Can You File for Bankruptcy and Keep Your House?
Bankruptcy is a huge financial step, but it’s one that, in most cases, allows you to keep your home.
But, while there are ways to protect your house when filing for bankruptcy, that doesn’t automatically mean you’ll keep it.
Filing for bankruptcy involves a complicated balance between what you owe, what you have and what you can afford to pay. Filing without losing your home comes down to three things:
- What type of bankruptcy are you filing?
- Are you up-to-date on mortgage payments?
- How much equity do you have in your home?
The good news is that bankruptcy can protect your home, holding off a foreclosure. Chapter 13 bankruptcy is designed to allow you to keep your home, even if you are behind on payments. If you keep your house after filing for Chapter 7, the fact other debts are discharged should make it easier to pay your mortgage.
Keep in mind as we drill down on the details that bankruptcy is a second chance for people who have more debt than they can pay. Bankruptcy laws were created with the understanding that there’s no upside to putting someone out on the street, and the bankruptcy courts work to make sure that doesn’t happen.
“The basic idea is to preserve at least a minimal level of living,” Ariane Holtschlag of Chicago’s Factor Law Group said. “People will feel some relief when they file bankruptcy and stop the debt collectors from harassing them, but it’s an overwhelming sense of relief when the final decision is made and people realize they aren’t going to lose their home,”
So, support for keeping your home during bankruptcy exists.
On the other hand, paying off debt is an obligation, and there’s no “free house” option that comes with it. No bankruptcy action forgives a primary mortgage.
The bottom line is that if you want to stay in your house, you still have to pay your mortgage.
Different Ways to File for Bankruptcy
Bankruptcy is a process in which the court decides what the best route is for a person with overwhelming debt to pay as much as possible, given their assets. The solution may be Chapter 7, which discharges debts but also liquidates assets, though not all, of a person’s assets. Chapter 13 bankruptcy allows a person to keep their assets, but puts them on a strict repayment plan.
No matter which type you file for, the court puts an “automatic stay” on any foreclosure action. This means that if your house was being foreclosed on, that procedure will stop as the court sorts out your ability to pay. It doesn’t mean, however, you automatically keep your house.
In both types of bankruptcy, there is a homestead exemption, a way to protect some of the equity you have built. It’s another element of bankruptcy designed to make it more possible to keep your house. Each type of bankruptcy is a totally different process, but in each, the idea behind exemptions is that the person needs to protect some important assets in order to get by. There are also exemptions for keeping your car and other necessary items. The amounts vary by state, but the types of things you can exempt are limited to what you need to get by. Luxury items are not on the list.
The federal government, as well as 42 states, have a homestead exemption that allows a person filing for bankruptcy to protect a certain amount of equity in a home. The federal exemption, which changes every three years, is $25,150 until April 2022. State exemptions may be higher or lower. In 19 states and the District of Columbia, a person filing for bankruptcy can choose either the state exemption or the federal one. The other states require the person use the state exemption.
You are required to have lived in a state, in that house, for 40 months, in general, to claim a state exemption. Check with your state rules to see what the details are.
How Your Equity Affects You in Bankruptcy
The market value of your house, minus what you owe on it, is home equity. Let’s say the market value of your home is $250,000. You owe $195,000 to the bank on it. That means you have $55,000 in equity. In other words, if you sold your house tomorrow, after you paid what you owe, you’d clear $55,000. The debt on your house not only includes the mortgage, but any home equity loans or lines of credit you may have, as well as liens.
The homestead exemption protects equity, up to a point. With the example above, if your state had a $50,000 exemption, then the bankruptcy court would only consider what came after that as equity — $5,000. This is a simplification for explanation purposes – fees for the bank and trustee are also subtracted, so it would, in reality, be less. If you were using the federal exemption, the exemption would be $29,850 in equity, minus the fees. If you live in a state that only allows you to use the state exemption, and the state exemption is lower, say $10,000, the court would consider $45,000 in equity, minus the fees.
In a Chapter 7 bankruptcy, the court would consider what you had in equity, after the exemption, to pay off your debts. If your equity after the exemption is little or nothing, you would likely be allowed to keep your house, since selling it wouldn’t generate much money. You don’t even need the exemption if you owe more on your house than it’s worth. On the other hand, if you have a lot of equity, the bankruptcy court may determine you have to sell your home to pay off creditors.
In a Chapter 13 bankruptcy, the equity in your home is also a factor, and figured into the amount you have available to pay your unsecured creditors. It’s a little confusing, but, basically, the court adds up your assets and decides how much will go to pay unsecured debt, like credit card companies. The homestead exemption will lower the amount of equity you have – the court will only consider the equity after the exemption is subtracted. So, if you have $29,650 in equity after the exemption, it’s added in to what would be divided among your creditors to pay off your unsecured debt.
As you’ll see shortly, while Chapter 13 is designed to help you keep your house, it’s difficult to do. The courts recommend people filing Chapter 13 bankruptcy hire an attorney or financial counselor who is an expert in bankruptcy to help you navigate the ins and outs.
Keeping Your Home in Chapter 7 Bankruptcy
In a Chapter 7 bankruptcy, the court will liquidate most of your unsecured debts – that’s debt like credit card debt and personal loans, that isn’t attached to an asset like a house or a car. Once that debt is out of the way, it should make it easier to make your mortgage payments.
If you can’t pay your mortgage after bankruptcy, the result will be the same as not paying it before bankruptcy – you eventually will lose your home.
If you know you are going to file for bankruptcy and want to keep your house, you can see if your mortgage lender would work with you on modifying your mortgage agreement in a way that would allow you to catch up on your payments. Do this before you file for bankruptcy. Once you file, the court takes over your assets and it’s out of your hands.
Here are some of the things that make it more likely your house will be protected if you file for Chapter 7 bankruptcy:
- You are up to date on mortgage payments
- All, or most, of your equity is protected with an exemption
- You owe more on the house than it’s worth
- You demonstrate to the court you can make your mortgage payments on time
- You negotiate with your lender before you file for bankruptcy on a loan modification.
Keeping Your Home in Chapter 13 Bankruptcy
The good news about filing for Chapter 13 bankruptcy is that it’s designed to allow you to keep your house. With Chapter 13, you, the bank and your creditors all decide on a repayment plan that takes three to five years, but your assets are not sold off. Once the plan is completed, your unsecured debt is discharged. The trick, of course, is making it to the end.
The plan that is worked out with the court and your creditors will include a way to catch up on and pay your mortgage – if you can afford it.
Under a Chapter 13 repayment plan, if you’re behind on your mortgage the plan will work out how you pay the past due payments over the three to five years, but you also must make the current monthly payments.
What Happens to Your Mortgage When You File for Bankruptcy?
A mortgage is a secured debt – that means that if you pay, you keep the security on it, which is your house. If you don’t pay, you lose it. Bankruptcy, of course, complicates that.
Under Chapter 7, if it’s determined you can’t pay your mortgage, then the bank will foreclose. The house will no longer be yours, and you’ll have to move out. You don’t make any more payments in most cases.
With Chapter 13, you continue to make monthly mortgage payments, and also make past due payments, keeping the mortgage alive. But it’s not easy – more Chapter 13 cases were dismissed in 2020, which means finished without being completed, than were discharged. When a case is dismissed, it’s as though the person never filed. The majority dismissed cases was because homeowners didn’t or couldn’t make their payments. Whatever the reason, the debts are still owed, which puts you right back where you were before filing.
Whether you stick with the payment plan or can’t, you are still responsible for paying your mortgage or you will lose your house.
If You’re Behind on Your Mortgage Payments
With Chapter 7, if you are behind on your mortgage payments and can’t catch up, you can surrender your house. If you want to catch up on payments, there is no provision under Chapter 7 to do that, so, as mentioned before, it should be done before filing for bankruptcy.
One of the biggest benefits of Chapter 13 is that it makes it easier to keep your house, including catching up on payments. Payment plans allow a mortgage modification with a bank that can spread missed payments over the life of the plan, three to five years, and also require current payments be made.
In either case, if the bank is going to foreclose on your house and you know you won’t be able to stop it, and you plan to file for bankruptcy, file for bankruptcy before the foreclosure. If the bank sells your house after a foreclosure but doesn’t make back what you owe them on it, there is a “deficiency judgment,” which means you owe the bank the difference. If the foreclosure happens as a result of the bankruptcy, there is no deficiency judgment.
If You Have Multiple Mortgage Loans
Under Chapter 13, a borrower who has multiple mortgage loan on the same house can get all but the primary categorized as unsecured debt. That means they go into the category that’s covered by your ability to pay, and likely won’t have to be paid back in full. This only comes into play if you owe more on the house than it’s worth.
How to Know if Your Home is Exempt
Figuring out whether your home is exempt is a simple math problem – if you owe more than the market value, it’s exempt. Be sure to check what the exemption rules in your state are, because that’s part of the math. Less simply, the paperwork you fill out requires you to list what you owe, the exemption and your equity. You file the items you believe are exempt in Schedule C. This not only includes your house, but you also get an allowance for your car, and items like furnishings, things necessary to do your job, and more. It’s always a good idea to get help from an expert in bankruptcy who’ll guide you through this complicated procedure.
If the lender that holds the mortgage on your home forecloses because you weren’t able to pay, they sell the house. If they don’t get enough money for it to cover what you owe, the balance is called a “deficiency judgment.”
Normally, you’d be responsible to the bank for that money. But if you surrendered the house under Chapter7 bankruptcy, you don’t have to pay the deficiency judgment. If you have past deficiency judgments, you wouldn’t have to pay those either, under Chapter 7. With Chapter 13, since you keep your house, you’d be responsible for that payment.
Downsides to Keeping Your House When Filing for Bankruptcy
You may desperately want to keep your house, even if you’re so deep in debt you’re considering filing bankruptcy. That’s understandable – it not only has an emotional attachment, but could some day be an asset, even if you’re behind on payments now.
That said, there are some financial downsides to hanging on to your house through a bankruptcy proceeding.
If you file for Chapter 13 bankruptcy, you have to continue making your monthly mortgage payments, as well as pay what you were behind on. This can be difficult, even if the payment plan that you, the court and your lenders agree to, seems to be doable.
Almost two-thirds of Chapter 13 bankruptcies fail. It’s tough to keep to a payment plan over three to five years, even though modifications are allowed. Those involve going back to court and explaining why you need one. Through it all, you have to keep current on your mortgage payments, as well as all the other payments agreed to in the plan.
If you file for Chapter 7 and keep your house, you must make the monthly payments. The only hope for a modification, is the bank itself.
Bankruptcy, obviously, is complicated, and if you’re worried about keeping your house, it’s even more so. If you’re asking, “Should I file for bankruptcy?” your first move should be to talk to a credit counselor.
Credit counseling through a nonprofit agency can help you develop a debt management plan with payments you can afford so you can avoid bankruptcy. If the credit counselor is able to work with creditors to lower the payments and interest rates on your unsecured debt, like credit cards, it could avert a bankruptcy filing.
Even if you decide to file bankruptcy, the law requires that you consult a credit counselor first. Federal bankruptcy courts maintain lists of nonprofit credit counselors and you should consider contacting one before filing.
About The Author
Maureen Milliken has been writing about finance, banking, investment, entrepreneurship, real estate and other related topics for more than 30 years. She started as the “Business Beat” columnist for the now-defunct Haverhill (Mass.) Gazette and currently is one of the hosts of the Mainebiz business-focused podcast, “The Day that Changed Everything” in addition to her daily writing. She also is is the author of three mystery novels and two nonfiction books.
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- Teka, M. (2021, April 27) Exempt Property in a Chapter 13 Bankruptcy. Retrieved from https://www.findlaw.com/bankruptcy/chapter-13/exempt-property-in-a-chapter-13-bankruptcy.html
- N.A. (ND) BAPCA Report 2020. Retrieved from https://www.uscourts.gov/statistics-reports/bapcpa-report-2020