Although Congress has never authorized bankruptcy judges to modify mortgages on primary residences, such "cram downs" have been taking place in certain courts, according to research firm and ratings agency DBRS recently reported.
In the report released earlier this month, DBRS says that the amount of such modifications or cram-downs varies by state, property value and the borrower's individual situation. Despite these changing factors, the cram down usually includes a reduction in the principal amount of the loan to fair market value. Kathleen Tillwitz, a representative for DBRS, stated that the cram downs that had been discovered through the report were small in number for first mortgages and were concentrated in California, Texas and Louisiana.
Bankruptcy cram-down is a concept that originated as part of the language of the 2009 Helping Families Save Their Homes Act. It aimed to modify the federal bankruptcy law governing a Chapter 13 debtor, and if passed, would allow judges to alter the terms of mortgages on primary residences, similar to a loan modification one would receive from their lender. The provision was dropped from the bill when it went through the Senate however, and was not included in the final version signed into law in May of 2009.
The proposed provision would have allowed bankruptcy judges to reduce the principal amount of primary residence mortgages to current fair market value in an attempt for the homeowner to repay his or her debts under the Chapter 13 bankruptcy. The judge would also have the power to reduce the interest rate, extend the terms of the mortgage up to 40 years, prohibit, reduce or delay the adjustment of an adjustable-rate mortgage (ARM) and waive prepayment penalties. This would have been a departure from the historical legal precedent, in which bankruptcy judges could only modify the terms of mortgages on investment properties and vacation homes.
DBRS reports that the cram-down provision drew extensive criticism while on the table for debate because it would have allowed borrowers to abdicate their contractual obligation to repay the full amount of their loan, a point of contention in any loan modification debate, but especially when looking to implement it as a part of the national bankruptcy structure.
As another point, many have argued that allowing cram-downs would make it costlier for other individuals to purchase a home. This is because lenders would have had to increase interest rates and down payments to make up for the lost revenue from widespread loan modifications. The idea of bankruptcy cram-downs has been voted down several times before in Congress, but come judges have still put them into place by their own jurisdiction.
This has many in the residential mortgage-backed securities market worried about an increase in bankruptcy filings if homeowners struggling with mortgage payments find out that there is a possibility of reducing their principal loan. Experts at DBRS fear that if this practice by bankruptcy judges becomes general knowledge, there will be a significant increase in bankruptcy filings in the industry, weakening it further.
If you are struggling with your mortgage payments and are facing possible foreclosure, contact the experienced attorneys at P&P today to schedule a free consultation. We can assist with your specific real estate and financial needs to assure that your bankruptcy process is handled smoothly and gives you the best chance to get back on your feet.
