Lien stripping topic of discussion of ICBA Bankruptcy Section meeting

By Roberta M. Gubbins
Legal News

In a Chapter 13 bankruptcy, explained Robert Dietrich, Dietrich Law Firm, speaking before the November ICBA Bankruptcy Section meeting held at Cooley Law School, it is possible to “strip” a second mortgage from a property, making it an unsecured debt.

To qualify for “lien stripping”, the fair market value of the real property must be equal to or less than the amount remaining on the first mortgage. (11 U.S.C. ß 506(a)).

For example, if the appraised value of the property is $200,000.00 and the amount remaining on the first mortgage is $200,000.00 or more, the second mortgage is considered to be totally unsecured and its lien can be “stripped.”

This means, Dietrich noted, that in the Chapter 13 Plan, the second mortgage will be considered an unsecured creditor and only a portion of the amount remaining on the second mortgage will be paid over the life of the Plan. Furthermore, “stripping” a mortgage terminates the accruing interest owed and changes the priority of payments. When all the Plan payments have been made, then the debtor shall receive a discharge of all their unsecured debt, including the amount remaining on the second mortgage, which will then be considered void.

“Practitioners,” he said, “are not necessarily determining the true value of the real property. They are using two times the State Equalized Value (SEV) or value estimated by the client.”

While Dietrich admitted that in years past he would have used those figures, in today’s market “because of the devastating affect that the economy has had on home values, I strongly recommend that you get a comparative market analysis or a broker price opinion from a qualified realtor.”

The Eastern District of Michigan requires an adversary or stipulation to “strip” a lien on real property while the Western District of Michigan allows the same by motion.

Lien stripping under Chapter 7

“There is some case law that says that you can’t do a ‘cram down’ or ‘strip off’ of a lien on real property in a chapter 7,” said Dietrich turning to the concept of stripping a lien in Chapter 7 bankruptcies. 

The U.S. Supreme Court has held that the bankruptcy law cannot be used to “strip down” a lien on real property to the fair market value of the property when the property ‘s fair market value is less than the amount remaining on the lien in a Chapter 7 bankruptcy.  Dewsnup v. Timm, 502 U.S. 410 (1992).

Cramdown

In a Chapter 13 bankruptcy, a “cramdown,” said Dietrich, “reduces the secured balance on property to the property’s fair market value, while the remaining amount of the claim in excess of the property’s fair market value becomes unsecured.” 11 U.S.C. ß 1325(a)(5)(B).

In other words, a debtor may “strip” a secured creditor’s lien down to the fair market value of the property, with the remaining balance being treated as unsecured and subject to discharge.
Therefore, by using a “cramdown”, a debtor can force a creditor to accept less than the full value of its claim.
“Cramdown” does not apply when a creditor meets the following four criteria:

• The collateral consists of a motor vehicle,

• The debt was incurred within 910 days or about 2 1/2 years of filing.

• The creditor holds a purchase money security interest, and 

• The debtor acquired the vehicle for personal use. Nuvell Credit Corp. v. Westfall (In re Westfall), 599 F.3d 498 (6th Cir. 2010).

If all four criteria are met, the debtor must pay the full amount owing to the secured creditor regardless of the fair market value of the property.

Robert Dietrich, Dietrich Law Firm, graduated from Michigan State University and Thomas M. Cooley Law School. He specializes in Bankruptcy, Mortgage Loan Modification, Debt Relief and Real Estate Law. His community activities include Gilda’s Club of Greater Lansing, where he served as President.

The Bankruptcy Section meets monthly. For more information on times and topics, please contact Steve Feigelson, the Chairperson, at attorneystevenm.feigelson@ gmail.com.

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