It has happened a number of times to me. A client comes in inquiring about bankruptcy. Often, one of the specific motivations for inquiring about bankruptcy is that the potential debtor owns real property somewhere (PA, FL) that is ridiculously underwater. They have tried short selling the property, to no avail. The lender will not offer a deed in lieu. They want to walk away from the property and that’s that. While bankruptcy can help with that, it isn’t the complete story.
I always explain that a discharge in bankruptcy terminates the person’s PERSONAL liability with respect to the note, but that the lender’s rights to collect and enforce against the PROPERTY remain unaltered (unless something else happens during the bankruptcy case). The potential debtor usually nods and acknowledges that they understand. The bankruptcy gets filed, discharge is entered, case is closed. Without fail, I get the worried phone call where the debtor receives a mortgage statement and wants to know why the bank is still naming them as the property owner – “I filed for bankruptcy.” Then I have to explain again, and again, they will nod and acknowledge.
When you buy a house or a car, you sign a whole bunch of papers. One of those documents will, inevitably, be a note. That is the contract between you and the lender where you promise to pay, personally, the amount of the loan. Another of those documents, inevitably, will be a mortgage or lien. That agreement is one where you agree that you will put the house/car as collateral for the loan, and that the lender may repossess/foreclose on the property if you fail to pay the loan. Bankruptcy discharges and terminates the rights of the lender in the FIRST of these documents, and NOT the second.
A case recently out of the United States District Court, District of Minnesota, addressed these issues. In this case, a property owner obtained 100% interest in the real property from a divorce, though she never signed the loan nor assumed the loan. The ex-spouse then filed for bankruptcy relief.
This case came along when the wife, now 100% owner of the property, sought to obtain a judgment from the court indicating that, since she received the property, was never a party to the loan, and her ex filed for bankruptcy, that the bank has no enforceable rights against the property. The court disagreed. It held that the bankruptcy of the ex did not alter the lender’s ability to enforce it’s rights against the property, and that those remain intact through and beyond a bankruptcy. For those of you interested in this fun and interesting opinion, the case is Duncan v. Bank of America, NA, 14-901-DWF-SER (D. Minn., June 18, 2015). You can read the Judge’s opinion by clicking this link: https://scholar.google.com/scholar_case?case=8160110359149787407&hl=en&lr=lang_en&as_sdt=40003&as_vis=1&oi=scholaralrt
If you have thought about bankruptcy, especially because of falling behind on a house or a car, remember that bankruptcy terminates the lender’s ability to enforce the debt against you PERSONALLY, but (assuming no other facts) the lender remains free to enforce its rights against the PROPERTY.