Mortgage Lenders in Bankruptcy: Know Your Rights and Anticipate Upcoming Changes

No creditor wants to receive a notice that its customer, client, or vendor has filed a bankruptcy case.  At best, the bankruptcy filing means delay and increased expense.  At worst, it means the reduction or extinguishment of a debt.  Secured creditors, however, have many rights and advantages over other creditors.  Secured creditors must, however, be vigilant in recognizing, asserting and protecting these rights.  Pending changes to the Federal Rules of Bankruptcy Procedure will make it even more critical for mortgage lenders to know and to protect their rights.

Bankruptcy cases are driven by rules and by deadlines.  Ignorance of the rules and deadlines can cost a creditor important rights and remedies.  All creditors should receive a notice from the Bankruptcy Court when a bankruptcy is filed. This notice provides basic case information, and it also usually sets deadlines for a creditor to file proof of claim and to object to confirmation of a Chapter 13 plan.

In a Chapter 13 case in particular, secured creditors face many crucial deadlines.  The Chapter 13 plan proposed by the Debtors will provide a treatment for mortgage lenders.  Many Courts have form plans which Debtors must use.  On a first mortgage on the Debtors’ principal residence, the plan must either propose the surrender of real estate or it must propose to pay the mortgage and to cure any pre-bankruptcy arrearage.  Depending upon the Court, the on-going monthly payments may be made by the Chapter 13 Trustee or by the Debtors.  The arrearage is cured by payments from the Trustee.  For second mortgages on the principal residence and for mortgages on rental or other properties, the plan may propose to pay the mortgage per its terms, to value the real estate at a low value and to “cram down” the lender, or to surrender the real estate.  A creditor who fails to object to confirmation of a plan will be bound by the plan treatment once the plan is confirmed.  Confirmation of a plan can significantly impact a creditor’s financial position.

A mortgage creditor should file its proof of claim in a timely manner, both to protect its rights and to inform the Trustee as to the amount of the pre-petition arrearage and the amount of the ongoing monthly payment.  Changes to the Federal Rules of Bankruptcy Procedure which became effective in late 2011 greatly increased the information which must be provided in a mortgage proof of claim.  There is now a mandated attachment to such claims and there is a requirement that an escrow account statement be provided.  The Rules also now mandate that notices of post-petition payment changes be filed at least 21 days in advance of a payment due date and that notices of post-petition fees and expenses be filed.
The 2011 Rule changes also attempted to address problems relating to the status of a loan as the Chapter 13 plan concludes.  Debtors had reported numerous instances where the Debtors believed they were current on their mortgage and the lender did not agree.  Debtors would emerge from bankruptcy only to find themselves in foreclosure once again.  The Rules now provide that a Trustee (or a debtor) is to file a notice of final cure payment once all plan payments have been made.  The lender then must, within 21 days, file a response which states whether the lender agrees that the pre-bankruptcy arrearage has been cured and whether the lender believes the post-petition payments are current.  Trustees may also file a motion to deem to mortgage to be current.  Such a motion seeks a Court order that the mortgage is deemed paid in full through a date certain.  Mortgage lenders must continue to monitor a Chapter 13 case to its conclusion to protect its rights.

There are a number of significant rule changes which are scheduled to take effect on December 1, 2015.  These rules propose changes to the treatment of secured creditors.  The most significant proposal is the implementation of a national form Chapter 13 plan, which would become mandatory in all Chapter 13 cases.  As it relates to mortgage lenders, the most significant provision of this proposed form plan is a provision which allows for the avoidance or stripping of a lien as a part of the plan confirmation process.  Under current practice, if a Debtor intends to strip a second mortgage on a principal residence or proposes cram-down on other real estate, there is a two-step process.  The Debtor first makes this proposal in the plan, but the plan requires that, after confirmation of the plan, the Debtor must then file a separate motion or file an adversary proceeding which seeks to strip a lien or to cram-down a lender.  If the form plan is approved, lenders will be bound by the confirmation process, and they will not have a second opportunity to protect their rights in response to the motion or adversary proceeding.  The form plan will also allow Debtors to object to claims as a part of the plan confirmation process.  Under current practice, Debtors must file a separate objection to a proof of claim and provide specific notice to the affected creditor.  Lenders will need to act very quickly in such cases.

The proposed 2015 rule changes also shorten the deadline for filing a proof of claim in a Chapter 13 case from 90 days to 60 days.  The rules also clarify that secured creditors must file a proof of claim timely in order to participate in a Chapter 13 plan.  Although it is always a good idea to file a claim by the bar date, secured creditors have, in some cases, been able to file a late proof of claim and still have it addressed by a plan.  In cases where there is no arrearage and the Debtors propose to pay the post-petition payment directly, some lenders have not filed a proof of claim at all.  The Rule changes will mandate that lenders must file a proof of claim.

The current and proposed rules as they relate to mortgage lenders are extremely complex and time-sensitive.  This article addresses only some of these rules.  For more information, please contact Kenneth M. Richards, or any of the creditors’ rights attorneys at Luper Neidenthal & Logan, LPA.

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