Sunday, January 24, 2010

Wholly Unsecured Mortgage Included in Unsecured Debt Load for Section 109(e) Eligibility Analysis

Junior mortgagees can defeat lien stripping adversaries by attacking the underlying Chapter 13 case. A lien stripping complaint would be dismissed as moot if the underlying Chapter 13 case is dismissed for reasons unrelated to the adversary.
One attack on the underlying Chapter 13 case is a motion to dismiss for ineligibility. Such a motion would be appropriate where the to-be-stripped wholly unsecured junior mortgage debt is reclassified into unsecured debt --- which in turn results in the debtor’s total unsecured debt load exceeding the Section 109(e) unsecured debt limit.

This scenario existed in In re Russell & Joy Smith, 20 CBN 246 (Bankr. C.D.CA 2009). There, the court dismissed the debtors’ Chapter 13 case because debtors exceeded the unsecured debt limit after adding the junior mortgage lien balance to the other unsecured debt balance.
The Smith case presented the court with the issue of how secured residential mortgage debt should be treated in determining whether debtors qualify for Chapter 13 relief. The court found that wholly unsecured junior mortgages are counted as unsecured debt and partially secured senior mortgages are counted as secured debt for Section 109(e) purposes. The court based its determination on eligibility on the amount of debt and property values listed in debtors’ schedules --- because there were no allegations that the debtors acted in bad faith.
Debtors had wholly unsecured junior mortgages that, if treated as unsecured debt, would make them ineligible for Chapter 13 relief. The debtors argued that the junior mortgages were unliquidated because it was not yet known whether the debt would be determined to be secured. The court disagreed, ruling that the debts were liquidated because the court could determine whether they were secured at a simple hearing. In support, the Smith court cited Scovis v. Henrichsen (In re Scovis), 249 F.3d 975 (9th Cir. 2001), established how to treat wholly unsecured junior mortgages. In Scovis, the 9th Circuit held that completely undersecured liens must be counted as unsecured debt for purposes of Section 109(e).
The Smith court, however, found that the Scovis case did not apply to partially secured senior mortgages because Section 1322(b)(2) prohibits the modification of these mortgages. Thus, while the bankruptcy court may still value a debtor’s principal residence, the Code does not allow the court to modify an undersecured lien secured by debtors’ residence.
In sum, the court found that debt secured by a wholly unsecured junior trust deed must be counted as unsecured debt for Section 109(e) eligibility purposes where a debtor’s schedules show the senior deeds of trust exceed said debtor’s home value. However, trust deed debt will be counted as secured debt for Section 109(e) purposes where a trust deed is partially secured on a debtor’s primary residence.


Warmest Regards,

Bob Schaller


Your Lien Stripping Defense Blog
By: Attorney Robert Schaller (Bob's bio) of the Schaller Law Firm


Bob is a member of the American Bankruptcy Institute and the National Association of Consumer Bankruptcy Attorneys.

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