Filing bankruptcy "stays" actions to enforce a lien against your property. As a result, in the vast majority of cases, as long as you are in the bankruptcy process, the mere filing of the bankruptcy petition automatically stops a lender from foreclosing on the home. How long? Generally speaking, until the court allows it to go forward after the bankruptcy filer is given notice and an opportunity to oppose the foreclosure - or the case is closed or dismissed.
Moreover, in San Francisco Bay Area bankruptcy courts (the Northern District of California courts), procedures have been implemented that allow a Chapter 13 bankruptcy plan to be confirmed while a loan modification is pending.
In addition, the Chapter 13 bankruptcy laws allow you to catch up on the amount you are behind on a mortgage over as many as 60 months, even if there is no mortgage modification. This is called "reinstating the mortgage" or "curing arrears through the plan."
Suppose a San Francisco County home foreclosure is scheduled for a Tuesday. Properly filing a Chapter 13 bankruptcy petition on, say, Monday afternoon typically allows the qualifying individual or couple the ability to begin, continue, or in some cases re-start the process of applying for a home mortgage loan modification - while eliminating the threat of an immediate foreclosure.
In the Bay Area, until a final decision is made on the loan modification, Chapter 13 debtors who comply with their obligations under the Bankruptcy Code may be able to continue to prevent the foreclosure by paying roughly a third of their monthly income to their lender, even if this amount is much smaller than the first mortgage payment. Where there is no mortgage modification available, there is another option: the individual or couple may reinstate their first mortgage over as many as sixty months by making partial payments to pay back the amount they were behind. In the Bay Area, Chapter 13 bankruptcy filers may be able to pay the new mortgage payments that become due on the mortgage directly to the lender, avoiding the expense of having a third party trustee administer those payments.
These are powerful options to deal with the first mortgage on your home. In addition, in some cases second mortgages or equity lines can be discharged and "stripped" entirely, along with other debts like credit cards and medical bills. This can free up necessary cash to pay the modified mortgage payment, or - where no modification is offered by the lender - the original mortgage payment.
It is important to work with someone who understands these procedures. Filing a bankruptcy petition without help from a qualified attorney increases your chances of having your case dismissed. If you have to file again, the "automatic stay" may end after a short period - or never go into effect unless you can persuade the court to make an exception. Get it right the first time.
Several times over the last few years I have spoken with well-meaning people who have large tax bills from withdrawing retirement money early. Why the large tax bill? They withdrew their retirement plan money before retirement age to pay down their debts. In some cases, these people used their hard-earned retirement funds to pay down credit card debts through so-called "debt settlement" programs. Others used the retirement withdrawals to make payments on severely underwater mortgages (including wholly out-of-the-money equity lines) on "investment" properties that were actually generating major negative cash flow. One couple used the retirement funds to pay their full mortgage payment longer they could afford to pay it, when they could have likely obtained a mortgage modification.
These individuals all had occasion to discuss these matters with a bankruptcy attorney after the fact. Most of them ended up filing bankruptcy. All of them would have fared much better if they had met with a bankruptcy attorney first. How much better? They would still have the retirement funds growing in their retirement plan. In addition, they wouldn't owe the IRS early-withdrawal penalties or income tax on the previously tax-deferred withdrawals.
Why was this such a bad move? First, these people were using funds that would be exempt in bankruptcy: funds they could have kept despite filing a Chapter 7 bankruptcy, or wouldn't have to account for in a Chapter 13 bankruptcy. Second, they threw money away: they used the money to pay unsecured, dis-chargeable debts, or secured, non-recourse debts that would have been scheduled in their bankruptcies. Third, they incurred tax liability for the early withdrawals, and the tax liability in these instances was not dischargeable when they later had to file bankruptcy anyway. Some of them also received 1099 forms for "cancellation of debt" income from the debt-settlement schemes and thought they owed tax on that too. What a mess.
It is always disheartening to have to explain how much better things could have been - had we only met sooner. But just remember that using retirement funds to pay debts when you are in severe financial distress is almost always a really, really bad move. Doing it without getting some bankruptcy advice first is reckless. The debt collectors and debt settlement schemers on the end of the phone get paid to try to pressure you into using the last of what you have. Be careful.
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