A couple months ago I discussed why My Mortgage Company Is Not Sending Me Statements After Bankruptcy, and why My Credit Report Does Not Show Mortgage Payments After Bankruptcy. Both of these situations are related to the reality that in most Chapter 7 “straight bankruptcy” cases, your mortgage will not be “reaffirmed.” To understand this area better we need to understand “reaffirmation.”
WHAT IS REAFFIRMATION?
You reaffirm a debt in bankruptcy when you voluntarily agree to continue to be legally liable on that debt after the completion of your bankruptcy case. You agree to exclude that debt from the discharge—the legal write-off—of your other debts.
Reaffirmation is a formal procedure with very specific requirements. You do NOT reaffirm a debt if you merely tell a creditor that you will pay its debt in spite of the bankruptcy.
WHAT IS THE REQUIRED PROCEDURE FOR REAFFIRMATION?
For a reaffirmation to be valid, a “reaffirmation agreement” must be signed by you and filed at the bankruptcy court. It must also be approved and signed by your bankruptcy attorney OR must be approved by a bankruptcy judge at a “reaffirmation hearing” that you must attend.
(Although reaffirmation agreements can be filed in both Chapter 7 and Chapter 13 “adjustment of debts” cases, they are primarily used in Chapter 7. That because in Chapter 13s, debts with collateral are usually satisfied before the end of the case. There is no need for a reaffirmation because there is no remaining debt to be reaffirmed.)
Usually the creditor prepares the reaffirmation agreement, after learning that you want to reaffirm its debt. It sends the document to your attorney. Then you need to sign it, and have it filed at the bankruptcy court. This must happen before the discharge of the debts, which in a Chapter 7 case is 60 days after the Meeting of Creditors, or about 3 months after the filing of the case. After that it is too late.
WHY WOULD I WANT TO CONTINUE BEING LEGALLY LIABLE ON A DEBT?
Most reaffirmations are for debts with collateral—mostly vehicles and other personal property, although also for homes, as discussed below. Creditors often require a reaffirmation agreement if you want to keep the collateral. They not only want very strong assurances that you will make the payments you are promising to make, they also want to be able to sue you if you fail to do so. Particularly, creditors want not only to have the right to repossess the collateral (which they can do without a reaffirmation), but also to go after you to the extent that selling the collateral does not pay off the debt (the “deficiency judgment”).
So before entering into a reaffirmation agreement, you need to carefully consider whether the risks are worth the benefit of keeping the car, furniture . . . . or home.
HOW IS REAFFIRMING A MORTGAGE ANY DIFFERENT?
The primary reason a creditor would want a reaffirmation is to retain the right to pursue the debtor for the deficiency judgment. But under California law, a creditor foreclosing a first mortgage on a residential home is almost never entitled to a deficiency judgment. If it uses the much more common non-judicial foreclosure procedure, it clearly has no right to pursue a deficiency judgment. If it uses a judicial foreclosure, there’s no right to a deficiency judgment if the home is owner-occupied, and the loan proceeds were used to purchase the home (as is the situation with most first mortgages).
So if the first mortgage is one that cannot later result in a deficiency judgment, the mortgage lender will have little incentive to have the debtor reaffirm the mortgage debt in bankruptcy, even if the debtor formally states his or her intention to do so. As a result the lender does not prepare a reaffirmation agreement for the debtor’s signature, and so usually none is filed at the bankruptcy court.
Instead the debtor just keeps making the monthly payments and continues staying in the home. Eventually, when the mortgage debt is paid off, its lien would be released and the debtor would own the home free and clear.
Or if the debtor would fail to make the monthly payments at some point, the lender would foreclose and get back the home. But the debtor would owe nothing.
WHAT’S THE PROBLEM WITH NOT REAFFIRMING A MORTGAGE DEBT?
If for the above reason a home mortgage is not reaffirmed in bankruptcy, you’d have the problems referred to in the first sentence of this blog post: your mortgage lender could stop sending you its monthly statements, and could stop reporting your payment to the credit reporting agencies. (See the links in that first sentence for more about dealing with these two specific problems.)
HOW ARE SECOND AND THIRD MORTGAGES DIFFERENT?
Under California law a deficiency judgment can be generally be pursued by mortgage lenders holding second or third mortgages. That is why these lenders are much more interested in getting a reaffirmation agreement processed in bankruptcy court.
But that is the very reason you’d prefer NOT to sign such a reaffirmation agreement. If at any point you could no longer make the mortgage payments, resulting in the first mortgage lender foreclosing on the home, most likely the second and/or third mortgage lender would get foreclosed out as well. If there was NO timely filing of a reaffirmation agreement in the bankruptcy case, you’d owe nothing. But if there WAS a filed reaffirmation agreement, you’d owe the entire second or third mortgage balance.
THE BOTTOM LINE
If you are considering reaffirming a mortgage during your Chapter 7 case, one practicality is that it may be difficult to get the lender to prepare a reaffirmation agreement. Your attorney may be able to convince them, but it will likely take some concerted effort.
Think long and hard before reaffirming a second or third mortgage. Realize that you would owe the entire balance if you couldn’t maintain the payments.