By Ryan C. Wood
If you have a rental property in California or another state and you are upside down on the mortgage or the rental income is not enough to pay the mortgage bankruptcy can help. When filing a consumer Chapter 13 bankruptcy case the primary mortgage on the filer’s principal residence cannot be modified. This is not true of the bankruptcy filer’s rental property.
When you file bankruptcy to reorganize your debts you can cram-down a loan to the fair market value of the collateral. So if you purchased a rental property or vacation home in 2007 for $150,000 in Texas and the value is now only $70,000, you do not have to pay the $150,000 of the original loan, but the $70,000 the house is now worth. How does this work? Pursuant to section 506(a) of the bankruptcy code the loan is only secured up to the value of the collateral. If the house is only worth $70,000, then that is the amount the loan is secured by and that is what you have to pay back in the Chapter 13 plan over five years. $70,000 divided by 60 months equals a payment of at least $1,166.67, plus the Chapter 13 trustee fee and attorney fees.
You get the picture though. What a significant savings and you can own the property outright in five years. The problem that comes up most of the time is that the Chapter 13 monthly payment is too high for most people to make. In California, and the Bay Area specifically, there are almost no properties worth less than $200,000. A rental property or vacation home in the Bay Area would have been purchased for $650,000 and is only worth $500,000 today. Well $500,000 divided by 60 months is $8,333.33 per month. But it is possible. Most people do not choose to file a Chapter 13 bankruptcy case to just cram-down the mortgage on their investment property or vacation home though. There are usually other financial difficulties going on that make reorganizing their debts like this not possible.
Whether a motion to value is filed with the bankruptcy court or an adversary proceeding is filed to determine the value of the house, the bankruptcy court will have to sign an order or enter a judgment stating the value of the property. It is also possible to enter into a stipulation with the bankruptcy attorney representing the mortgage company regarding the value of the house. This would be unlikely though. It is more likely that the mortgage company will fight and try and prove the house is worth significantly more than what you believe the house is worth. An evidentiary hearing or trial may have to be held to determine the value of the house.
The largest benefit bankruptcy lawyers can provide residents’ of California is possibly cramming down on a rental property they have in another state where the home values are lower. Many states across the United States have homes that are not worth more than $200,000. These clients are few and far between, but helping someone keep their rental property for future generations is always a worthy cause.