Bankruptcy: A Good Thing for Mortgage Lenders?
Savannah, GA (PRWEB) December 13, 2013 -- By Margaret Puccini and Kathleen Horne
When a borrower files bankruptcy, lenders frequently take steps to attempt to have the Court lift or modify the bankruptcy stay under Section 362 of the Bankruptcy Code so that the lender may foreclose on the real estate which secures its debt. The recent economic downturn, however, has shown that this might not always be the best strategy for a mortgage lender.
Very often, a borrower files a bankruptcy proceeding in order to stop a foreclosure since the bankruptcy filing results in an automatic stay which prevents creditors from pursuing the borrower or his assets to collect debt. Whether the borrower files a Chapter 7, a Chapter 13 or a Chapter 11 case depends upon a variety of factors which include the borrower’s income and aggregate debt amount. This article will focus upon Chapter 7 bankruptcy filings, which are often referred to as “liquidation” bankruptcies. In a Chapter 7 bankruptcy, a trustee is appointed, and he has a fiduciary obligation to determine whether the borrower has assets which may be liquidated to generate monies which will ultimately be distributed pro rata to unsecured creditors.
While the secured lender’s first instinct may be to hire a bankruptcy lawyer to file a motion asking the court to lift the automatic stay so that the lender may resume the foreclosure process, the lender may have a better option – particularly when there is no equity in the lender’s collateral, i.e., the lender is undersecured.
After the real estate crisis, with the steep decline in property values and an oversupply of properties, many lenders have begun to entertain short sales - sales to which the lender consents even though its debt will not be paid in full. Some lenders have discovered that a short sale may also be accomplished within the context of a Chapter 7 bankruptcy. The attraction of a short sale is that it can save the lender the time and expense of foreclosing, as well as the cost of maintaining and marketing the property once it is owned by the lender. In addition, a sale by the trustee may well bring a higher price than if the lender were to sell the property either at or after a foreclosure sale.
After a Chapter 7 bankruptcy case is filed, the trustee becomes the owner of all property owned by the borrower. The trustee’s fee per bankruptcy case is very small, but he also receives a commission based upon the dollar value of the assets of the bankruptcy estate that he administers. Therefore, the trustee has a significant incentive to market and sell any property titled in the borrower’s name; but the trustee cannot sell encumbered property without the lender’s consent unless the lender is paid in full.
A short sale of real estate within the Chapter 7 bankruptcy case would necessarily require a lender to take less than the full debt owed by the borrower in order to leave a “carve out” from the sale proceeds for the purpose of making a distribution to the unsecured creditors and paying the trustee’s fees and expenses. Under the right circumstances, the benefits to the lender can far outweigh any risk, which is virtually non-existent. Dealing with the disinterested, professional trustee will be far easier than dealing with the emotionally invested and typically overwrought borrower. The trustee, rather than the lender or the borrower, will undertake the marketing of the property and he and his real estate professionals are incentivized to invest the time and expense necessary to sell the property, and to do so as quickly as possible, since a sale will result in assets to administer. The bankruptcy court must approve the sale, and this approval process usually takes 45 – 60 days after a sales contract is signed.
In summary, a short sale in a Chapter 7 bankruptcy is an option mortgage lenders often overlook. There is very little, if any, risk to the lender. If an offer brought by the trustee is not acceptable to the lender, the lender may reject it, or if the trustee fails to obtain a sales contract within a reasonable amount of time, then the lender still has its state law remedy of foreclosure available at the end of the day after obtaining relief from the automatic bankruptcy stay. Thus, under the right circumstances, lenders may be well advised to explore the possibility of a short sale after a borrower files bankruptcy.
Margaret (“Maggie”) Puccini and Kathleen ("Kathy") Horne are partners at Savannah, Georgia-based law firm Bouhan Falligant. They specialize in bankruptcy and creditors’ rights. Maggie can be reached at mpuccini(at)bouhan(dot)com or (912) 644-5746 and Kathy can be reached at khorne(at)bouhan(dot)com or (912) 644-5739.
Carol Wirth, TWC Consulting, (912) 925-4345, [email protected]
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