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Supreme Court bans second-mortgage lien stripping in Chapter 7

There are a variety of different ways that a Chapter 7 bankruptcy could potentially help an individual who is struggling with debt problems. However, there are limits to what a Chapter 7 bankruptcy can do.

A recent decision by the U.S. Supreme Court set such a limit. This limit is that, when a debtor is underwater on a property and has a second mortgage on the property, they cannot have the lien for the second mortgage stripped away in a Chapter 7 bankruptcy.

A previous lower court decision had ruled that this type of lien stripping was allowed in a Chapter 7 bankruptcy. The U.S. Supreme Court, in its decision, opted to overturn this lower court ruling and prohibit the practice. The Supreme Court cited past precedent in its decision to ban second-mortgage lien stripping on underwater properties in this class of bankruptcy.

Why does it matter whether or not a lien for a second mortgage on an underwater property can be stripped away in a Chapter 7 bankruptcy? One reason it matters is that it impacts what sort of role a second-lien-holder can play in a Chapter 7 bankruptcy involving an underwater property.

What do you think of the Supreme Court’s decision? What impact do you think it will have for future Chapter 7 bankruptcy filers? 

As a note, while this decision prohibits second-lien stripping on underwater properties in Chapter 7 bankruptcy, such lien stripping is still allowed in Chapter 13 bankruptcy. Thus, this ruling cements yet another difference between these two classes of bankruptcy. When a debtor is deciding between filing for a Chapter 7 bankruptcy and filing for a Chapter 13 bankruptcy, it can be very important for them to understand the key differences between these two bankruptcy types and how the differences between these two types could impact which bankruptcy type is right for them. Bankruptcy lawyers can provide prospective bankruptcy filers with guidance on this issue. 

Source: Forbes, “Debtors Can’t Void Underwater Mortgages In Bankruptcy, Supreme Court Rules,” Daniel Fisher, June 1, 2015

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