A Chapter 13 bankruptcy gives you the opportunity to remove junior liens on your home. These could be liens securing a line of credit or a home equity loan. However, the liens can only be voided if certain requirements are met.
When Junior Liens Can Be Stripped
“Stripping” a lien means that the lien is removed, converting a secured debt into an unsecured debt. Unsecured debtors generally receive pennies on the dollar in bankruptcy, while secured debtors are protected by their security interests.
A lien can be stripped if there is no equity for it to attach to. This will be the case if you owe more on your mortgage than the fair market value of your home. For example, you have $250,000 first mortgage and a $40,000 home equity loan, but your home’s fair market value is only $200,000. If your home is foreclosed upon, your first mortgage lender would receive the entire proceeds of the sale, and nothing would be left over for the junior lienholder.
In this case, your junior lien could be stripped, since they are wholly unsecured.
Not All Liens Can Be Stripped
Liens can only be stripped in certain situations. First, a lien must be wholly unsecured. You can’t strip a lien on your primary residence if it is partially unsecured.
For other types of property, such as car loans or investment property mortgages, you can cramdown the lien to the current value of the collateral. This works in situations where there is some value for the lien to attach to, but less value the current amount of the lien.
The cramdown isn’t permitted for a mortgage on a primary residence. It’s an all-or-nothing situation, where the lien can be stripped if there is no value to attach to, but cannot be crammed down if there is some value leftover.
If you are able to strip your lien, it will only be officially removed once you have completed your three to five-year repayment plan. If you miss payments without receiving a modification of your plan, you may risk losing your opportunity to have the lien stripped, and the junior lienholder will retain the full amount of their security interest.
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