After chapter 7 bankruptcy, I often advise my clients, just don’t pay the second mortgage.
Now, if you don’t file bankruptcy and stop paying the second mortgage, two things would happen. they will call you day and night; and eventually they would sue you and garnish you. Bankruptcy keeps them from doing either of those.
Will they foreclose you? That’s the big question–but the answer is clear. The second mortgage can sell your house at foreclosure only if they pay off the first mortgage. If the value of your house has dropped below what you owe on the first. that’s just a way for them to lose more money. They are not going to do that.
What are they going to do? They will wait patiently for you to keep paying the first, and hope the value comes back up (and the balance on the first drops) that at some point you have equity that they can grab.
So, if you follow this just-don’t-pay-the-second strategy, you know you will never have any equity in your house. If you go to sell five years or twenty years down the road, the second will still be sitting there. (With five or twenty years of interest and late fees.)
So when does this make sense? Suppose you have five more years before your youngest is out of high school. Once that’s done, you might want to move to a smaller place anyway. Then you can stop paying the first mortgage too, and move out. The bankruptcy still protects you from both of the mortgages. (You’d have to keep paying the HOA until the first mortgage forecloses.)
Does this strategy hurt your credit? It does and it doesn’t. It doesn’t hurt your credit score, because that second mortgage will just show bankruptcy and can’t show any late payments after that. (For my clients, we check to be sure.) But it does hurt your being able to buy again.
For loans like car loans–or interest rates on your credit cards–your credit score pretty much controls, so you’ll be able to get a care loan at a good rate. Your score will be good, if you’ve built up new, good credit.
But to get a mortgage, a different rule applies. The March 2, 2010 manual released by Fannie Mae, (link here https://www.efanniemae.com/sf/guides/ssg/sgpdf.jsp) says what you have to do to get an insured mortgage. You have to be two years after the bankruptcy (with extenuating circumstances), but you have to be three years after a foreclosure. Even though there will not be a foreclosure on your credit report, there will be one on the land records, and a mortgage lender will check there, too.
So if you follow this just-don’t-pay-the-second strategy, you keep the house for three or five or seven years; then you have to plan to rent for three years or so. Then you’d be able to buy again.
If real estate goes up a lot over the next ten years, you’d be better financially to move out of the house right after the bankruptcy, rent for three years right away, and then buy again. (If real estate stays flat, then not being able to buy for ten years doesn’t lose you anything.)
But if you want to keep your children in the same school and the same house, just-don’t-pay-the-second is a good plan.
What if you want to keep this house long term? One way to do that would be with a second mortgage relief Chapter 13. See my website on that. http://virginiasecondmortgagerelief.com/
Or, you can not pay the second for a couple years, save some money, and then offer them a cash settlement. Say you owe $75,000 on the second mortgage, file chapter 7 bankruptcy, and pay them nothing for three years. If the value of your house is still less than you owe on the first, and you offer them $7000 to call it even, they might agree. If you move out, they get nothing.
That strategy takes nerves of steel. And it only works if you go for several years of not paying them–you want them to get used to getting nothing, so your offer of 10 cents on the dollar looks good. I’ve seen it work.
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Robert,
Thank you so much for this blog! I am a CA homeowner with a GMAC 1st of $390k (payments current) and a BofA 2nd for 120K(no payments for 18 mos). The house is worth $245K – very under-water. Just met with a BK attorney who suggested a 13 to strip the second but I have decided to gamble & do a 7. My youngest son graduated last year and after 16 years in the house, I would be okay moving on if the second ever forecloses. I also think the ch7 will make my credit sittuation look cleaner to a potential landlord.
My questions is: If I am not legally liable for the first mortgage, after my Bk7, will I still get a 1098 for the mortgage interest? This is a huge issue for me because the only reason I stay, and not rent, is for the mortgage interest deduction.
Thanks
Yes. As long as you actually pay the interest, you get the deduction for it.
For many people it can be a tough choice between a Chapter 13 and stripping the second mortgage and going with chapter 7 and taking your chances. This is my blog on Chapter 7. I have a whole website on the Chapter 13 approach. http://robertweed-bankruptcy-and-second-mortgages.info/. When I get together with people I go over both. The age of the children has a lot to do with what’s best–but it’s really a personal choice. Glad my info helped you decide.
Dear Mr. Reed, I have a few questions to ask you. A year or ago i filed chapter 13. I was not putting my house or car in it. That would have been in February 2011. In August 2011 I decided to put my house in the bankruptcy. After looking for some place to live, I couldn’t find anything. I decided to keep my house and convert to a chapter 7. Now I am 5 months behind on my payments and I don’t know what to do. Can you give me some advice? I have a lawyer, but he doesn’t communicate with me very much. He just tells me when I need to send him money. The trustee already garnished my wages for 10 months. My creditors didn’t get paid a cent. That’s why I converted to a chapter 7. Too many months had gone by with no word from my lawyer. I have talked with the mortgage company about making payments to get caught up, but I am not having very much luck with talking to the mortgage manager. I really need help to know what to do. Please tell me what would be the best way for me to go.
I don’t know what to say. You really need a lawyer who will give you good advice. Sorry you got into one who doesn’t. If I was your lawyer, we’d spend an hour or more trying to figure out what you should do next.
Mr. Reed,
You responded to my question yesterday but, I have just one more due to some information I found out this afternoon. We are filling converting to a chapter 7.
We have already started a mod on our 1st mortgae but will not be reaffirming. We also have a 2nd (HELOC) but the house is underwater so we will not pay it and wait a year or so to negotiate.
I found out today the 2nd never registered a lien on the property. Since they haven’t can they once the bankruptcy is finale?
Mr. Weed,
I would so appreciate your help with these questions, I have no one else to ask and don’t want to “shoot myself in the foot” I have filled you in with my situation before but here is a quick recap.
1st- 244,669, .81
2nd-approx 60,000 -stopped paying in Sept of 2011
Zillow value-233,00
Recently recieved a letter from the bank of 2nd offering to settle for $15,000-which they say needs to be received by 3/30. We don’t have the money for this and are wondering how to go about countering. I hear these loans are settling for 5-10%, but are worried they will walk away and we would really like to settle this matter. Should we wait a bit so as not to appear to anxious? We have only been communicating with them via US mail, but I am tempted to email our counter offer, although feel we may appear over anxious by doing so. Where would you start the negotiation amount? Also, I have heard that how they report this matter to credit agencies can also be included in the negotiations, do you know about this? I don’t know the verbage to use on this. I know this is a lot of questions and I really appreciate your time in answering. This blog is a great place to get information.
Thanks for your response, and link. Thanks again for this blog.
Hi- I just read your blog and everything makes perfect sense to me… my only question is what is your advice if you have both older children and younger children?
All I can do is lay out your legal choices–and some of the factors you should consider. You have to take your best shot at what you think is best for you and your family.
If you were one of my clients, we’d spend at least half an hour going over all the angles, and then I send people home to think about it. Sometimes we hash in out for a second time in person before there’s a final decision. But I can’t do that here in the internet. sorry.
I understand thanks for providing the information.
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