On May 11, 2012, the 11th Circuit Court of Appeal (whose decisions are
binding in Florida) published its opinion in In re: McNeal. In the opinion,
the 11th Circuit ruled that a wholly unsecured second mortgage lien can
be stripped off of the property in a Chapter 7 Bankruptcy.
For those of you not familiar with bankruptcy, in both a Chapter 7 and
a Chapter 13, a debtor's obligation to pay creditors for debts that
existed prior to the filing of a bankruptcy petition is excused upon the
Court's issuance of a discharge. In other words, the debtor no longer
has to repay his or her creditors who were listed in the bankruptcy petition
upon receipt of a discharge. However, when the debt is secured by a mortgage,
the discharge of the obligation to repay a creditor does not affect the
mortgage lien against the property. In other words, even after discharge,
a first mortgage or second mortgage lender can file an action for foreclosure
to obtain ownership of the property but cannot pursue the discharged debtor
for repayment of the unpaid balance of the loan. As a result, typically
a Chapter 7 debtor would almost always lose their underwater property
to foreclosure, while a Chapter 13 debtor might be able to retain their
home if the home had both a first and second mortgage and home's value
was less than the balance on the first mortgage. The decision in McNeal
changed all that.
At the debtor, Larraine McNeal filed a voluntary petition for bankruptcy
under Chapter 7. The petition reported that her home was subject to two
mortgage liens and that her home’ fair market value was $141,416
Because the value of her home was less than the balance on the first mortgage,
in bankruptcy terms, the second mortgage was "wholly unsecured."
Prior to the McNeal decision, only a Chapter 13 debtor could request that
the bankruptcy court "strip off" the second mortgage lien and
allow the debtor to retain the property burdened only by the first mortgage.
However, the McNeal court decided that a Chapter 7 debtor also has the
ability to retain his or her property after discharge with only a first
mortgage lien against the property.
This case will certainly be helpful to may debtors who desire to retain
their underwater property at a more affordable monthly payment obligation
- a payment obligation that does not include a payment on the second mortgage.