Tuesday, January 15, 2013

LIFEHACKER: Should I Get a Debt Consolidation Loan to Pay Off My Credit Cards?

Should I Get a Debt Consolidation Loan to Pay Off My Credit Cards?

Dear Lifehacker,
I've racked up a good bit of credit card debt, and while I'm slowly paying it down, it's a pain wrangling multiple bills with different interest rates. My credit union is offering debt consolidation loans with a lower rate than any of my cards—should I take that, use it to pay off all of my cards, and only have one, low-interest bill to pay every month?
Trying to Dig Out
Dear Trying to Dig Out,
It's tempting, isn't it? Getting rid of all of your credit card bills, no more annoying multiple payment to multiple creditors, just one, automatic loan payment every month that comes out of your account automatically and you're back on the road to being debt free, right? Well sure—but it comes with a couple of pretty big caveats that might sour the milk for you. Let's explain, and then you can decide whether it's a good idea in your case.

When Debt Consolidation Loans Don't Make Sense

In more cases than not, debt consolidation loans don't make sense. They're certainly attractive: the lure of being able to pay off all of your credit cards is a strong one, especially in exchange for a single monthly payment to your bank or credit union at a lower interest rate. It's definitely a tantalizing opportunity, but it's not perfect. Remember, debt consolidation loans are financial products, which means financial institutions wouldn't offer them to you if they didn't make money from them. Here are a few tips to make sure you're not falling into a trap:
  • Do the math on your credit cards and their interest rates, and figure out how long it would take you to pay them all off at your current payment rate. Compare that to the length of the consolidation loan you're looking at taking out. Your average 5 year (60 mo) debt consolidation loan, even at a lower interest rate than your credit card, may cost more over the long haul than if you just paid your cards down faster. Photo by 401(k) 2012.
  • Check what your monthly payment on a debt consolidation loan would be. Are you at least paying that much towards your credit cards now? If the loan payment is more than you pay towards your debts (and it fits into your budget), it might be time to up the ante and just put more money to your credit cards. If the loan payment is less than you pay to your cards, you'll likely wind up paying way more interest over time, since your loan term will probably be long.
  • Once your cards and debts are paid off, will you cancel the credit cards? Sure, you get credit cards with zero balances and no bills out of the loan, but one of the biggest problems with debt consolidation loans is that they do nothing to change the behaviors that got you into debt in the first place. Instead, they add another creditor to your pile, and fan the flames of going into debt to pay off more debt. If you even think you might be tempted to use those cards again after paying them off, or if you're using debt consolidation as an easy out or way to avoid really looking at your budget, it's not right for you. The last thing you want is to take out a loan, pay off your cards, and then charge up your cards again—now you've done nothing but dig your hole twice as deep.

When Debt Consolidation Loans Make Sense

If you're hopelessly drowning in debt, know that you can't negotiate any lower interest rates with your credit card companies or creditors, or if the math works out, a debt consolidation loan may be a good decision for you. Similarly, if you're in serious trouble with high interest rates, high monthly payments (that you're having trouble with already), and too many bills, a debt consolidation loan might help. Combined with a debt repayment plan or credit counseling, it can be used to pay off all of your debt at a fraction of their original cost. If it may be a good time to strike, pay it all off, and walk away debt-free. Photo by erules123. Of course, those situations aren't the norm, and most of us with credit card bills looking to get rid of them aren't in that position. That's not to say there aren't situations where debt consolidation loans can offer people who really need them the breathing room to get out of debt and organize their finances. ReadyForZero has a great post on this topic, and showcases some examples of when debt consolidation can be a good choice—and even save you money on interest while getting you out of debt faster.

It All Comes Down to Mathematics and Behavior

It may seem attractive to just take out a nice big loan, pay everyone off, and only deal with that one monthly loan payment—one you can even have automatically taken from your checking account every month—but all you're really doing is paying a financial institution to do something for you that you can do on your own. It feels great not to get a bunch of bills in the mail or fret over who you pay when and how much, but you can do the same thing on your own: Still, even if the math of a debt consolidation loan works out in your favor, your behavior may be the real problem. Paying off all of your credit cards and debts with a loan only shuffles the deck chairs around—you still owe money you have to pay, and if you go charging up those freshly paid-off credit cards again, those deck chairs may as well be on the Titanic.
Make no mistake: if you want help with your debt, you should get it. Don't let social stigma or ego get in the way—there are plenty of ways to get on the right track that go further than blog posts and stop short of putting you back in debt to someone else. Debt repayment and credit counseling programs can negotiate lower interest rates on your behalf, or help you do it yourself. They can help you with your budget, and help you plan a route out of debt that turns your credit into a tool you control, as opposed to a monster than controls you. If you need the help, get it—and definitely do that before you take out a loan. Photo by Media Bakery13 (Shutterstock).
Good luck,

Copyright 2013 Gawker Media.  All rights reserved.

Personal Bankruptcy and Real Estate Issues in 2013: a presentation by James H. Shenwick, Esq. to the Columbian Lawyers Association of the First Judicial Dept. on Jan. 9, 2013

I.          Introduction

a.         Why do people file for bankruptcy today?

1.      Credit card debt
2.      Unemployment
3.   Business reversals
4.   Real estate foreclosures
5.   High housing costs
6.   Student loans
7.   Divorce
8.   Medical bills and illness

b.         The Bankruptcy Code and New York State Debtor and Creditor Law provide many remedies to real estate issues and other debtor/creditor problems facing individuals in 2013 in New York State. 

·         Chapter 7 bankruptcy constitutes the vast majority of individual filings, and can be very helpful in dealing with many debtor/creditor problems that individuals have these days.

 c.        For the first three quarters of 2012, there were slightly less than 947,000 bankruptcy filings nationwide, and slightly less than 33,000 bankruptcy filings in New York State. 

d.         The goal of this outline is to explain contemporary issues facing debtor’s in New York State in 2013 and strategies for dealing with those issues.

            ∙The goal in personal bankruptcy is to obtain the “fresh start” for a debtor-discharge as many of the debtor’s debts as possible and allow them to retain as much property as possible
            ∙Pre-bankruptcy planning is allowed under the law and often times necessary to obtain the “fresh start” or an optimal result for the client

            e.         Current Developments: Rent Controlled and Rent Stabilized Leases are not exempt property under New York State law

·         A recent case in the Southern District of New York, In re Goldman, Case No. 11-11371 (SHL), involved an attempt by a Bankruptcy Trustee to sell the rent stabilized co-op unit of a long-time resident at 420 Riverside Drive in the Morningside Heights neighborhood of Manhattan. The case was a Chapter 7 bankruptcy filing assigned to Judge Lane, who entered a consent order permitting the Bankruptcy Trustee to have the U.S. Marshals Service evict Mr. Goldman from his apartment, and then the rights to the lease on the co-op unit would be sold back to the landlord, who would pay the Bankruptcy Trustee $60,000 when the apartment was delivered free and clear of all tenancies, including that of Mr. Goldman, the rent-stabilized tenant.
·         This is the third decision permitting a rent-stabilized apartment to be sold by a Bankruptcy Trustee to a landlord in the Southern District of New York. The other two cases are In re Stein, 281 B.R. 845 (Bankr. S.D.N.Y. 2002) and In re Toledano, 299 B.R. 284 (Bankr. S.D.N.Y. 2003). In both of these cases, the debtors lived in luxury apartments just south of Central Park–171 West 57th Street, Apartment 3C and 230 Central Park South, Apartment 9/10B.
·         Many people will be surprised by these decisions; however, the Bankruptcy Code and Rules seem to allow the result. Section 541 of the Bankruptcy Code states that when a debtor files for bankruptcy, a hypothetical estate is created, and all property of the debtor (with certain exemptions created by state and federal statute) is owned by the Bankruptcy Trustee. Section 365 of the Bankruptcy Code allows a debtor or a Bankruptcy Trustee to assume and assign (sell) a lease to a third party. Additionally, bankruptcy is federal law, and federal law generally primes (supersedes) state law. When you put this all together, the transaction looks as follows:
·         A Bankruptcy Trustee will review a bankruptcy petition and determine how many years the debtor has lived in the apartment, the rent that the debtor is presently paying under the rent-stabilized lease and the market value rent if the apartment was not rent-stabilized. The Bankruptcy Trustee will then contact the landlord or owner of the unit and offer to evict the tenant and deliver the apartment broom clean for a certain sum of money.
·         In the Goldman case, the landlord and the Bankruptcy Trustee entered into a stipulation that was “so ordered” by the Bankruptcy Court, which provided that the landlord would pay the Bankruptcy Trustee $60,000, which would be held in escrow until the Bankruptcy Trustee had the U.S. Marshals Service evict or remove the debtor from the apartment and delivered possession of the apartment to the landlord. The Bankruptcy Trustee receives a commission and legal fees are paid to the Bankruptcy Trustee’s counsel. The balance of the monies is distributed to the debtor’s unsecured creditors. While the result may seem harsh and surprising to many, three Bankruptcy Judges have ruled that these sales are allowed. None of these cases have been appealed to the Second Circuit Court of Appeals or the Supreme Court.
·         An individual who is contemplating filing for bankruptcy and lives in a rent-stabilized unit must go through the following analysis:
·         1. How many years has the debtor lived in the apartment?
·         2. What rent are they paying under the rent-stabilized lease and what is the market value rent if the apartment was vacant and not rent-stabilized?
·         3. Is the apartment in a gentrifying area or a high income area, such as the Upper East Side, Central Park West or Central Park South?
·         4. Has the apartment building recently undergone a condo or co-op conversion? And did the debtor decline to buy the unit, and therefore become a non-purchasing tenant?
·         There is one recourse for the debtor. The Bankruptcy Code allows the debtor to match the offer (in this case, $60,000) and pay that money to the Bankruptcy trustee to keep the apartment unit. Few individuals filing for bankruptcy have that type of money; however, they may be able to borrow that money from friends or family to keep the unit.
·         Additionally, if a husband and wife are married and only one elects to file for bankruptcy, or two people who are unmarried live in the apartment and both names are on the lease, since the Bankruptcy Trustee would only be able to assign the unit for the individual who filed for bankruptcy, the result may be that a landlord would be unwilling to pay a significant sum of money in that scenario, because the other party remaining in the unit would still be rent-stabilized. However, other than those two scenarios, this situation is a significant risk, and we are seeing more and more of these cases.
·         It would seem that either the New York State legislature or Congress needs to address this issue, and create some type of a safe harbor. Again, debtors in rent stabilized apartments must proceed with caution and consult an experienced bankruptcy attorney before filing for bankruptcy.

II.        Chapter 7 Personal Bankruptcy-“BAPCPA”
            Pre-BAPCPA there were no income limitations or restrictions on the ability of a debtor to file chapter 7 personal bankruptcy

            ∙ The goal of BAPCPA was to prevent many debtors from filing for chapter 7 bankruptcy and forcing them to file for chapter 13 bankruptcy

A.        In 2005, Congress radically revised and amended Chapter 7 personal bankruptcy laws.  These changes include median income and means testing, where if an individual (single, married or with children) has income that exceeds a certain dollar amount, then the bankruptcy filing is considered an abuse of the system and facially they are not permitted to file Chapter 7 bankruptcy. 

B.        The first test under the revised code is whether a debtor exceeds the median income for their family size based on their state of residence. Pursuant to the 2005 amendments, a case where the debtor makes less than the median is presumed to be a non-abusive filing, and a below-median debtor may file for Chapter 7 bankruptcy. Effective November 1st, 2012, the median income of a single person in New York State is $46,821. For a family of two, the income threshold for the Median Income Test is $58,106, for a family of three it is $67,652 and for a family of four it is $81,522. Add $7,500 for each individual in excess of four.  Median income figures are periodically revised by the Census Bureau.
C.        However, all is not lost for a debtor who exceeds his or her state median income threshold.  If an individual’s income exceeds the median income for their respective state and family size, they may still be allowed to file for Chapter 7 bankruptcy if they pass the so-called “Means Test,” i.e. the results show that the bankruptcy filing is not a presumption of abuse under § 707(b)(7) of the Bankruptcy Code.  The Means Test (officially known as Form 22A, “Chapter 7 Statement of Current Monthly Income and Means-Test Calculation”) is one of the most complicated calculations in the law.  It consists of eight pages, and is similar to doing a 1040 tax return for an individual.  The Means Test incorporates the debts that an individual has (both unsecured and secured (i.e. mortgages and car loans), taxes that they owe, and expenses specified by the IRS in its financial analysis standards–food, clothing, household supplies, personal care, out-of-pocket health care and miscellaneous (National Standards); housing and utilities (non-mortgage expenses), housing and utilities (mortgage/rental expense), with adjustments, transportation (vehicle operation/public transportation/transportation ownership or lease expenses)(you are entitled to an expense allowance in this category regardless of whether you pay the expenses of operating a vehicle and regardless of whether you use public transportation)–as well as many other factors.

∙ The expense limitations in the Means Test are based on the IRS offer in compromise standards

D.        However, with proper planning, most individuals or couples whose income exceeds the median income can still pass the Means Test and will be allowed to file for Chapter 7 bankruptcy, notwithstanding the legislative intent of the changes under BAPCPA, which was to try and minimize the number of individuals who could file for Chapter 7 bankruptcy and force them to either not file for bankruptcy or to file for Chapter 13 bankruptcy.

E.         Means Test Planning Opportunities:

1.         If an individual’s debts are primarily business debts, then the debtor is not required to take the Means Test.
2.         The data that is used to calculate the Means Test is a six-month rolling look back at the debtor’s income and expenses.  Accordingly, if a debtor is self-employed or is an independent contractor, they may be able to arrange their financial affairs so that they have less income for the months included in the Means Test, and therefore pass the Means Test. This is known as pre-bankruptcy planning.
3.         Our experience is that 90-95% of all debtors pass the means test and qualify for Chapter 7 personal bankruptcy.

III.       Why do the vast majority of Americans who file for bankruptcy file for Chapter 7 bankruptcy?

A.        Chapter 7 bankruptcy provides individuals who qualify to file under this chapter with a “discharge,” which can wipe out a significant amount of an individual’s debt. 
B. What debts are discharged in a Chapter 7 personal bankruptcy?
            i.          Credit card debt
            ii.         Personal, business, automobile and real estate loans
            iii.        Lines of credit
            iv.        Medical bills
            v.         Utility bills
            vi.        Personal and “good guy” guaranties–“good guy” guaranties are guaranties created for the leasing of commercial space

C.        Certain “old income taxes” may be dischargeable if:
i.          The tax return was filed more than two years prior to the bankruptcy filing;
 ii.        The taxes are more than three years old;
iii.        The taxes were assessed more than 240 days before the filing of the petition;
iv.        There was no attempt to avoid or evade the taxes. 

If all of these conditions are met, the taxes are dischargeable in bankruptcy.

D.        The IRS has heightened its scrutiny of the discharge of income taxes in bankruptcy, and their position (based on case law) is that if you spend too much money on luxury items and/or pay other creditors ahead of the IRS, then according to the IRS, those tax debts would not be dischargeable, and the IRS will commence an adversary proceeding (litigation in a bankruptcy case) to object to the discharge of these taxes.  See Wright v. Internal Revenue Service, 191 B.R. 291 (S.D.N.Y. 1995); Haesloop v. U.S. (In re Haesloop), 2000 Bankr. LEXIS 1104, 2000 WL 1607316 (Bankr. E.D.N.Y. Aug. 30, 2000); Lynch v. United States, 299 B.R. 62 (Bankr. S.D.N.Y. 2003); Epstein v. United States, 303 B.R. 280 (Bankr. E.D.N.Y. 2004)

E.         What is not dischargeable in a Chapter 7 bankruptcy filing?

i.          Recent income taxes (2-3 years old)
ii.         “Trust fund” taxes (i.e. sales or employment taxes)
iii.        Student loans (including private student loans):

·         Section 523(a)(8) of the Bankruptcy Code, concerning educational debt says:

A discharge under section 727, 1141, 1228(a), 1228(b), or 1328(b) of this title does not discharge an individual debtor from any debt - unless excepting such debt from discharge under this paragraph would impose an undue hardship on the debtor and the debtor's dependents, for - an educational benefit overpayment or loan made, insured, or guaranteed by a governmental unit, or made under any program funded in whole or in part by a governmental unit or nonprofit institution; or an obligation to repay funds received as an educational benefit, scholarship, or stipend; or any other educational loan that is a qualified education loan, as defined in section 221(d)(1) of the Internal Revenue Code of 1986, incurred by a debtor who is an individual.”

·         The courts have devised several tests for “undue hardship”, but the most frequently used test was articulated by the Second Circuit Court of Appeals in Brunner v. New York State Higher Education Services Corp. The Brunner test for undue hardship requires a three-part showing: (1) that the debtor cannot maintain, based on current income and expenses, a “minimal” standard of living for herself and her dependents if forced to repay the loans; (2) that additional circumstances exist indicating that this state of affairs is likely to persist for a significant portion of the repayment period of the student loans; and (3) that the debtor has made good faith efforts to repay the loans.

·         Failure to by the debtor to prove any of these factors can result in denial of discharge of the educational debt.

iv.        Domestic support obligations (i.e. alimony and child support payments)
v.         Debts incurred within 90 days of a bankruptcy filing that aggregate at least $600 for luxury goods or services and cash advances aggregating more than $875 within 70 days.

Chapter 7 bankruptcy is a very effective tool for the right debtor!

F.         New BAPCPA (2005) requirements in Chapter 7 bankruptcy

i.          Under BAPCPA, in addition to the list of creditors, schedules of assets, liabilities, income and expenses debtors must now provide:
a.         A certificate of credit counseling-Part I done prior to the bankruptcy filing and Part II done after the 341 meeting of creditors;
b.         Payment advices from employers received 60 days before filing (if any);
c.         A statement of monthly net income and any anticipated increase in income or expenses after filing;
d.         Tax returns or transcripts filed in the most recent tax year;
f.          Photo ID; and
g.         Social Security card

ii.         Failure to provide the documents within 45 days after the petition has been filed (with a possibility of a 45-day extension) results in automatic dismissal of the case.

iii.        Also new under BAPCPA, a debtor must have received pre-petition credit counseling (in person, by phone or internet) from an approved non-profit entity that outlined opportunities for credit counseling and assisted the Debtor in performing a personal budget analysis in the 180 days before filing a petition.  Debtorwise (http://www.debtorwise.org/website/index.aspx), one of the approved credit counseling agencies, charges $25 for the online course or $34.95 for the telephonic course.

vi.        Additionally, within 60 days after the first Meeting of Creditors, the debtor must also take a post-petition financial management course and file a certificate of completion with the Bankruptcy Court.  The cost of this course from Debtorwise is $15 for the online course or $24.95 for the telephonic course.

iv.        The Bankruptcy Court may grant a waiver based on the Debtor’s sworn statement that they were unable to obtain the counseling services within five days of making the request and had to file immediately, but the waiver expires 30 days after the petition is filed. 

v.         The briefing is not required if the Bankruptcy Court determines that the Debtor is mentally incapacitated, physically disabled, or is an active member of the military in a combat zone.

G.        What are the negatives of filing for Chapter 7 bankruptcy?

            i.          The filing stays on a person’s credit report for seven to 10 years-however Debtor’s are able to rehabilitate their credit by obtaining and using credit responsibly, savings as much as possible and spending as little as possible
            ii.         A debtor may only file for Chapter 7 bankruptcy every eight years (however, if a debtor files for Chapter 7, receives a discharge, and then gets into further financial trouble, they can file under Chapter 11 or 13 of the Bankruptcy Code).

H.        Property of the Bankruptcy Estate:-this property collected by the Bankruptcy Trustee and distributed to unsecured creditors

                        i.          This includes tax refunds
                        ii.         Lawsuits (usually personal injury cases) commenced by the debtor prior to the bankruptcy filing
                        iii.        Inheritances received by the debtor within 180 days of the bankruptcy filing.

IV.       Chapter 7 bankruptcy can be very effective for individuals with real estate in which they live that is “underwater” (where the fair market value of the property is less than the value of the mortgages to which the property is subject)

            A.        When we talk about real estate, we’re talking about houses, townhouses, co-ops and condos.  In order to qualify for the homestead exemption, a debtor must reside in the property at the time the bankruptcy is filed.

In 2011, New York State increased the homestead exemption (for debtors residing in the counties of Kings, New York, Queens, Bronx, Richmond, Nassau, Suffolk, Rockland, Westchester, and Putnam) to $150,000 per Debtor, so a married couple living in those counties can exempt $300,000 of equity in a residence.  Let’s look at a few examples of how residential real estate issues play out in a Chapter 7 bankruptcy filing.

Real Estate Scenarios:

For example, let’s take a look at a married couple considering filing for bankruptcy and the value of their property and mortgage(s) on their property.

FMV $600,000
Mortgage ($500,000)
Equity $100,000

In this scenario, the couple could file for Chapter 7 bankruptcy, discharge their unsecured debts, and keep their house, provided that they continue to make mortgage payments.

FMV $1,000,000
Mortgage ($500,000)
Equity $500,000

NYS Homestead Exemption ($300,000)
Non-Exempt Equity $200,000

In this scenario in a Chapter 7 bankruptcy, the Chapter 7 Trustee would sell the house and receive $200,000 for the equity above the homestead exemption (less costs and expenses), and that money would be used to pay the couple’s creditors. The Trustee would pay $300,000 (Homestead Exemption amount) to the Debtors at the end of their case as a result of their homestead exemption.  Alternatively, the debtors could repurchase the house from the Trustee by buying the equity from the Trustee (redemption).

FMV $400,000
Mortgage ($500,000)
Negative Equity ($100,000)

In this scenario, the house has a negative equity of $100,000 and is “underwater” and would not be sold by the Chapter 7 Trustee.  However, in order to keep the house, the debtor must reaffirm the debt to the mortgagee before the case is discharged and continue to make the payments on the mortgage, notwithstanding the fact that the value of the house is less than the amount of the mortgage. 
Reaffirmation is governed by §524(c) and 524(k) of the Bankruptcy Code, and requires that the debtor file an agreement with the court stating that he or she agrees to be legally bound to repay the otherwise dischargeable debt. The reaffirmation agreement must be filed 60 days after the meeting of creditors.  The debtor’s attorney must file an affidavit stating that such an agreement will not be a hardship for the debtor. In the case of a pro se debtor, the bankruptcy judge will interview the debtor to ensure the agreement is voluntary and that it does not present a hardship for the debtor. In any event, the debtor may rescind the agreement up to 60 days after the agreement is filed with the court, or the case is discharged, whichever is later.

Under these circumstances why would the couple want to retain the house? 

Wouldn’t they be better off economically to file for Chapter 7 bankruptcy and let the bank make a motion for relief from the automatic stay so they can foreclose and obtain title to the house?  This is a personal decision the debtors would have to make, which may include non–economic considerations that would lead them to want to keep a house that is $100,000 “underwater.”

Scenario: One spouse files for bankruptcy, the other spouse does not and the house has equity-this is the “In re Persky” scenario

In a Chapter 7 bankruptcy, the Trustee may be able to sell the house. However, under New York State law due to “tenancy-by-the-entirety” protection, the house cannot be sold. The creditor can docket a judgment against the property, which is good for 20 years, and the home cannot be sold or refinanced.

Under this scenario, NYS law may provide more protection to the non–filing spouse than bankruptcy law. See §§ 363(h), (i), and (j) of the Bankruptcy Code when dealing with a scenario where one spouse files for bankruptcy, the other spouse does not and the house has equity.

Note that if the home is transferred from one spouse to the other without consideration, this a fraudulent conveyance.

In Chapter 7 bankruptcy, the factors to be considered as to whether the Chapter 7 bankruptcy trustee can sell the house are: (i) the equity in the property; (ii) the respective ages of the debtor and the spouse; and (iii) the burden to the non-filing spouse of having to leave the house (i.e. the impact on minor children).   

Section 363(h) of the Bankruptcy Code deals with the conditions which must be met for a Trustee to sell a co-owner’s interest in property (whether owned as tenants in common, joint tenants or tenants by the entirety), which include:

1.         Partition of the property between the bankruptcy estate and the co-owners is impracticable;

2.         Sale of the bankruptcy estate’s undivided interest in the property would realize significantly less for the estate than the sale of the property free of the interests of the co-owners;

3.         The benefit to the bankruptcy estate of a sale of the property free of the interests of the co-owners outweighs the detriment, if any, to the co-owners.

In Community Natl. Bank and Trust Co. of New York v. Persky (In re Persky), 893 F.2d 15 (2d. Cir. 1989), the Second Circuit Court of Appeals reviewed a bankruptcy filing in which only one of the co-owners was indebted to the bank and filed for bankruptcy relief.   The Court found that:

  • The Bankruptcy Court had the power to review the Trustee’s discretion to sell the property.
  • The benefit to the bankruptcy estate should be analyzed from the standpoint of the sale of the non–debtor spouse’s entire interest in the property, including their possessory and survivorship interests, in determining whether the property should be sold.
  • Noneconomic factors should be considered when analyzing the detriment to the non–debtor spouse of a sale of the property.

Section 363(i) of the Bankruptcy Code provides that in a Chapter 7 bankruptcy, if the property is to be sold, the debtor’s spouse may purchase the estate’s share of the property.

Pursuant to § 363(j) of the Bankruptcy Code, the Chapter 7 Trustee must distribute to the debtor’s spouse the proceeds of the sale (less costs and expenses), but not including any compensation of the Trustee, in accordance with the ownership interests of the non–filing spouse and the bankruptcy estate. 

Pursuant to § 363(k) of the Bankruptcy Code, the mortgagee may also bid on the house and, if they’re successful, they may offset their secured claim against the purchase price of the house. 

How does one sell real estate in bankruptcy? 1. Pursuant to a section 363 motion to sell real estate in a chapter 11 case, 2. Pursuant to a confirmed chapter 11 Plan of Reorganization and 3. By a chapter 7 bankruptcy trustee in a chapter 7 case

B. The alternative way to sell real estate (or other assets) in bankruptcy is via a confirmed bankruptcy Plan.  While Section 363 is the quicker way to sell assets, there is a benefit to selling real estate through a confirmed bankruptcy plan, due to the fact that the seller (the bankrupt entity or individual) will not have to pay city or state real estate transfer taxes, based on the U.S. Supreme Court case Florida Department of Revenue v. Piccadilly Cafeterias, Inc., 554 U.S. 33 (2008). Accordingly, it may be beneficial to all parties for the debtor to file a simple, boilerplate Plan and Disclosure Statement and then sell the real estate pursuant to that Plan.

C. A few years ago, my firm represented a lender who was foreclosing on a property on which the borrower’s principal had guaranteed the debt. The borrower filed for Chapter 11 bankruptcy to stay the foreclosure. A deal was reached in which the property would be conveyed to the secured lender pursuant to a confirmed Chapter 11 Plan. The transaction was a win-win situation for all parties. The debtor was able to transfer property that was “underwater,” the debtor’s principal was relieved of liability under his personal guaranty and the secured creditor obtained title to property, without paying city and state transfer taxes.

Mortgage Arrears and Chapter 7 Bankruptcy

The above scenarios assume that the debtors are current on their mortgage.  If the debtors were not current, then the mortgage arrears would need to be cured in order to keep the house during Chapter 7 bankruptcy.
A. How does a debtor deal with mortgage arrears?

            i.          Negotiate with the lender prior to the bankruptcy filing.
            ii.         Negotiate with the lender after the bankruptcy filing for payment plan for the arrears.  Pursuant to Bankruptcy Code § 524, a debtor must reaffirm within 60 days from the date of the first scheduled meeting of creditors.  Once the reaffirmation is executed, unless the agreement is rescinded, the debtor is liable; if they default on the mortgage in the future after reaffirmation, the mortgage debt is not dischargeable.
            iii.        Loss mitigation in the Southern and Eastern Districts of New York (see Section V below)
                       Three benefits to Bankruptcy Court ordered mediation: 1. Settlement with the Bank, 2. Delay and 3. File goes to the “top of pile” in the Bank
            iv.        Conversion of a Chapter 7 case to a Chapter 13 case, pursuant to Bankruptcy Code § 706.
            v.         Abandon the house to the mortgagee pursuant to the Chapter 7 filing, if you can’t work out a payment plan with the lender.

V. Short Sales

  1. A short sale is a sale of the property which will net less than the amount required to pay off the principal amount of the loan(s) on the property. In these difficult times for real estate, many banks are more amenable to approving short sales than they used to be.
  2. The first step in this process is to find a buyer for the property, then enter into a contract of sale with a special rider provision that discloses to the purchaser that the property will only be sold if the short sale is consented to by the seller’s bank.

  1. The bank will also require an appraisal of the property (the Bank will order their own appraisal), as well as preapproval of a HUD-1 Settlement Statement, a form which is required under the Real Estate Settlement Procedures Act (RESPA) and used to itemize services and fees charged to the borrower by the lender or broker when applying for a loan for the purpose of purchasing or refinancing real estate.

  1. Another issue that must be addressed in the short sale is relief of indebtedness income (discussed further in Section X, below). There are tax consequences when the property is sold for less than the balance of the mortgage, which must be discussed with the owner/borrower’s accountant and/or attorney.

  1. If the bank will approve the short sale, then this will allow the seller to sell the property, with some impact on his or her credit report and tax consequences; however, the net result is that the seller no longer has to worry about a property that is underwater.

VI. The Southern and Eastern Districts of New York’s Loss-Mitigation Programs

  1. In response to a growing number of mortgage defaults and foreclosures, the U.S. Bankruptcy Court for the Southern District of New York adopted Loss Mitigation Program Procedures in January 2009.  A full description of the Southern District’s Program is at: http://www.nysb.uscourts.gov/pdf/lossmit/RevisedLossMitigationProcedures.pdf

  1. The U.S. Bankruptcy Court for the Eastern District of New York followed suit in December 2009.  A full description of the Eastern District’s Program is at: http://www.nyeb.uscourts.gov/admin_orders/ord_582.pdf

  1. “Loss Mitigation” includes the full range of solutions that can prevent either the loss of a Debtor’s property to foreclosure, increased costs to the lender, or both. Loss mitigation commonly consists of the following general types of agreements, or a combination of them: loan modification, loan refinance, forbearance, short sale, or surrender of the property in full satisfaction of the mortgage.  It is available in cases filed under Chapter 7, 11 or 13 of the Bankruptcy Code.

  1. Loss mitigation can only be requested for an individual’s primary residence. 

E.         Parties are encouraged to request loss mitigation as early in the case as possible, but loss mitigation may be initiated at any time, by any of the following methods:

i. By the Debtor

a. In the Chapter 13 Plan, a Chapter 13 Debtor may request loss mitigation with a creditor.  When requesting Loss Mitigation in the Chapter 13 Plan, the Debtor must serve the Plan on the creditor and file proof of service via the Electronic Case Filing System (“ECF”).  If the creditor fails to object within 21 days of service of the plan, the Debtor must submit a Loss Mitigation Order and the Bankruptcy Court may enter the Loss Mitigation Order.
b. A Debtor may file a request for Loss Mitigation with a creditor. The creditor has 14 days to object. If no objection is filed, the Debtor must submit a Loss Mitigation Order and the Bankruptcy Court may enter the Loss Mitigation Order.
 c. Upon entry of the Loss Mitigation Order, the Debtor must serve it on the creditor and file proof of service on ECF.
 d. If a creditor has filed a motion requesting relief from the automatic stay pursuant to Section 362 of the Bankruptcy Code (a “Lift-Stay Motion”), at any time prior to the conclusion of the hearing on the Lift-Stay Motion, the Debtor may file a request for Loss Mitigation. The Debtor and creditor shall appear at the scheduled hearing on the Lift-Stay Motion, and the Bankruptcy Court will consider the Loss Mitigation request and any opposition by the creditor. 

            ii. By a creditor- A creditor may file a request for Loss Mitigation. The creditor must serve the request on the Debtor and Debtor’s counsel and file proof of service on ECF.  The Debtor shall have seven days after service of the request to object. If no objection is filed, the creditor must submit a Loss Mitigation Order and the Bankruptcy Court may enter the Loss Mitigation Order. Upon entry of the Order, the creditor must serve it upon the Debtor and Debtor’s counsel and file proof of same on ECF.

iii. By the Bankruptcy Court.

The Bankruptcy Court may enter a Loss Mitigation Order at any time, provided that the parties that will be bound by the Loss Mitigation Order have had notice and an opportunity to object.

  1. Upon entry of a Loss-Mitigation Order:

  1. The Loss Mitigation Parties shall negotiate in good faith. A party that fails to participate
in Loss Mitigation in good faith may be subject to sanctions.
  1. The Debtor: Unless the Debtor has already done so in the Chapter 13 Plan or as part of
a request for Loss Mitigation, the Debtor shall provide written notice to each creditor, indicating  the manner in which the creditor should contact the Debtor.
  1. The creditor: Unless a creditor has already done so as part of a request for Loss
Mitigation, each creditor shall provide written notice to the Debtor, identifying the name,
address and direct telephone number of the contact person who has full settlement authority.
  1. The creditor shall serve upon the Debtor and Debtor’s attorney a request for
information using the “Creditor Loss Mitigation Affidavit” form within seven days of service of the Order.  The creditor shall file same on ECF.
  1. The Debtor shall serve upon the creditor a response to the creditor’s request for
information using the “Debtor Loss Mitigation Affidavit” form within 21 days of service of the  Creditor Loss Mitigation Affidavit.  The Debtor shall file only the Debtor Loss Mitigation Affidavit on ECF.

G.        The Loss Mitigation Parties shall provide either a written or verbal report to the bankruptcy court regarding the status of loss mitigation within the time set by the
bankruptcy court in the Loss Mitigation Order. The status report shall state whether one
or more loss mitigation sessions have been conducted, whether a resolution was reached,
and whether one or more of the Loss Mitigation Parties believe that additional loss
mitigation sessions would be likely to result in either a partial or complete resolution. A
status report may include a request for an extension of the loss mitigation period.

H.        The Bankruptcy Court will consider any settlement reached during
loss mitigation.  A settlement may be noticed and implemented in any manner
permitted by the Bankruptcy Code and Federal Rules of Bankruptcy Procedure, including, but not limited to, a stipulation, sale, plan of reorganization or amended plan of reorganization; and a motion to approve Loan Modification and terminate Loss Mitigation.

I.                   Loss Mitigation will delay a motion to lift stay (filed by a mortgagee) to commence or continue a foreclosure action, and delay a foreclosure action as well.  A creditor may not file a motion to lift stay during the Loss Mitigation period, except where necessary to prevent irreparable injury.

VII. Exemptions in Chapter 7 Bankruptcy for a New York State Resident

            If you are married, and you and your spouse file for bankruptcy then your exemptions are doubled

            ∙If you do not own real estate and you have a lot of cash, or money in a bank account, then you can choose the federal exemptions and exempt $10,825.00

A.        IRA. The maximum amount of a qualified IRA that may be exempted is $1,000,000.

B.        Under New York Debtor and Creditor Law § 283(2), an individual debtor may exempt up to $5,000 of personal property and a joint debtor may exempt up to $10,000 of personal property.

C.        Homestead exemption-As discussed in Section IV above, in the counties of Kings, New York, Queens, Bronx, Richmond, Nassau, Suffolk, Rockland, Westchester, and Putnam, an individual debtor may exempt up $150,000 of equity in a residence, and a joint debtor may exempt up to $300,000 of equity in a residence.

D.        An unlimited amount of rental or utility security deposits.

E.         60 days of food.

F.         $7,500 (for an individual debtor) or $15,000 (for a joint debtor) of monies recovered for a personal injury.

VIII.    Remedies for Dealing with Judgments

            A.        Under New York Debtor and Creditor Law, a judgment is good for 20 years.  A judgment docketed against a property would prevent the owner from selling or refinancing the property without satisfying the judgment.
                        ∙ One strategy for dealing with a judgment is to let the “judgment get old and cold” and then reach out to the creditor and negotiate an “out of court workout”

            B.        If a married couple owns property as tenants by the entirety (deed must say as “husband and wife” or similar language”), a creditor can docket the judgment against the property, but can’t force a sale of the property.  This is to prevent the innocent spouse from the consequences of the judgment debtor’s actions.

C.        Debtor’s may file a motion to avoid a judicial lien under section 522(f) of the Bankruptcy Code. Section 522(f) of the Bankruptcy Code protects Debtors’ exemptions and discharge, and thus their fresh start, by allowing them to avoid certain liens on exempt property (but not consensual mortgages). A Debtor may avoid a judicial lien on any property to the extent that the property could have been exempted in the absence of the lien.
                        a. The formula for calculating avoidance of a lien is:
i. Add the lien being tested for avoidance, all other liens and the maximum exemption allowable in the absence of liens (in the counties of Kings, New York, Queens, Bronx, Richmond, Nassau, Suffolk, Rockland, Westchester, and Putnam, $150,000 for an individual Debtor, $300,000 for joint Debtors).
ii. From the above sum, subtract the value of the property in the absence of the lien to determine the extent of the impairment.
iii. If the extent of the impairment of the exemption exceeds the entire value of the Debtor’s lien, the entire lien is avoidable.
b. If the extent of impairment is less than the entire value of the Debtor’s lien, the lien can be avoided only to the extent of the impairment of the exemption and the rest remains as a lien.
c. If the property has increased in value, there may now be too much equity for § 522(f) to apply if the current date is used as the date of valuation. The Debtor will want to use the date the bankruptcy petition was originally filed as the date of valuation.  
D.        Judgments entered within 90 days of a bankruptcy filing are a voidable preference.

E.   Cancellation of Record of Judgment Discharged in Bankruptcy under New York State Debtor and Creditor Law § 150

            1.         Under this section of New York State law, at any time after a year has elapsed since a Debtor is discharged from their debts in bankruptcy, a Debtor may  apply, upon  proof  of  their discharge of debts, to the court in which a  judgment  was rendered against  the Debtor, or to the court in which the judgment was docketed, for an order directing that a discharge or a qualified discharge of record be marked upon the docket of the judgment.
            2.         If it appears after a hearing that the Debtor has been discharged from the payment of a judgment or the debt upon which  it was  recovered,  the court must enter an order directing that a discharge or qualified discharge be marked on the docket of the judgment.
            3.         If it appears that any lien of  the  judgment  upon  real  property owned by the Debtor  prior  to  the commencement of the bankruptcy was invalidated or surrendered in the  bankruptcy or  set  aside  in  an  action  brought  by the receiver or trustee, the order shall direct that a discharge be marked on the docket of the judgment.
4.         If (a) it does not appear whether the judgment was a lien on  real property  owned  by  the Debtor prior to the commencement of the bankruptcy, or (b) if it appears that the judgment was a lien on such real property, and it is not established to the satisfaction of the court that  the  lien  was  invalidated  or  surrendered  in  the bankruptcy or set aside in an action brought by the receiver or  trustee, the order shall direct that a qualified discharge be marked on the docket of the judgment. If the court  directs  that  a  qualified discharge  be  marked  on the docket of the judgment, it must specify in its order which of the two grounds stated above was  the  basis  of  its order.

IX.       Relief of Indebtedness Income

            A.        Under § 108 of the Internal Revenue Code, debt relief is considered income. 

            B.        The Mortgage Forgiveness Debt Relief Act of 2007 (which was scheduled to expire on Dec. 31, 2012) generally allows taxpayers to exclude income from the discharge of debt on their principal residence. Debt reduced through mortgage restructuring, as well as mortgage debt forgiven in connection with a foreclosure, qualifies for the relief.
i.          This provision originally applied to debt forgiven in calendar years 2007 through 2012. As part of the negotiations to avoid the “fiscal cliff,” Congress extended its provisions to debt forgiven in 2013.
ii.         Up to $2 million of forgiven debt is eligible for this exclusion ($1 million if married filing separately).
iii.        The exclusion does not apply if the discharge is due to services performed for the lender or any other reason not directly related to a decline in the home’s value or the taxpayer’s financial condition.
iv.        This provision does not apply to credit card debt or non-residential property.  But a Chapter 7 bankruptcy filing eliminates relief of indebtedness debt.

X.        Chapter 13
            -Planning Opportunity/Strategy-if the Debtor has equity in the property and a creditor is foreclosing, file the chapter 13 bankruptcy to stop the foreclosure sale and give the Debtor time to sell the property          

            A. What are the pros and cons?

                        i. Cons
a.         The debtor is placed on an austerity budget and must pay their disposable income to the Chapter 13 Trustee on a monthly basis.
b.         If the debtor is over the “median income,” then they must prepare a five year, 60 month plan.  The shortest plans are generally three years.
c.         The filing fee is $281 (which is $25 less than the filing fee for a Chapter 7 filing).
d.         However, legal fees are greater than those for a Chapter 7 filing, since there are fees for preparing the plan, the hearing on plan confirmation, and the plan must be served on creditors and must be confirmable.
e.         In the Southern District of New York, historically only 30% of Chapter 13 plans pay out over time.
f.          Pursuant to §1322 of the Bankruptcy Code, first mortgages cannot be modified in Chapter 13.  However, second mortgages can be modified and mortgages on investment properties and vacation homes can be modified.
g.         The Chapter 13 Trustee receives a commission of 10% of the monies paid into a Chapter 13 plan.
h.         Since 2005, when New York State increased the homestead exemption to $50,000 (before increasing it again in 2011), Chapter 7 can accomplish much of what can be accomplished with a Chapter 13 filing at a lesser cost to the Debtor.

ii. Pros
a.         Chapter 13 allows the debtor to retain property that he or she would otherwise lose in Chapter 7 liquidation (e.g. a car or a house with substantial equity)
b.         A Chapter 13 debtor remains under bankruptcy court protection for the duration of the repayment plan (3-5 years)

XII.     Alternatives to Chapter 7 bankruptcy

            A.        Do nothing
B.        File for Chapter 13 bankruptcy
C.        File for Chapter 11 bankruptcy (which is an extremely expensive and time consuming process).  A debtor would only file under this chapter if they didn’t fit within the confines of the Chapter 7 or Chapter 13 requirements, had a very unique problem or had an extremely high net worth.
D.        Out of court workout with creditors 

Visit the Shenwick & Associates website:  jshenwick.googlepages.com, which has detailed information regarding personal bankruptcy.

Please e-mail Jim Shenwick with any questions at jshenwick at gmail com.