Question:

Are credit union Home Equity and/or Second Mortgages subject to modification by a debtor’s Chapter 13 Plan?

Answer: Yes.

In the U.S. Bankruptcy Courts located within the Sixth Circuit Court of Appeals, and applicable to the Federal Bankruptcy Courts located within the State of Michigan, this issue is currently governed by the rulings in the case of George E. Lane and Sherry A. Lane, Appellants, vs. Western Interstate Bancorp, 280 F.3rd. 663.

In this case, the court held that Chapter 13 debtors are allowed to modify the rights of a creditor with a mortgage secured by the debtors principal residence if the outstanding security interest is, in effect, wholly without equity securing the Home Equity mortgage beyond the outstanding balance owed on the superior first mortgage, thereby rendering the credit union claim to the Chapter 13 Trustee as a wholly unsecured loan to be re-paid by the Chapter 13 trustee at whatever low percentage rate the other unsecured creditors receive.

Question:  How can the credit union protect its mortgage from being modified and classified as an unsecured claim?

Answer:  The credit union has several options.

The Debtors Chapter 13 Plan and schedules will reveal if the Debtors Chapter 13 Plan is going to attempt to classify the credit union mortgage as an unsecured claim.

Debtors estimated appraisal amount or other valuation provided by the Debtor may not be reasonably relied upon by the credit union as reflecting an accurate valuation of the property and, the credit union should, therefore, obtain a full interior/exterior appraisal of the Debtors residence.

The Debtor will be required to permit the credit union appraiser access to the property. The nominal cost for this appraisal could save the credit union thousands in losses. The appraiser obtained by the credit union must be willing to testify in court as to the findings.

Heres How:

If the appraised market value of the property exceeds the debtor valuation and creates any equity, regardless of the amount of equity, then the entire credit union mortgage may be classified as totally secured and not subject to this type of modification.

The court noted that: If the lien were only partially under water (i.e. if the second mortgagee’s claim had a secured component, being  unsecured only in part), the Supreme Court’s decision in Nobelman v. American Savings Bank, 508 U.S. 324, 113 S.Ct. 2106, 124 L.Ed.2d 228, teaches that the rights of the lienholder would not be subject to modification.

It is incumbent upon the credit union to promptly supply your attorney with a copy of the notice of bankruptcy filing when received by the credit union, so that the Chapter 13 Plan may properly be analyzed to determine if this type of procedure should be implemented so that, if not resolved, the court would conduct a hearing on the principal residence valuation to determine if the entire balance owing will be classified as secured or wholly unsecured. Such a determination could significantly reduce or eliminate an otherwise unnoticed  prevention of a significant loss to the credit union.

If a claimant’s lien on debtor’s homestead has a positive value, no matter how small in relation to the total claim, the claimant holds a

“secured claim” and the claimant’s contractual rights under the loan documents are not subject to modification…. See Lane vs. Western Interstate Bancorp., 280 F 3rd 663 at 664.

It is important to note that the prohibition against modifying the interests of a secured creditors mortgage applies only to the debtors principal residence.

Thus, mortgages held on vacation/second homes, rental property and vacant land may be crammed down the same as other assets, subject to other limitations as set forth in 1325(a) of the Bankruptcy Code.

By:  Charles R. Harroun,  Attorney at Law