There are several situations where a homeowner needs to file for bankruptcy, and due to a lack of substantial income qualifies to file under Chapter 7, rather than Chapter 13. This is important because in a Chapter 7 case, all of a filer’s unsecured debt such as credit cards, medical bills and other non-secured debts can be eliminated. One of the major problems with this is that if the homeowner has a second mortgage or home equity line that is worth less than the value of the real estate, they can not be stripped from the property. Another issue that arises from time to time are debts that cannot be discharged in Chapter 7, such as mortgage arrears and taxes incurred within 3 years of filing. When one of these non-discharable debts is present, often times a good bankruptcy attorney will suggest filing a “chapter 20”, which is to say, file the Chapter 7 and get a discharge of all unsecured debts and then the next day after the case is closed file a Chapter 13 to reorganize and get 5 years to pay back the other debt.
A significant benefit of a Chapter 13 in addition to getting time to pay back those non-dischargable debts is also the ability to strip a lien (mortgage) from the property entirely. This is done by demonstrating to the Court that there is no equity in the property to secure against a junior lien. For example, the house is worth $250,000. The first mortgage is for $300,000, and a second mortgage is for $40,000. In this case, a Debtor could argue that at a foreclosure, the second mortgage holder would not receive any money, because the first would get everything and still be owed part of their loan.
The problem that many people in this situation have is that they are not entitled to a second discharge of debt for many years after the Chapter 7. However, the Bankruptcy Court’s have recently ruled that a discharge is not necessarily needed to strip a second mortgage.
The United States Supreme Court has ruled that a debtor can include a mortgage lien in a chapter 13 plan if the personal obligation secured by the mortgaged property had been discharged in a prior chapter 7 case. Johnson v. Home State Bank, 501 U.S. 78 (1991). Moreover, many appellate courts and bankruptcy appellate panels have held that § 1322(b)(2)’s anti-modification provision does not bar a chapter 13 debtor from stripping off a wholly unsecured lien on the debtor’s principal residence. See, e.g. Griffey v. U.S. Bank (In re Griffey), 335 B.R. 166, 167-70 (10th Cir. BAP 2005); Domestic Bank v. Mann (In re Mann), 249 B.R. 831, 840 (1st Cir. BAP 2000);
In summary, Section 1328(f)(1) merely precludes a chapter 13 debtor from receiving a discharge if the debtor received a discharge in a chapter 7 case filed within four years of the chapter 13 case. But that section in no way limits any other rights available to the debtor under the Bankruptcy Code, such as the right to strip off unsecured junior liens under § 506(a) and § 1322. This decision has most recently been affirmed by the 11th circuit in Wells Fargo Bank v. Scantling, No. 13-10558 (11th Cir. June 18, 2014). The bottom line is this, even if you filed for bankruptcy and received a discharge of debt, there is nothing stopping you from refiling a Chapter 13 to remove a second mortgage or home equity loan right away.