Law Offices of Adam D. Woolsey
Loan Modification: Obama’s Proposed Law
Adding a bankruptcy route to mortgage modification will be a useful additional means of addressing the mortgage crisis.
The Obama administration’s solution to the mortgage crisis will likely include an expansion to the save-your-home feature of bankruptcy by allowing bankruptcy judges to modify residential mortgages. Under current law, bankruptcy judges have the power to change the terms of mortgages if they are secured by vacation homes, multi-family homes, or boats, but not if they are secured by the debtor’s principle residence.
Congress rejected legislation that would have made this change in the fall of 2007, but the Obama campaign expressed support for it and the proposal is likely to be reconsidered after the new Administration takes office.
Under the proposed law, Judges would divide mortgages that are underwater into a secured portion equal to the current market value of the home and an unsecured portion equal to the difference between the mortgage principle and the current market value of the home. The latter would be treated like any other unsecured claim in bankruptcy and could be discharged in Chapter 7 or paid under the debtor’s Chapter 13 repayment plan if the debtor has enough non-exempt income. Bankruptcy judges would also have the power to discharge excessive fees or penalties imposed by lenders, to reduce interest rates if they are excessive, and/or to convert variable-interest-rate mortgages to fixed-rate.
The main advantage of allowing mortgage loan modification in bankruptcy is that it provides an alternative route for homeowners whose home mortgages cannot be modified under the other approaches i.e. home mortgage refinancing. Homeowners may find themselves in this situation because their home loans are part of a private mortgage-backed security that does not allow modification or because the first, or junior, mortgage lender refuses to consent.
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