Pre-Qualifying Debtors for a Mortgage Cram Down

a training article for attorneys and their assistants

I had two attorneys this week send us bankruptcy cases where they wanted to propose a Cram Down on the FIRST mortgage and a Strip Down of the SECOND because the house was underwater. Unfortunately, both of the bankruptcy clients were not eligible for a cram down.  I had to call both attorneys and let them know.  They were shocked and were not aware that pre-qualification was necessary to propose a mortgage cram down and strip.  This is when I decided to write this article to help other attorneys and their law firms.

WHAT DO THESE TERMS MEAN?

Underwater – This term is used when a home is appraised at a price that is LESS than what is owed to the mortgage company. For example: A home is appraised at $350,000 but the debtors owe $400,000 to the first mortgage company and $150,000 to the second.

Cram Down – This term is used when the amount owed on the first mortgage is crammed down to the appraisal price.  For example: A home is appraised at $350,000 but the debtors owe $400,000 to the first mortgage company.  The attorney may propose to pay the first mortgage company $350,000 instead of $400,000 and the mortgage company takes the loss of $50,000.

Strip Down – This term is used when the entire second mortgage is stripped (as if it does not exist) simply because this debt is totally unsecure.  The $350,000 was already applied to the first mortgage and there is no equity left, making the second mortgage treated as a Schedule F unsecure, non-priority debt or removed completely and not paid at all.

IS THIS LAW?

No.  The law regarding cram downs has stalled in the Senate.  It was passed by the House of Representatives back on March 4, 2010.  Since that time, some bankruptcy courts have been lax with regard to mortgage cram downs and will allow or permit their confirmation, but not every bankruptcy court operates this way.  In courts that are totally against mortgage cram downs, attorneys will attempt to negotiate with the mortgage company for a lower amount prior to the 341 Meeting.

The goal of all debtor attorneys should be to PROTECT THE DEBTOR.

However, some attorneys will call or email and want to argue with me about this law.  Please understand that I am just the messenger.  I am NOT an attorney and I am certainly not spending time writing these articles if the information were not accurate and true.  My only goal is to help debtors to be able to stay in their home and I hope this is your only focus also.

HOW TO PRE-QUALIFY DEBTORS

This information that follows will dramatically change or be eliminated when the law is enacted by the Senate so make sure you keep updated on the bankruptcy law news before utilizing the information that follows.

Pre-Qualification No. 1:  Are the debtors in a hardship situation?

Although it can vary from court to court, in my experience working with courts throughout the United States, cram downs and strip downs are normally accepted when the debtors can show they are in a hardship situation.  If the debtors are up to date on their mortgage, this demonstrates that the debtors can easily afford to keep making the mortgage payments.  Why would a mortgage company accept a cram down if they know the debtors can afford to pay them the entire balance?

Pre-Qualification No. 2:  Was there a significant drop in income or an allowable rise in expenses within the past 6 months?

One very important question to always ask the debtors is:  Why are you filing bankruptcy?  Their answer will normally help you to focus in on the real problem in order to determine how to best protect them and their assets.  For example:  If the total income for the household is reduced from $5,000 to $2,000 and the mortgage payment is $2,200; this is a clear indication the debtors are not going to be able to meet the payment and may be eligible for a mortgage cram down or strip down.

PROPOSED STAGES OF CRAMMING DOWN A MORTGAGE

In order for the attorney to be able to argue the case for their clients regarding the reason a mortgage cram down or strip down are proposed, the attorney needs to be able to show the MAXIMUM amount the debtors can afford to pay.  To determine this answer, the following is the steps I use that have worked well for the attorneys we prepare Chapter 13 petitions for.

1.   I begin by placing all the current figures in the bankruptcy petition without proposing any cram downs or strip downs.

2.  After classifying the assets and debts under Schedules A, B, E and F, I balance Schedule I and J to determine a beginning Plan payment.  If the debtors have $1,200 left after their allowable expenses are paid (DMI=disposable monthly income) then I start with a proposed Chapter 13 Plan payment of $1,200.

3.  When I plug $1,200 into the Chapter 13 Plan calculation if the plan is UNDERFUNDED then I am fairly certain the debtors may be eligible for a mortgage cram down (not a strip down at this point.)

4.   My next step is to first try a reduction of the interest rate (if permitted by the state).  I go online and plug the numbers into a mortgage calculator to determine the new mortgage payment by proposing various interest rates.  I then change the proposed fixed payment to match the new proposed interest rate.

5.  After changing the interest rate for the mortgage on Schedule A of the bankruptcy petition I go back to the Chapter 13 Plan and recalculate it.  If the Plan is still UNDERFUNDED I move to the Step 6.

6.  Before being able to propose a total cram down we first need to find out if the debtors are able to afford to pay the unsecured portion as an unsecure debt.  For example: The home was appraised at $350,000; $350,000 would be proposed to be paid as secure and $50,000 would be paid like all other Schedule F debts.  This at least gives the mortgage company a portion of the unsecure amount and many are satisfied with this proposal.  Besides, it shows a good faith effort by the debtor to pay the maximum amount they can afford to pay.

Note:  In many cases, paying the unsecure portion of the mortgage is sufficient and will balance the Chapter 13 Plan. And this helps to save the debtors a great deal of money.  For example:  If the Chapter 13 Plan is confirmed to pay the unsecure creditors back 10%, the $50,000 unsecured portion of the mortgage would be paid in full for only $5,000.  This saves the debtors $45,000 which is nothing to ignore and most debtors are satisfied; which gives them an incentive to stay in the Chapter 13 Plan.

7.   However, if the Chapter 13 Plan is still UNDERFUNDED and the debtors cannot afford to pay the unsecured portion of the mortgage; they may be eligible for a cram down.  By using the term eligible, I mean this is the point where most attorneys get their Chapter 13 cram downs approved by the mortgage company and the court.  If an attorney cannot show this progression and be able to fully document that the proposed payment is the most the debtors can afford to pay, they will have difficulty getting cram downs and strip downs approved.

8.   If the debtors may be eligible for a cram down, I now go back to Schedule A and I change the CLAIM amount to match the MARKET value amount.  If the home was appraised at $350,000 and the debtors owe the mortgage company $400,000, I change the $400,000 to $350,000; thereby reducing the amount owed to the mortgage company by $50,000.

What happened to the $50,000?  It was removed from the petition.  It will now be up to the mortgage company to file a Proof of Claim and an Objection to Plan.  At this time, the attorney can argue the debtors case and show this is the maximum amount the debtors can afford to pay.  In this manner, most cram downs and strip downs are negotiated before the 341 Meeting and in most cases the mortgage company withdrawals their objection and the Chapter 13 Plan is confirmed at the proposed CLAIM listed on Schedule A.

9.  Finally, after adjusting the CLAIM amount on Schedule A, if the Chapter 13 Plan is still UNDERFUNDED, a strip of the second mortgage may be proposed.  But this is the last resort and the attorney must be able to document that the debtors cannot keep their primary residence unless they have met all the other previous requirements.

OTHER THINGS TO KEEP IN MIND

1.   I have only found that cram downs and strip downs are only approved on PRIMARY RESIDENCES at this time.  The logic behind the movement is to help American families stay in their homes and stabilize the housing market.  Rental, vacation and other properties the debtors own are not necessary for their restructuring and carry a lower priority than the debtors primary residence.

2.   Many of the mortgage companies would prefer to negotiate with the debtor, even taking a loss, just to avoid the costs of foreclosure.  Besides, the mortgage company would not be able to sell the property for more than it is worth; but depending on the value and location of the property; some greedy mortgage companies will drum up late fees and charges just to have an excuse to foreclose on the poor debtor. Then, they quickly liquidate the property and any remaining balance is submitted to the IRS as a 1099 on the debtors income.  This leaves the debtor (who is already suffering financial problems and loss of their home) with an IRS debt they cannot escape under and must pay.  Some people have actually committed suicide because of these situations, solely caused by greedy business people who worship money rather than use it effectively.

3.  It is common for most people receiving a foreclosure notice to vacate the property.  When they leave, this opens up the home to thieves, drug dealers, prostitutes, etc.  Of course this situation also drives the value of the property down not only for the vacant house but for the entire neighborhood.  Unless the mortgage company has a way of turning the home for a quick profit (which is often unlikely), attorneys have more power than they think of reducing costs for the debtors through bankruptcy.

4.  Always remember to document the calculations used to propose the figures inside the Plan.  This way, the attorney can show the court why and how the Chapter 13 Plan was calculated and why the proposed Plan payment is all the debtors can propose to pay.  This is also referred to as a good faith effort by the debtors and is favored by creditors and the court.

5.  Beware of fraudulent law firms who normally work on a national basis. They set up debt consolidation services and promise to negotiate with the debtors for a fee.  After the debtors spend thousands of dollars trying to save their home the law firm will say: We have tried everything we can to get the mortgage company to negotiate but they refuse to do so.  Therefore, you have no choice but to file bankruptcy.  The debtors have already invested thousands of dollars so most of them agree to file.  Then, these nationwide law firms farm out the work to low-cost virtual bankruptcy assistants.   In this manner the law firm can make an average of $10,000 from each debtor.  Law firms like these are not helping America and their citizens.  Law firms like these are taking advantage of the hardship people are under.  Nothing good will come from this and the money these law firms are stealing will be gone as fast as they steal it.

Note:  In September 2009, the Chapter 13 Trustee at the Central District of California held a class on how to propose mortgage cram downs. Several of the attorneys I work for attended. They provided me with all the documentation, motion templates and other information from the class.  I distribute this free to attorneys attending the www.MyBankruptcySchool.Com online Chapter 13 classes.

SUMMARY

I hope attorneys can use these steps in order to save their clients thousands of dollars.  The skills and techniques outlined in this article were taught to me by the attorneys I work with.  We tried various steps and techniques until we found procedures that work.  The information in this article is the result of over one year of training, research and testing in various bankruptcy courts throughout the United States.  I hope they work for your law firm also.

CONTACT THE AUTHOR

Victoria Ring is a Certified Paralegal and Bankruptcy Specialist. She is the developer of the virtual bankruptcy assistant industry as well as the founder of MyBankruptcySchool.Com, the first nationwide online school dedicated to training attorneys and their assistants in preparing well-detailed Chapter 7 and Chapter 13 bankruptcy petitions.  Visit http://www.mybankruptcyschool.com

One Response to “Pre-Qualifying Debtors for a Mortgage Cram Down”

  • Hi Victoria
    Great article. My question is why don’t the bankruptcy attorneys qualify the mortgage first. I have found with dealing with hundreds of mortgages and finding material defects thru forensic audits that for example you can toll the rescission time limit to past 3 years in a bankruptcy situation. The banks do not want that whole loan to go in to unsecure debt status.I find banks are more willing to negotiate.

    Another interesting fact I found is the lender who is claiming to have interest in the loan does not have standing to claim anything. Alot of these loans have been sold so many times (like passing a whiskey bottle at a frat party) that a securitization audit is the only way to find who is the true party of interest.

    What is your thoughts on this?