By Alan Steven Wolf of The Wolf Firm and Scott Lundberg(Servicing Management Magazine, Vol. 3, No. 10 June 1992)
By Alan Steven Wolf of The Wolf Firm and Scott LundbergFHA and other claims procedures often require a servicer to commence foreclosure within a certain period of time after the automatic stay of bankruptcy is removed.
Chapter 7 cases present some unique issues regarding when the stay terminates. For example, HUD has taken the position that the discharge in a Chapter 7 case removes the effects of the stay. Thus, interest is curtailed if the servicer doesn't proceed with foreclosure within 60 days after the discharge order. This article focuses on when and if the stay terminates upon discharge of the debtor' and provides a state by state summary of what, if anything, is needed in addition to the discharge order, before a foreclosure sale can proceed.
Section 362 of the Bankruptcy Code imposes an automatic stay against, among other things:
Therefore, before a servicer can proceed with foreclosure, it must remove both the stay against the lien enforcement and the stay blocking collection action against the debtor.
Discharge analysis
A discharge is an order of the Bankruptcy Code which provides that the debtor is no longer personally liable for certain debts. Each chapter has its own discharge provision although the timing and scope of each discharge is different.
For example, a Chapter 7 discharge generally occurs about five to six months into the case, a Chapter 13 discharge generally occurs when the Chapter 13 plan is completed (36 to 60 months into the case), and a Chapter 11 discharge generally occurs when the Chapter 11 plan is confirmed (often a year or more into the case).
Although the Chapter 13 discharge is significantly broader than a Chapter 7 or 11 discharge, from a mortgage servicer's perspective the differences in scope are irrelevant. All discharges erase the personal liability of the borrower under the promissory note secured by the mortgage or deed of trust. Thus, once a discharge order is entered, the note holder cannot seek a deficiency judgment against the debtor.
In every chapter, the discharge of the debtor also grants relief from stay as to the debtor. Consequently, once the debtor has been discharged, collection efforts related to the debtor are allowed.
For example, the servicer can then make collection calls. However, the servicer cannot enforce its lien through foreclosure unless either the bankruptcy estate has no interest in the property or the servicer has relief from stay as to the estate.
This distinction is not a problem in Chapter 11 or Chapter 13 cases because, as a practical matter, a discharge in either a Chapter 13 or Chapter 11 case is sufficient to allow the servicer to foreclose. This is because the Bankruptcy Code specifically provides that in a Chapter 13 and Chapter 11 case, the property is revested in the debtor upon confirmation of the plan. It is, then, no longer property of the estate protected by the stay.
Although a plan can change this result, it is seldom done. Accordingly, since the estate has no interest in the property and since the discharge grants a relief from stay as to the debtor, the discharge alone is generally sufficient to allow foreclosure to proceed in either a Chapter 13 or Chapter 11 case.
It is worth noting that a discharge in Chapter 11 and Chapter 13 cases is rare because few Chapter 13 plans are completed and even fewer Chapter 11 plans are ever confirmed.
Chapter 7 analysts
Chapter 7 cases present additional issues. Here, the focus is on whether or not the Chapter 7 estate has an interest in the property or the property is exempt through a homestead provision.
For example, if the state law exemption provides that all of the equity in the property is exempt, then the estate would have no interest in the property and a discharge, alone, would be sufficient to enable a servicer to proceed with foreclosure. Texas has such an exemption. There the discharge, alone, grants relief from the stay.
Other states, such as California, provide a homestead exemption that is limited to a certain value. In those states, if the amount of the exemption and amount secured by the liens exceed the value of the property, the estate would have no interest and the discharge alone would be sufficient to allow foreclosure to ensue.
If the opposite is true, then the estate would have an interest in the property and specific relief from the stay would be needed to enable the servicer to proceed with foreclosure.
Unfortunately, bankruptcy courts often do not make a judicial determination of the value of the property. Thus, the possibility that the values may be such as to give the estate an interest in the property is generally sufficient to cause servicers to obtain relief from the stay as to the estate.
An order abandoning the property removes it from the bankruptcy estate and grants relief from the stay as to the estate. Thus, a discharge order and an order abandoning the property should also be sufficient to allow foreclosure to proceed in all states.
Some courts view a Chapter 7 trustee's no-asset report as an informal abandonment. In those jurisdictions, a discharge and a no-asset report is sufficient to remove the stay and allow foreclosure to proceed.
Local practice
To make matters even more confusing, some bankruptcy courts have a local practice of adding language to the discharge order which either closes the case or abandons the property by the estate.
In either case, the discharge order alone would grant relief from the stay, not because the property is exempt under state law, but rather because the discharge order provides relief from the stay as to the estate in addition to the discharge and relief as to the debtor.
A survey of counsel in each state (two states failed to respond) produced information (see chart on page 15) concerning the requirements in each state to obtain relief from stay through Chapter 7 discharge, either alone or in conjunction with additional events.
The survey clearly reveals that a policy requiring servicers to commence foreclosure within 60 days after discharge, solely, to avoid interest curtailment, is inappropriate in most states.
It is hoped that HUD and other agencies and private mortgage insurers will recognize this fact and revise any inconsistent policies.
For further information please contact:
The Wolf Firm, A Law Corporation, is an "AV" rated law firm which concentrates on providing superior legal services to the mortgage banking industry. The firm's national clientele includes many of the largest mortgage bankers in the country, as well as a variety of savings banks, commercial banks, commercial finance companies, credit unions, and the Resolution Trust Corporation. With a staff of approximately forty individuals, including attorneys, certified paralegals, legal secretaries, administrators, clerical personnel, and a full time computer systems analyst, the firm represents its clients on a wide range of matters including all aspects of both residential and commercial/multifamily mortgage loan origination and servicing, securitization, regulatory compliance, bankruptcy, and litigation related to the foregoing in both federal and state courts throughout California. For more routine matters, such as residential bankruptcies, evictions and receiverships, The Wolf Firm has developed extremely cost-effective and efficient programs using specially trained paralegals and computer technology to assist its attorneys in handling these matters at rates that are the most competitive in the State of California and, through its membership in the USFN, the Firm is able to arrange similar services in virtually every state in the nation.
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