Bankruptcy


This is a follow up to my March 20, 2009 post Short Sale Seller Files Bankruptcy.

Bankruptcy in a short sale comes in two forms – the seller is already in bankruptcy or files during the short sale process. 

QUESTION: Why should a seller in or considering bankruptcy perform a short sale?

ANSWER:  To start their “waiting period” before a borrower can be eligible for certain loans.  The short sale waiting period is usually shorter than the foreclosure waiting period.

Generally bankruptcy serves to eliminate the obligation to pay a debt.  In the words of the greater bankruptcy lawyer Robert Charles.  It does not eliminate the debt, it just eliminates one party’s obligation to pay. In recent history persons seeking bankruptcy would more or less abandon over encumbered properties, allow it to go to foreclosure and wait some number of years before their re-entered the economy in attempting to purchase a home. Today, certain loan programs allow purchases after a short sale sooner than a foreclosure, even after a bankruptcy.

Look at FannieMae for example. FannieMae has a great role in conventional mortgages as America’s largest mortgage buyer. It sets guidelines to lessen the chance a borrower will go into foreclosure. FannieMae’s current guidelines have separate waiting periods depending on the type of foreclosure, in other words if it is a short sale or a classic foreclosure. Fanniemae underscores in their separate waiting periods, the “importance of borrowers working with their [lenders to avoid foreclosure.” Short sellers are rewarded with the shorter waiting period, currently a difference of 7 to 2 years depending on the circumstances. It is more complicated than simply stating 7 vs. 2 years.  This is just one example, but there is a difference and the short gets the longer end of the stick…you can read guidelines àhere.

Bankruptcy has its own restrictions, its own waiting period effects. However, even with bankruptcy (and its additional waiting periods) combined with a foreclosure, vs. a bankruptcy combined with a short sale; again the short sale can have drastically different waiting periods.  And if the debtor has “extenuating circumstances” waiting periods post bankruptcy combined with a short sale can be quite reasonable. 

ALSO, by not performing a short sale a debtor is waiting for the lender to foreclose. The lender has no duty to hurry up the foreclosure.  Nor does the bankruptcy process really address this issue.  Bankruptcy removes liability, but does not necessarily aid in starting the beginning of the waiting period.

I have been brought in on numerous transactions in 2012 where a purchase fails due to the time period not being ripe yet for a new buyer.  Each time the buyer filed bankruptcy some years prior. And each time the buyer believed that eventually their home had been foreclosed upon.  In some instances the buyer was not even aware they were still on title to their former residence and in others the foreclosure had only been finalized some months prior, although the bankruptcy case was successfully completed years prior.  In these scenarios each time, the purchaser (formerly in bankruptcy) was unable to get around the requirements of the current lender and were instructed they would have to “wait” out the actual period.  A short sale during bankruptcy starts the waiting period more effectively.

This is part of my short sale series listed below in alphabetical order:

7 Tips for Short Sale

Addendum to Short Sale Listing

Advance Fees Continued and the FTC

Advance Fees – Short Sales – FTC II

Charging for negotiating short sales/Negotiators

Deficiency Judgments Nevada

Foreclosure and the One Action Rule in Nevada

HAMP the Federal Shortsale Program coming April 2010

Income Taxes & Foreclosures/Shortsales

IRS PUBLICATIONS shortsales/foreclosures:

IRS publication on how 1099 taxes are calculated, exempt, etc.

IRS explanation as to taxes resulting from Foreclosure and Debt Cancellation.

Judicial Foreclosures (Short sales are looking more attractive..)

Lender Short Sale Approval Addendum

Nevada Supreme Court Mandatory Mediation Program and How it Affects Shortsale

Nevada Short Sale Documents

Seller Being Released From Liability Language in Shortsale

Seller Liability After Short Sale

Short Sale Advanced Fees

Short Sale Addendum to Purchase Agreement October 2010

Short Sales and Bankruptcy and Waiting Periods

Short Sale Junior Lien/Senior Liens Rights To Sue & Other Changes

Short Sale Wallet Size Answer Sheet

Ten Facts about Mortgage Debt Forgiveness

Questions? email me darren@dwelshlaw.com

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A one pager, wallet size, Short Sale Foreclosure Wallet Size Answer Sheet if you will, to hand to clients on the basics of short sales.  The full text is as follows:

Short Sale / Foreclosure

Wallet Size Answer Sheet

Prudential, Americana Group, REALTORS®

 

What is it?

A Short Sale is when the home sold for less than the debt against property and the lender agrees to accept a discounted payoff.

A Foreclosure is when the lender seizes the home that the loan is secured by through the foreclosure process, which is notice of acceleration of note, notice of default, notice of sale, and then actual forced sale of the home known as a ‘trustee sale.’

What are the tax consequences?

Short Sale & Foreclosure….all debt forgiven results in 1099C debt. Whether it is a principal (where you live) or rental property makes a difference as to how much tax you may pay. Simply stated, if debt you owed is canceled the IRS sees that as income to you, as if you received a pay check. You can exclude canceled debt from income if it is your principal residence debt, which is debt incurred in acquiring or improving your qualified principal residence up to $2 million ($1 million if married filing separate). See this publication from the IRS http://www.irs.gov/irs/article/0,,id=179073,00.html on “Mortgage Workouts, Now Tax-Free for Many Homeowners; Claim Relief on Newly-Revised IRS Form” and http://www.irs.gov/pub/irs-pdf/p4681.pdf on “Canceled Debts Foreclosures Repossessions and Abandonments.”

What are the Credit Issues?

Foreclosures and Short Sales will appear on your credit history and affect you for up to 10 years. This may affect a.) employment or b.) security clearance, etc. Rumor is that a short sale is better than foreclosure for these items? There is no evidence to back this up. Arguments on both sides are out there. We do know that there is a specific spot on the credit reports for foreclosure, whereas short sales are reported differently.

What is the liability for the Debt AFTER the foreclosure or short sale?
6 Months

Foreclosure – The foreclosing lender has the right to sue the home owner after the foreclosure for the difference between the amount gained at the ‘trustee sale’ discussed above and the balance of debt owed. The lender has only 180 days (six months) from trustee sale to file, after that the owner is no longer liable.

6 Years

Foreclosure 2nd Deeds – All deeds that are junior to the foreclosing lender have different rights than the foreclosing bank. These lenders are called ‘sold off junior lien holders’ and they have six (6) years to recoup their debt. That means you get foreclosed on November 12, 2009, these junior lien holders have until November 12, 2015 to sue you. In other words, you will have just finished buying your plane tickets for the 2016 Olympics to Rio de Janeiro and you can still be sued. It’s a long time.

Short Sale – All lenders that agree to a discounted payoff and ‘release the lien’ from the property to allow the short sale are no longer ‘secured lenders’ and are now ‘sold off junior lien holders’ as described above and have six (6) years to sue you. UNLESS, and this is big, the seller gets the lender to release the homeowner from any future liability as to the forgiven debt

You are in a successful short sale (bank has approved and you are moving towards close) and you are informed the Seller just filed bankruptcy, or has been in bankruptcy this whole time, what to do?

What Happened:  Here is what is going on, the Seller (the debtor) is no longer in control of the property, it is controlled by the “estate of the bankruptcy.”  The seller (consumer) is likely in a chapter 7 or chapter 13.  There is a trustee that will be appointed.  The trustee is important.  The chapter 7 trustee and the chapter 13 debtor/trustee should seek court approval before selling property.

 Plan of Attack:  When in a short sale where any one of the title holder is in or files for bankruptcy protection, the seller should contact their attorney so that the seller’s attorney can contact the trustee to gain approval of the sale.  If there is no objection by the Trustee, the Trustee will “consent” to the transaction. 

Trustee Consent: After being contacted by the Seller’s attorney, if the trustee consents to the sale, an “Affidavit of Abandonment for Real Estate & Asset” can be signed by the Trustee or a “Notice of Proposed Abandonment,” under Rule 6007 and Bankruptcy Code §544.  (Abandonment Or Disposition of Property).  Once acquired some title companies require this to be recorded at the Clark County Recorder to present to the escrow company.

Time.  If done by hearing, this can take three weeks or more. If the Trustee simply executes and files the abandonment, it can still take much precious time to get all the parties on the same page.

Foreclosure:  Remember, once the property is released from the bankruptcy, it can be foreclosed upon. Know, review, call, check, double check, your time frames for sale if the property is in foreclosure.

Safe Harbor for Sales:  If the seller sells without court approval the sale is not authorized, and could be voided under the Bankruptcy Code §549.  But there is a safe harbor for good faith purchasers who give value.  That safe harbor may be closed if the trustee records notice of the bankruptcy upon the trustee’s appointment, but that rarely happens.  So the practical answer is that if a sale closes without court approval to a good faith purchaser, the sale should stand.

gavel1.jpg I am getting questions on how a Chapter 13 affects a foreclosure?

Being the General Counsel of Prudential, Americana Group, REALTORS®, I do not practice in bankruptcy law and so I have asked this question of David Krieger, Esq., Haines & Krieger, LLC, 1020 Garces Ave., Suite 100, Las Vegas, NV 89101, PH: 702-880-5554, Fax: 702-385-5518, email: davkrieg@hainesandkrieger.com

David Krieger, Esq., says:

“Through a type of Bankruptcy called a “Chapter 13″ people can keep their property from being sold at foreclosure.  Quite often, filing a chapter 13 will also discharge (eliminate) any outstanding credit card debts, medical bills, payday loans and other unsecured debts.  In certain circumstances, a chapter 13 can even strip off (eliminate) a 2nd or 3rd mortgage.”

And I asked, “but what about Chapter 7?  Does that also assist arresting foreclosure?”

David says,

“Not really.  Chapter 7 doesn’t provide for a mechanism to cure pre-bankruptcy arrears.  Hence, chapter 7 is not a viable solution for saving homes in foreclosure.  However, a chapter 7 may be able to deal with any deficiencies resulting from foreclosed upon properties.”

“In order to be eligible to file a chapter 13, you must have regular income sufficient to support your ongoing Mortgage payments as they become due in the future.  You will also be required to make monthly payments to a chapter 13 trustee (who is a person appointed by the bankruptcy Court to administer the monthly payments).  Generally, through a chapter 13, someone who has fallen behind with their mortgage payments will make monthly payments over a course of 3 to 5 years to come current with their pre-petition mortgage deficiencies.  Upon completion of the plan payments, the mortgage is reinstated, the property is out of foreclosure and, frequently, all other personal debts are eliminated.”

“There are many misconceptions about how chapter 13 works.  Most of my clients (before they meet with me) think that they will have to repay all their debt.  This is almost never true.  The Bankruptcy system is set in place to help people in their time of need.”

“Also, many clients don’t think they will ever be able to purchase property or finance new cars again.  This is also untrue.  Not only will most chapter 13 debtors be able to purchase cars, homes, etc., in the future, but they are in better position to do.  Creditors lend based on the credit worthiness and other criteria of credit applicants.  When juxtaposed, a person in a chapter 13, who is discharging credit debt and reinstating mortgage terms is generally much more appealing than a debtor who has NOT filed bankruptcy still has significant outstanding debts such as defaulted loan/credit card obligations, mortgage deficiencies, etc.  To put this in further perspective, Creditors make lending decisions based on risk of default.  Generally, someone who in a chapter 13 for 12 months has established an ability to repay their ongoing debts, whereas a person who has not filed bankruptcy, but has bad debt outstanding has only demonstrated the opposite, an inability to manage their debt.  Accordingly, many of my clients are happily surprised when they receive offers for financing for new homes and cars within 12 months of filing a chapter 13.”

Altogether, Chapter 13 is very powerful tool for people who need financial assistance.  Unfortunately, clients of your REALTORS® are far from alone.  This real estate market has sent many people into my office who under normal economic conditions would never have dreamed of needing a bankruptcy attorney.  I meet with many clients weekly (including bankruptcy) seeking bankruptcy counsel, and generally this is the only option.  On that note, my clients often feel they are doing something bad, where in reality a Bankruptcy is frankly the most responsible outlet for most people facing the present dire financial circumstances.”