, the adversary case may be a slam dunk … or you may have to work for it. We’ve had cases go either way. The key is whether there is a genuine dispute over the value of the property or the status of the mortgage loans (which one came first, etc.). If you’ve got that kind of issue then get ready for a long slog.

Well, that’s all for now intrepid readers. If you’d care for some light reading about Chapter 13 and the history of the lien strip, feel free to peruse the following cases: Holloway v. United States, 01-C-4052, WL 1249053 (N.D. Ill. Oct. 16, 2001); In re Waters, 276 B.R.879 (N.D. Ill. 2002); In re Pond, 252 F.3d 122 (2nd Cir. 2001); In re Bartee, 202 F.3d 277 (5th Cir. 2000); In re Lane, 280 F.3d 663 (6th Cir. 2002); In re Zimmer, 313 F.3d 1220 (9th Cir. 2002); In re Tanner, 217 F. 3d 1357 (11th Cir. 2000).

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