An increasing number of clients have contacted us recently who have filed bankruptcy thinking (or being told) that doing so would stop foreclosure and possibly result in being able to recover money damages from the “lender”. The reality that these clients are now realizing is that filing bankruptcy in response to a foreclosure is causing them more problems than solutions and costing more money than they thought without getting the anticipated or promised results as to the foreclosure.
A bankruptcy is a Federal proceeding designed to assist the filing “debtor” with working out debts. There are generally two types of proceedings: one in which the debtor’s assets are “marshaled” and sold off to pay creditors, and a second where debts are relegated to a payment schedule if the Bankruptcy Court approves the debtor’s plan. Recent changes in the bankruptcy laws have made it difficult if not impossible to discharge certain debts such as credit card debt.
When a Bankruptcy is filed, the law invokes what is termed an “automatic stay” of proceedings against the debtor. This would include any foreclosure, which was filed or initiated prior to the bankruptcy. However, the foreclosing party generally asserts that it has an interest in the property superior to any other creditor, and thus the foreclosing party simply asks the Bankruptcy Court for “relief from the automatic stay” to pursue the foreclosure outside of the bankruptcy. These requests are generally granted, which then permits the foreclosing party to proceed with the foreclosure either in state court (in “judicial” foreclosure states) or through a trustee’s sale in “non-judicial” states. As such, the only thing filing bankruptcy did, as it relates to the foreclosure, was temporarily halt the process, and the debtor/borrower winds up back in the same position in the foreclosure as s/he did before the bankruptcy was filed.
A debtor can challenge a foreclosing party’s request for relief from the stay in the bankruptcy case, but this is a highly technical procedure invoking specific provisions of the United States Bankruptcy Code. If the challenge is denied, this results in the foreclosure being put back into the same posture as it was before the bankruptcy was filed.
Such challenges to the foreclosing party’s request to proceed with foreclosure may also involve the filing of what is termed an “adversary proceeding” inside of the bankruptcy case, which is in essence a mini-lawsuit on the issues raised in the Adversary Complaint and any responses to it. These proceedings are usually subject to a very rapid trial schedule, leaving the debtor and/or his attorney little time to mount a proper defense and result in the attorney having to do a lot of work in a short period. If the defense is not properly presented and the requested relief is denied, that defense cannot be re-raised outside of the bankruptcy in a separate state court or other proceeding.
A foreclosure case in a judicial foreclosure state can be defended without having to file bankruptcy and depending on legally available defenses, certain of which are revealed through a formal audit of the loan documents. The scheduling in state court usually affords more time to prepare a defense through the use of discovery (e.g. document requests and depositions) and motions filed with the court. State courts are also generally more lenient than the Federal Bankruptcy Court when it comes to requests for extensions of time to file papers, respond to discovery or motions, and the like.
In non-judicial foreclosure states, a borrower can file a separate lawsuit to seek assertion of rights or defend a foreclosure, again without having to file bankruptcy. As with judicial foreclosure states, the scheduling of such proceedings is usually, in our experience, much more liberal than the rapid scheduling of adversary proceedings in Federal Bankruptcy Court.
Further, an adjudication of Bankruptcy has many long-term consequences:
(a) the borrower’s FICO (credit) score is significantly lowered;
(b) the borrower will have problems obtaining credit for a car loan, etc;
(c) the borrower may have problems securing rental housing (as landlords frequently check credit reports before signing a lease); and
(d) the Bankruptcy stays on the borrower’s credit report for years.
As such, filing bankruptcy in response to a foreclosure usually only accomplishes a very limited result (that being a short delay in the foreclosure process), and has significant short- and long-term consequences for the borrower/debtor. Anyone contemplating the filing of bankruptcy in response to a foreclosure should thoroughly consider ALL of the ramifications before filing as, in the end, doing so might cause more problems than it was intended to solve.
Jeff Barnes, Esq.