What Happens to Mortgages in Bankruptcy

Filers with a mortgage in foreclosure or significant home equity will turn to Chapter 13 bankruptcy to keep a home, not Chapter 7 bankruptcy. Find out why.

By , Attorney

No one wants to lose their house—and you might not have to if you file for bankruptcy. And even if you lose your home, you won't have to wait as long to qualify for a new mortgage after bankruptcy.

Understanding how Chapters 7 and 13 affect mortgages will help you keep your house in bankruptcy, and improving your credit score after your bankruptcy ends will help you purchase a new home. Here's how it works.

  • In Chapter 7 bankruptcy, you can keep your home if you're current on your mortgage payment, exempt all home equity, and continue paying the mortgage after bankruptcy.
  • In Chapter 13 bankruptcy, you must be able to continue paying your mortgage payment, catch up on any mortgage arrearages, and pay for any nonexempt home equity through the Chapter 13 repayment plan.
  • Most people qualify for a home mortgage within two to four years after completing Chapter 7 bankruptcy, and possibly sooner after Chapter 13.

Technically, a car loan is a "mortgage," too, but we don't discuss car loans in this article. Here's where you'll learn about vehicles in bankruptcy. After you understand what will happen to your home, try out our quick ten-question bankruptcy quiz. It will give you insight into your particular case and can help you spot potential bankruptcy issues fast.



Protecting Mortgages With a Bankruptcy Exemption

You likely already know that the first step to protecting a mortgage is checking whether you can cover your home equity with a bankruptcy exemption. Your state will probably offer one, maybe two bankruptcy exemptions that you can use for your house.

Look for a homestead exemption first. It's the exemption intended to protect home equity. If it isn't enough, your state might offer a wildcard exemption you can use on any property of your choice. Many states will let you stack a wildcard and a homestead exemption together, just be sure the wildcard exemption doesn't exclude real estate.

But what will happen if you can't exempt all of your home equity? The answer will depend on the bankruptcy chapter you file.

What Happens to Mortgages in Chapter 7 Bankruptcy?

Many people would rather file for Chapter 7 because it's quick with most Chapter 7 cases ending after about four months. But Chapter 7 won't help you save a house from foreclosure if you're behind on your mortgage.

Unlike Chapter 13, the chapter that lets you catch up on a mortgage when you fall behind, the Chapter 7 process doesn't have the proper mechanisms necessary to bring a mortgage current. So if you're behind on your mortgage when you file for Chapter 7, you should assume you'll lose the house.

But that doesn't mean you'll always lose your house when filing for Chapter 7. Here's what you'll need to do to keep your home:

  • Be current on your mortgage. When you buy a home using a mortgage instead of cash, the mortgage lender wants to be sure you'll pay as agreed. So you must agree to give the mortgage lender a lien on property you purchase with a mortgage. The lien rights let the lender take your home if you fall behind on the mortgage payment. For instance, suppose you're not current on the mortgage when you file bankruptcy. In that case, the lender can ask the court to lift the automatic stay order stopping collections or wait until the bankruptcy case closes to foreclose on the mortgaged property.
  • Protect all equity with an exemption. If you can't protect all of your home equity, the Chapter 7 trustee will sell the home and refund you the exemption amount. Anything remaining after sales costs and the trustee's fee goes to creditors.

Even if you can meet both Chapter 7 requirements, you'll want to learn about the valuable benefits available in Chapter 13. You might find other enticing reasons to file for Chapter 13, such as reducing the amount owed on the mortgage.

What Happens to Mortgages in Chapter 13 Bankruptcy?

Unlike Chapter 7, the Chapter 13 trustee won't sell any of your property, even if it's "nonexempt" and you can't protect it with a bankruptcy exemption. But that doesn't mean you get to keep more property in Chapter 13 than Chapter 7. Instead of the trustee selling the property and paying creditors, you'll pay creditors to keep the nonexempt property through the Chapter 13 plan.

Here's what you have to do to protect your mortgage and keep a house in Chapter 13:

  • Pay the monthly mortgage payment and arrearages through the plan. You must have enough income to cover the monthly mortgage payment, plus catch up on any outstanding mortgage arrearages. You can spread the overdue portion of your mortgage payment over the plan length.
  • Pay for nonexempt equity. You can exempt equity in Chapter 13 using the homestead exemption and possibly a wildcard exemption. But if the available bankruptcy exemptions don't cover all of the home equity, you'll reimburse creditors the nonexempt amount through the plan.

This might sound simple, but calculating a Chapter 13 repayment plan can be tough. Not only will you pay for any other nonexempt property you own, but you'll also pay some debts in full—like tax balances and support arrearages. You'll pay even more if your disposable income is high.

Reducing a Mortgage in Chapter 13 Bankruptcy

Can someone really reduce a mortgage balance in Chapter 13? Absolutely. But it's not easy. Here's how lien stripping and loan cramdowns work to reduce mortgages in Chapter 13.

  • If the mortgaged property is your residential home, and you can prove that you owe more on the mortgage than your home is worth, you can strip off a wholly unsecured junior mortgage loan. A mortgage loan is unsecured if, after selling the house, not one penny would be available to pay toward the stripped loan.
  • If the mortgaged property isn't your residence, such as a rental property, the rule is different. You can reduce the mortgage amount to reflect the property's value. But—and this is a big one—you must pay off the entire reduced mortgage balance in the repayment plan.

These options are tricky and require you to present admissible evidence of the value of your home and the amount owed on the mortgage at a motion hearing or adversary proceeding. A local bankruptcy lawyer can help you determine whether your property would qualify for a balance reduction.

Getting Your Lender to Modify Your Home Mortgage Loan

The lender might modify your home mortgage loan so that the payments are more affordable. Your local bankruptcy lawyer will be in the best position to explain your options.

Getting a Mortgage After Your Bankruptcy Case

One of the benefits of bankruptcy is that it erases debts and puts you in a better position to qualify for a home. Lenders have different qualification requirements, but if you improve your credit and have enough income to pay a monthly mortgage payment, you'll likely qualify after four years at the outset. Many people qualify even sooner. Learn more about getting a mortgage after bankruptcy.

Navigating Your Bankruptcy Case

Bankruptcy is essentially a qualification process. The laws provide instructions for completing a 50- to 60-page bankruptcy petition, and because the rules apply to every case, you can't skip a step. We want to help.

Below is the bankruptcy form for this topic and other resources we think you'll enjoy. For more easy-to-understand articles, go to TheBankruptcySite.

More Bankruptcy Information

Bankruptcy Forms and Document Checklist

Schedule A/B: Property

Schedule C: The Property You Claim as Exempt

Statement of Intention for Individuals

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We wholeheartedly encourage research and learning, but online articles can't address all bankruptcy issues or the facts of your case. The best way to protect your assets in bankruptcy is by hiring a local bankruptcy lawyer.

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