Bankruptcy's Catch-22

Home Sale Hindsight

By Inman News Feed
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Home Sale Hindsight

Tara-Nicholle Nelson
Inman News

Q: I filed for bankruptcy in 2008 and then lost my job in 2009. I'd like to keep my condo and my car, even though those debts were included in the bankruptcy. If I can sell my condo for more than its payoff amount, can I keep the money or do I have to pay it back to the bankruptcy court?

Second, if I am not able to sell the property and it goes into foreclosure, am I still responsible for the mortgage? Will there be attorney fees, etc., that I will be responsible for?

A: One thing about bankruptcy is that it is a tool that can be used only very, very sparingly. In most cases you must wait six years after one discharge to file again. So, you find yourself in a Catch-22 now, where you can't file again but also can't pay your bills.

I've certainly had clients who were in a financial bind hang on and put off filing to have some alternative to turn to in case their jobs went south. But I've also had others, like you, who filed, lost their jobs and wished in retrospect that they'd toughed it out and reserved bankruptcy as an absolute last resort. You live and you learn.

The answer to many of your questions is, "It depends." The implications of selling your condo at a profit or losing it to foreclosure depend on (a) under what chapter of the bankruptcy code you filed, and (b) what state you live in.

Chapter 13 bankruptcies are essentially just a three- to five-year repayment plan, so your discharge probably has not even occurred yet, if that is the flavor of bankruptcy you elected.

If you filed under Chapter 13 of the bankruptcy code, you were probably ordered to provide the bankruptcy trustee with your tax returns for the duration of the repayment period, and to report to the trustee if your gross income increases by more than 10 percent of the amount you reported at filing.

Selling your home at a profit is an increase in gross income, and must be reported to your bankruptcy trustee. And, yes, chances are good that the trustee will seek to capture that income (profit) for your creditors, unless an exemption applies. Talk with your bankruptcy attorney to get clear on what your likely outcome would be before you put your home on the market. If your bankruptcy was a Chapter 13, your case is still open and the trustee will actually have to be involved in the sale of your home.

If you filed for bankruptcy under Chapter 7, you are required to report changes in your financial circumstances, including income, that occur within 180 days after your case was filed, not discharged. Based on a 2008 filing, if you filed a Chapter 7 bankruptcy you should be fine, even if you sell your home now for more than your payoff. But, again, talk with your bankruptcy attorney before you move forward.

In some states, known as "recourse states," the law does allow lenders to foreclose on a home and still sue the defaulting borrower for the difference between what was owed (including legal fees the lender incurs to execute the foreclosure) and what the lender is able to sell the home for.

A few states require lenders to choose a single lawsuit against a defaulting borrower; they can foreclose, or they can sue you, but they can't do both. Mortgage banks' preference in these "one action" states is almost always to foreclose, so they can at least have the house to sell off and recover some of their losses.

Other, "nonrecourse" states prohibit lenders from pursuing the borrower after they foreclose on the home that secured the mortgage. In reality, most lenders today are not pursuing borrowers after they foreclose on homes, primarily because (a) litigation costs money and (b) most homeowners who have lost their homes are what we call judgment-proof (aka "broke" -- they have no assets for the lender to recover against).

If it looks like you're going to lose your home to foreclosure, it might be worthwhile to consult with a local real estate attorney and an accountant so you can get a truly accurate sense for what the tax and legal ramifications of foreclosure will be, customized to your personal situation.

Tara-Nicholle Nelson is author of "The Savvy Woman's Homebuying Handbook" and "Trillion Dollar Women: Use Your Power to Make Buying and Remodeling Decisions." Ask her a real estate question online or visit her Web site, www.rethinkrealestate.com.

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