The History of Student Loans and Bankruptcy

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Student loans are basically non-dischargeable, almost everyone knows this.  There are some very specific circumstances where even today you can have your student loan debt discharged, but that is a narrow exception that often requires a fight and money to fight.  We will discuss the current state of dischargeability in a future post.

The landscape around student loans and bankruptcy has not always been so desolate.  Not so long ago student loans were dischargeable.  Back when they were dischargeable, the cost of an education was much lower and the total student loan debt was a fraction of what it is now.   With student loans currently being a 1,200,000,000,000.00 (One Trillion Two Hundred Billion) dollar problem holding people back from purchasing homes or taking part in the broader economy, with a little help they may become dischargeable yet again.

A Brief History.

Student loans really did not pop into existence in America until 1958 under the National Defense Education Act. 2.  These loans were offered as a way to encourage students to pursue math and science degrees to keep us competitive with the Soviet Union. 3.  In 1965, the Guaranteed Student Loan or Stafford Loan program was initiated under the Johnson Administration.  Over time, additional loan programs have come into existence.  The necessity of student loans has become greater as the subsidies universities receive have fallen over time.  Take Ohio State for example.  In 1990, they received 25% of their budget from the state, as of 2012 that percentage had fallen to 7%. In the absence of state money, universities and colleges have increased tuition to cover the reduction in state money. 4.

The Rising Cost of Education.

The cost of higher education adjusted for inflation over time goes something like this, in 1980 the average cost for tuition room and board at a public institution was $7,587.00 in 2014 dollars and by 2015 it had gone up to $18,943.00 in 2014 dollars.  The cost of a higher education in 35 years with inflation accounted for has gone up by 2.5 times.  Compare this to inflation adjusted housing costs which have remained nearly unchanged, increasing just 19% from 1980 to 2015 when the bubble and housing crisis is removed. 5.   Or  compare to wages which, except for the top 25%, have not increased over that same time period.6.    Looking at affordability in terms of minimum wage it is clear that loans are more and more necessary for anyone who wants to attend university or college.  In 1981, a minimum wage earner could work full time in the summer and make almost enough to cover their annual college costs, leaving a small amount that they could cobble together from grants, loans, or work during the school year. 7.    In 2005, a student earning minimum wage would have to work the entire year and devote all of that money to the cost of their education to afford 1 year of a public college or university. 8.   Now think about this, there are approximately 40 million people with student loan debt somewhere over the 1.2 trillion dollar mark.  According to studentaid.gov, seven million of those borrowers are in default, that is roughly 18%.  Default is defined as being 270 days delinquent on your student loan payments.  Once in default, the loan balances increase by 25% and are sent to collections.  The collections agencies get a commission on collected debt and are often owned by the very entity that originated the loans, i.e. Sallie Mae.  See, http://www.studentloanborrowerassistance.org/collections/collection-agencies/fees/

The Building of the Student Debt Prison.

Prior to 1976 student loans were dischargeable in bankruptcy without any constraints.  Of course, if you look back at statistics from that time, there wasn’t much student loan debt to speak of.  When the US Bankruptcy Code was enacted in 1978, the ability to discharge student loans was narrowed.  Back then, in order to have your student loans discharged, you had to be in repayment for 5 years or prove that such a repayment would constitute an undue hardship.   The rationale for narrowing the discharge was that it would damage the student loan system as student loan debtors flocked to bankruptcy to have their debt discharged.  The facts, however, did not support this attack.  By 1977 only .3% of student loans had been discharged in bankruptcy.9.    Still, the walls continued to close on student loan debtors.  Up until 1984, only private student loans made by a nonprofit institution of higher education were excepted from discharge.10.  Next with the enactment of the Bankruptcy Amendments and Federal Judgeship Act of 1984, private loans from all nonprofit lenders were excepted from discharge.  In 1990, the period of repayment before a discharge could be received was lengthened to 7 years.11.    In 1991, the Emergency Unemployment Compensation Act of 1991 allowed the federal government to garnish up to 10% of disposable pay of defaulted borrowers.12.    In 1993, the Higher Education Amendments of 1992 added income contingent repayment which required payments of 20% of discretionary income to be paid towards Direct Loans.13.  After 25 years of repayment the remaining balance was forgiven.  In 1996 the Debt Collection Improvement Act of 1996 allowed Social Security benefit payments to be offset to repay defaulted federal education loans.14. In 1998, the Higher Education Amendments of 1998 struck the provision allowing education loans to be discharged after 7 years in repayment.15.  In 2001, the US Department of Education began offsetting up to 15% of social security disability and retirement benefits to repay defaulted federal education loans.  In 2005, “the law change” as we call it in the Bankruptcy field further narrowed the exception to discharge to include most private student loans.  Since private student loans were given protection from discharge in bankruptcy there has been no reduction in the cost of those loans.16.   If the rational for excepting student loans from discharge is that the cost to students to obtain loans would soar, this fact would seem to lay waste to that argument.

In the wake of the slow march towards saddling our students with unshakable debt, the government created a couple of ways to deal with government backed student loans outside of bankruptcy.  In 2007 the College Cost Reduction and Access Act of 2007 added income based repayment which allows for a smaller repayment than income contingent repayment, 15% of discretionary income and debt forgiveness after 25 years.17.  In 2010, the Health Care and Education Reconciliation Act of 2010 created a new version of income-based repayment cutting the monthly payment to 10% of discretionary income with debt forgiveness after 20 years.18.  This new improved income based repayment plan is only for borrowers who have no loans from before 2008.  Further, those with loans in default, will not qualify for income based repayment unless they first rehabilitate those loans.  If you are interested in seeing if your loans qualify for income based repayment or income contingent repayment please visit https://studentaid.ed.gov/sa/repay-loans/understand/plans/income-driven.    Unfortunately, none of these programs do anything to deal with private student loans, a growing problem currently at around $200,000,000,000.00 (Two Hundred Billion) or around 16% of the total student loan debt.19.

What Can We Do?

The cost of education is relentlessly marching upward, the need for a higher education to earn a living wage is only becoming greater, and the ability of our graduates to repay these loans is diminishing. Why is the cost of education outpacing inflation by so much?  Why are state and local governments reducing funds they used to devote to college students?  These are questions that need to be addressed as well.  My focus is on the unavailability of a real discharge option is weighing down the rest of the economy.  This is a problem.  On September 8, 2015, Michigan Congressman Dan Kildee introduced a bill in Congress intended to reduce the burden on students and their families caused by the increasing costs of education and the financial stress of student loans.20.  The proposed legislation would do away with the exception to discharge listed in 11 U.S.C. § 523 (a)(8).  If you want to have your say on this issue, call your congress person today and let them know that where you stand on H.R. 3451.

I welcome a friendly discussion on these issues.  Comment away.

All the Best,

Steven Palmer, Esq.
Licensed in WA and OH
http://www.curtislaw-pllc.com

  1. http://www.eoionline.org/blog/the-great-cost-shift-college-was-once-a-ticket-to-opportunity-now-its-a-roadblock/
  2. P.L. 85-864; 72 Stat. 1580
  3. http://www.studentdebtrelief.us/news/rising-tuition-costs-and-the-history-of-student-loans/
  4. http://www.nytimes.com/2012/05/13/business/student-loans-weighing-down-a-generation-with-heavy-debt.html?pagewanted=all&_r=0
  5. http://www.multpl.com/case-shiller-home-price-index-inflation-adjusted/
  6. http://www.advisorperspectives.com/dshort/updates/Household-Income-Distribution.php
  7. Student Debt: Bigger and Bigger, Center for Economic and Policy Research by Heather Boushey (Sept. 2005).
  8. Boushey (Sept. 2005)
  9. http://harvardlawreview.org/wp-content/uploads/pdfs/vol126_student_loan_exceptionalism.pdf
  10. www.finaid.org/questions/bankruptcyexception.phtml
  11. Crime Control Act of 1990, P.L. 101-674, 11/29/1990
  12. P.L. 102-164, 11/15/1991
  13. P.L. 102-325, 7/23/1992
  14. Debt Collection Improvement Act of 1996, P.L. 104-134, 4/26/1996
  15. P.L. 105-244, 10/7/1998
  16. http://harvardlawreview.org/wp-content/uploads/pdfs/vol126_student_loan_exceptionalism.pdf
  17. P.L. 110-84, 9/27/2007
  18. P.L. 111-152, 3/30/2010
  19. http://www.forbes.com/sites/specialfeatures/2013/08/07/how-the-college-debt-is-crippling-students-parents-and-the-economy/
  20. http://www.ncbrc.org/blog/2015/09/15/proposed-bill-eliminates-student-loan-discharge-exception/
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The Dos and Don’ts of Filing a Bankruptcy

Alright, you have it in mind that filing bankruptcy is going to help you to reach your goal of a fresh start.  Now what?  Well, you need to find a good bankruptcy attorney to help you file, but besides that, there are some dos and don’ts of filing that we will take a look at in this post.  The last thing that you want to have happen is to have your discharge denied or revoked because you did something that you shouldn’t have done.

What to do before you file:

  1. Do find a good, experienced bankruptcy attorney.  You can do this by looking around on the internet and going to a free consultation to see what the attorney has to say.  I recommend that you visit the attorney finder page of the National Association of Consumer Bankruptcy attorneys.  That link is http://www.nacba.org/find-an-attorney/ You can also find bankruptcy attorneys at http://www.avvo.com and then search for a bankruptcy attorney in your area.
  2. Do get all of your documentation in order.  It will be very valuable to your attorney and will save you time at his or her office if you have the following documents before you go in:  Paystubs for the last 7 months, bank statements for the last 2 months, tax returns for the last 2 years, copies of the most recent retirement account statements, most recent statements for car or home loans, credit reports, divorce decree or separation agreement and a list of everything that you own.  Also if you have any pending lawsuits, or if you could sue someone be ready to let your attorney know about those suits.  Your attorney may require more or less documentation, but if you have all of this, you are well on your way to getting filed.
    1. You can get your credit reports for free by going to www.annualcreditreports.com
    2. If you cannot find your taxes for the last two years you can request them at www.irs.gov.
  3. Do be honest and forthcoming with all of the questions that your attorney asks you.

What NOT to do before you file.

  1. Do not pay back friends or family members.  Everyone you owe must be listed in the bankruptcy schedules.  The debt would get discharged.  If you wanted to voluntarily pay them back, do it after the bankruptcy.
  2. Do not transfer any items out of your name prior to filing without consulting with an attorney.  The trustee could view this as a fraudulent transfer and look to undo it in the bankruptcy.
  3. Do not buy anything worth more than $500.00 in credit in the 3 months leading up to the bankruptcy.
  4. Do not pay any one creditor more than $600.00 in the 3 months leading up to the bankruptcy.
  5. Do not take out payday loans of more than $750.00 in the 70 days leading up to the filing of the bankruptcy.
  6. Do not go on an expensive vacation prior to the filing.
  7. Do not spend your money on items that are not reasonable or necessary before filing bankruptcy.
  8. Do not freak out.  Bankruptcy is really not that bad.

If you have done anything on the DO NOT list, contact an attorney and see what you need to do before you file.

Best of Luck,

Steven M. Palmer
Licensed in WA and OH
http://www.curtislaw-pllc.com

Bankruptcy and Your Credit Score

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One of the biggest concerns for my clients is how their credit will be affected by filing for bankruptcy.  Everyone knows there is some impact.  Most disagree as to the size or the duration of the impact. That, and how to rebuild are two things I hope to shed some light on in this post.

What if I just grin and bear it?

A question you should ask your self is, “What is going to happen to my credit score if I don’t file bankruptcy?”  For many people contemplating bankruptcy, they are already at the point where they are not able to pay their ongoing debt obligations.  If this is you, your credit score is taking a hit every month that goes by where you aren’t making your monthly payments.  To give you an idea, once you go 30 or 60 days late, your credit score starts to take a hit.  If you let a payment get to the point where it is 90 days late, it will stay on your credit report for up to 7 years and will have a significant impact on your score.  Having just a couple of these occurrences could be as damaging or more damaging than filing a bankruptcy in the first place.   Because of this, once you recognize that you aren’t going to be able to find a quick way out of the situation, it is probably best to get the bankruptcy wheels moving.  The higher your score is before the filing of the case, the higher it is going to be after you file the case and get your discharge.

Debt Consolidation Companies and Your Credit.

Many people try to do whatever they can to avoid bankruptcy, for some people this includes entering into agreements with debt consolidation companies.  These companies come in a variety of flavors.  That is a topic for another time though.  What many of them will do is enter into an arrangement with you where you make a monthly payment to them, then they either hold the money until they have enough to make an offer on any one particular debt, or they make small monthly payments to all of the creditors at once.  The problem is, this doesn’t stop those creditors from negatively reporting to the credit bureaus.  It also doesn’t necessarily stop the creditors from suing you in state court, obtaining a judgment, and garnishing your wages.  Another problem is that if they do settle, it will show up as settled for less than full amount which hurts your score.  On top of that, if you settle, you will likely get a 1099 from the company and likely will have to claim the forgiven amount as income on your taxes.  That will either mean you will have a smaller refund or will owe.

How long does it stay on your report and what does that mean to you?

First of all, if you are in a tough financial spot and are having trouble paying your rent or making your house payment, this should not be a factor in your decision to file.  That said, how long it stays on your report and how long the bankruptcy notation negatively affect you are two very different things.  If you file a Chapter 7 bankruptcy, it is generally going to stay on your report for 10 years.  If you file a Chapter 13 bankruptcy, that will stay on your report for 7 years after the case is discharged.  Seven to ten years seems like a long time.  It is a long time, but within that seven to ten year period you can still buy cars, houses, and get credit.  The general rule is about two years after a chapter 7 you can get a home loan (sometimes only one year), almost immediately after the case you can get car loan and credit cards. Not too bad right? You should tread lightly here.  Look at the offers you are receiving and only accept the best, it isn’t going to help you if you start applying for many cards at once, limit it to one or two at the most.  When you can get credit is going to be dependent on your income, and on your credit score. I have seen clients with scores in the 500s prior to filing a Chapter 7 have scores in the 700s one year after the case discharged.  On the other hand, I have seen other clients with low scores come back a few years later and they still had low scores.  So what is going on there?

How to improve your score after bankruptcy.

If you do as you did and nothing else has changed, your credit score is probably not going to change much.  The lowest that your score could possibly be is between 300 and 403 depending on the type of FICO score. The highest that it can be is about 850 but that too depends on the type of score. If you use no credit your score isn’t going anywhere.  So what can you do?  The first thing that I recommend is going to www.annualcreditreport.com and getting all three reports for free.  This is something you are able to do once a year.  Once you have these, you will want to review them, possibly with the help of your attorney to determine if the credit reporting agencies are properly reporting your debts as discharged in bankruptcy.  If they aren’t accurate and they refuse to fix the errors, you may have remedies either through your old bankruptcy case, or a cause of action under the Fair Credit Reporting Act (FCRA).  Once your report is in order, you can start rebuilding.  A good idea is to start with a secured credit card or with a store brand card.  With a secured card, the creditor generally has you put down $300.00 to $500.00 and that becomes your credit limit.  There is very little risk to the card holder because they have the security of your deposit, but the benefit to you is that they will report to the credit bureaus.  If you are in need of a car, a car loan with a reasonable payment is another great way to improve your credit score so long as you are able to and actually do make your payments on time.  My secret credit score repair weapon is IBR.  If you have federal student loans and you are low income or living paycheck to paycheck, you should at least look into this program.  IBR stands for Income Based Repayment, you can apply for it at the following site.  https://studentaid.ed.gov/sa/repay-loans/understand/plans/income-driven.  The great benefit of this plan is that many people who had filed bankruptcy may be eligible for $0.00 payments.  If you are eligible and you sign up for, and are approved for a $0.00 or whatever payment, each month that passes where you make that payment (yes, even the zero dollar payment, if you are eligible) is a month that your lender reflects as an on time payment to the credit bureaus.  The more on time payments you have, the better your credit score will become.

Best of Luck,

Steven Palmer, Esq.

Licensed in Ohio and Washington

Bankruptcy and your Vehicle

The bill collectors are calling you and everyone you know, your wages are about to be garnished and you can barely pay the necessities.  You know you need to file bankruptcy.  So what is stopping you, the fear of losing your car, truck, or motorcycle?

In most cases when you file bankruptcy you can keep your vehicle.  Of course, it is a little more complicated than just file bankruptcy don’t worry about your car.  This article will explore several scenarios I have dealt with in the past dealing with bankruptcies and client’s vehicles.  Motorcycles come with a caveat, here it is…Motorcycles are slightly different from other vehicles in that they can been classified as non necessity luxury items so contact your attorney to see what your specific options are regarding motorcycles.

Scenarios in a Chapter 7 Fresh Start Bankruptcy.

Scenario 1. You owe nothing on the car and it is not worth that much.  You do not make enough money to cover even your basic needs, you have a car and you do not want to lose it.   Chances are if you have a car in this situation you own it outright.  Whether you can keep it or not will depend on the value of the car.  In Washington, for example, the automobile exemption for an individual is $3450.00.  Washington also allows a wildcard exemption of $3000.00.  If your car is worth $4500.00 in its current condition, an individual could use the full motor vehicle exemption and then use $1050 of the wildcard.  That will fully protect your car and still save $1950.00 of your wildcard.  Your car is safe.

Scenario 2. You owe nothing on the car but it is worth more than the exemption value.  This is the most complicated scenario in a chapter 7 bankruptcy and may be better dealt with in a chapter 13.  Nevertheless, there are options in a chapter 7.  Let’s say the car is worth $10,000.00.  As discussed above, you can use the current vehicle exemption of $3450.00.  You can then add to that the wild card exemption of $3000.00.  That protects $6450.00 of value in the vehicle. meaning that you have $3550.00 unprotected.  Now we have a couple of options.  You could: 1) Let the trustee take and sell the vehicle and use the proceeds to pay off some of your creditors.  If you do this, the trustee will cut you a check for $6450.00 and use the $3450 that is unprotected to pay some of your creditors.  You could then use this money to help get a new car or to buy a used car outright.  2) Try to work out a deal with the trustee to repay the unexempt equity.  Trustees are usually willing to work out a reasonable payment plan to allow you to keep something like a vehicle.  Common terms might be to pay back the equity in six equal installments, or to make a down payment with a monthly payment that ends in a larger payment when you get your tax refund.  You need to be careful with this useful arraignment, if you default on your payments your discharge could be denied or revoked. 3) Try to get a new loan on the car after the bankruptcy is finished which would allow you to pay the equity to the trustee.  You would then have a car payment to pay the newly incurred loan.

Scenario 3. You owe less on the car than what the car is worth.  If you are looking to file a chapter 7 to obtain a fresh start and avoid making a chapter 13 trustee payment, you should be able to protect that car.  Say the car is valued at $15000.00 and you still owe $12000.00.  In this case you have $3000.00 in equity.  Because the automobile exemption is worth more than the equity you have in the vehicle, your car will be protected.  You will need to speak with your attorney about what to do during and after the case, but you will need to maintain your loan payment if you wish to keep the vehicle.

Scenario 4.  You owe more on the car than it is worth.  In this scenario you might owe, for example, $15000.00 on a car that is only worth $7000.00.  You have several options under this scenario.  You could: 1) decide to let go of the car.  Why pay more than double the value of anything?  You could surrender the vehicle and then look to purchase a vehicle with better terms after the discharge; 2) You could continue to pay on the vehicle at the terms provided in the loan agreement; 3) We could seek a redemption loan whereby you get a new loan that is only up to the value of the car in its current condition.  In this case you need to qualify for the new loan and there may be additional attorney’s fees but it could potentially save you a lot of money and keep you in a car that you love.

Scenario 5. Bonus Scenario!  You have unexempt equity in your vehicle but you also have tax liens which attach to personal property.  This one is a little tricky, but if you have no other equity in any other property and the amount of the tax lien is greater than the unexempt equity in your vehicle, the trustee is not likely to bother with you or your vehicle.  The down side to this is that if they were to take and sell the car for the unexempt equity, they would then use that money to pay off or to pay down your tax lien.  If the trustee leaves you and your vehicle alone, you are still going to have to find a way to deal with those taxes once your bankruptcy is done.

Scenarios in a Chapter 13 repayment plan bankruptcy:

Scenario 1. You owe nothing on your car and it is worth less than the exemptible amounts.  Under this scenario, your vehicle would have no impact on your chapter 13 plan payment.

Scenario 2. You owe nothing on your car but it is worth more than the exemptible amounts.  Under this scenario, we have to offer the unexempt value to the creditors in the form of your trustee payment.  While this goes beyond the scope of this article, we can pay the unexempt value by way of the trustee payment over a period of time lasting as long as 60 months.  This is a valuable tool if you have a car that is worth a lot of money and you cannot bear to part with it.

Scenario 3. You owe money on the car and you want to keep it.  This scenario gets complicated depending on whether the loan on your car was taken out at the time that you bought the car.  It also matters as to how long ago you bought the car.  If you bought the car more than 910 days ago, we can cram down what you pay on the car based on its current value.  So say that you owe $15000.00 on the car but it is only worth $7000.00, we can propose a plan that only pays that creditor back $7000.00 as a secured claim.  We can also lower the interest payment on the car depending on the rate that the loan is for and depending on the jurisdiction.  If you bought the car less than 910 days ago, we may still be able to lower the interest rate that you pay on the car, but the full dollar amount of the outstanding loan would have to be paid back as a secured creditor.

Scenario 4.  You owe money on the car and you just do not want it any more.  In this scenario a chapter 13 can also be a good option depending on what the rest of your financial situation looks like.  We can propose a plan that surrenders the collateral.  The lien holder will come and get the car.  They then have to sell it and credit your account for the amount of the sale.  In the chapter 13 they are then able to file an unsecured claim for the remaining balance.  The benefit to you though is that you will end up paying less than you owed (possibly zero) and paying no further interest on the loan.

Conclusion:  As you can see, there is no simple answer to what happens to a car in a bankruptcy.  The good news though is that there are many options that allow you to keep your vehicle and still other options that will allow you to escape from a bad deal.  If you find yourself in financial difficulty and the thought of losing your only car is stopping you from filing, call your local bankruptcy attorney to discuss which option might be best for you.

The Intersection of Bankruptcy and Loan Modifications (Loss Mitigation).

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Source: The Intersection of Bankruptcy and Loan Modifications (Loss Mitigation).

Is your house in in foreclosure and you have been working with the mortgage company for months to try and get a loan modification which could solve the issue? Does the mortgage company seem to be dragging their feet, asking you for the same documents over and over and yet you do not seem any closer to actually accomplishing anything? Now seemingly out of the blue there has been a notice of Trustee/Sheriff’s sale. You panic. There is an option that will save your house and enable you to continue to work on obtaining a loan modification. That option is a chapter 13 bankruptcy. The chapter 13 will stop the sale now and give you a repayment plan which if you complete will put you right where you should be with your mortgage (your mortgage will become current). The filing of the chapter 13 does not mean that loan modifications are not possible, but if you had already started, you will likely have to begin again. This time, however, there will be no threat of losing your home. If on the other hand, you are surrendering the home, there are still option you should pursue while you are in the bankruptcy.

After you file the case and the sale is stopped, you can then restart the loan modification proceedings by requesting a loss mitigation package from the lender or servicer. When you do this they usually send out a “waterfall” package. This is an application that would check for eligibility for a HAMP loan modification, an in-house modification , eligibility for a shortsale, and eligibility for a deed-in-lieu of foreclosure, and possibly eligibility for a short payoff. This post will explore all of those options and additional loan mod options other than HAMP.

After you receive the loss mitigation package, it is important to make sure that you have all of the requested paperwork together prior to sending it to the mortgage company or servicer.   They will generally ask you for 2-3 months of bank statements, a Dodd-Frank Certification signed and dated, copies of your most recent pay stubs for 2 pay periods to 3 months or longer, a form 4506-T form signed and dated with your phone number and filled out correctly, copies of your last two years of taxes, and a hardship letter. A number of those are self-explanatory, some of them are probably unfamiliar. The Dodd-Frank Certification just needs signed and dated, no big deal there. The 4506-T form has to be filled out perfectly or your loss mitigation application process will be delayed by months. You really need to check with your attorney to ensure that you are filing it out correctly. Generally, you need to fill out the top completely, select the type of transcripts that you want them to send the mortgage company, you need to list the years that you want them to send, it is generally 3 years and they generally want the date format to be 12/31/2012, 12/31/2013, 12/31/2014 for example. You then need to sign it, date it, and put your phone number next to the signature line. As for the hardship letter, it should indicate why you began to fall behind on your mortgage, and when or why that hardship is or has ended so that you will be able to make some payment in the future.

Part of the application process also requires you to fill out your household income and expenses. A common mistake that people make is to under report their income/ over report their expenses. Keep in mind that part of the process, if you are seeking to modify the loan, is that the modification review has to go through underwriting. That means that they will be checking to see if you will be able to afford the new payment that they can offer. If you cannot show that you will be able to make the payment, you will not be offered a loan modification.

The different types of loan modifications that the bank can or will offer will depend on if they have ever offered you a loan modification in the past. HAMP stands for Home Affordable Modification Program. It is a program that was set up in the aftermath of the subprime mortgage crisis. Generally you receive only one HAMP loan modification offer per loan. This is not a hard and fast rule, however, and I have seen HAMP modifications offered more than once per loan. HAMP modifications may reduce the principal balance, they may reduce the interest rate, they may reamortize the loan over a longer period of time (stretch your loan out), or they may do a number of these things to help you to get a lower loan payment. Offers that include a principal reduction will usually have certain benchmarks that you have to meet in order to ensure that the principal really is forgiven. If you fail to meet these benchmarks, the forgiven principal will return. Generally, you will need to ensure that the loan is in good standing on the first, second, and third anniversaries of the effective date of the trial period. The amount that the principal is reduced by will generally not be treated as taxable income. Speak to your tax attorney or accountant for more information on this. Another type of loan modification that your mortgage lender may provide is an in-house modification. For an in-house loan mod, the lenders are not bound to the requirements of HAMP. They can also offer these even if they determine that you are not eligible for HAMP. The results may not be as good but they should still be better than what you currently have. Unfortunately, you may find that the modification offer is not to your liking. Perhaps it doesn’t reduce the interest rate by much, or maybe it adds 10 years onto your loan and you don’t find that palatable. So long as you continue through your chapter 13 bankruptcy you will finish it with your original loan intact at the original terms and on time per the original payment schedule. (There are some small caveats to this you should ask your attorney about.)

Another option if the modification will not work is to ask for a short payoff. Essentially, you are asking the lender/servicer to settle the remaining balance for something less than is owed. I have seen short payoffs between 10% and 33% so some incredible options are out there if your lender determines that you qualify. You would need to speak to your tax attorney/accountant to see if you will have to pay income tax on the forgiven debt.

Short-Sale, Deed-in-lieu – What if you decide that you don’t really want the property any longer? In that case, you have a couple of options. Simply surrendering the property in a bankruptcy is not enough. If you simply surrender the property in the bankruptcy and then the mortgage creditor sits on their rights and doesn’t move to complete the foreclosure process, you will be stuck with liability on the property if anyone were to get injured or for housing code violations. To avoid this, you can attempt to do a short sale. A short sale is potentially available where you are underwater on the home. If there is only one lien on the property you are much more likely to accomplish a short sale. The more liens there are, the more parties have to be satisfied with the sale offer. The same goes for a deed-in-lieu. A deed-in-lieu, short for deed-in-lieu of foreclosure is where you sign the property over to the mortgage creditor in exchange for them not foreclosing on the property. This can potentially save the banks lots of money and has the benefit to you of getting rid of any liability from continued home ownership.

If this sounds like you, just know that there is help out there. Contact a local bankruptcy attorney with experience in this field to help you out.

Best of Luck,

Steven Palmer
Licensed in WA and OH