If you’re struggling to make ends meet, you may be facing tough choices. Pay the mortgage or pay the credit card bill? When making that decision, consider how each of these debts is treated in bankruptcy.
In the United States, the federal bankruptcy laws are set up to allow debtors a fresh start. Accordingly, there are different types or “Chapters” you can file under in a bankruptcy action depending on your individual circumstances that allow you to discharge debt or, in certain situations, to pay the debt off over a specified period of time. Typically, you will either file a Chapter 7, known as a liquidation of debt, or a Chapter 13, known as a wage earner or reorganization bankruptcy, depending on your income and the amount and types of debt you have. In either type of bankruptcy, you must be aware of the treatment of your specific debts as not all debts are treated “equally” under the Bankruptcy Code.
Understanding bankruptcy basics allows you to make an informed decision on how to proceed and how your debts will be categorized. The Federal Bankruptcy Code differentiates between secured and unsecured debts. Secured debts are those debts secured by some tangible collateral that can be repossessed to satisfy the debt, such as a car or a house. Unsecured debts are those not secured by collateral, such as credit card debt or other loans without a lien.
When filing bankruptcy it is important to clearly understand which debts are secured and which are unsecured, as that will determine whether that debt can be discharged, reaffirmed, or modified.
How A Mortgage Is Treated In Bankruptcy
Generally speaking, in a Chapter 7, a home mortgage, as a secured debt, must either be reaffirmed or the collateral (the house) must be surrendered back to the creditor. If you reaffirm your mortgage in a Chapter 7, you are acknowledging that you owe the debt and that you will continue to pay the debt at the amount specified in the reaffirmation agreement. This debt is non-dischargeable and you will still owe it even after you get an order of discharge. Reaffirmed debt can’t be discharged in a later bankruptcy, so think carefully about your ability to pay if you’re considering reaffirming. A Chapter 7 bankruptcy won’t help you deal with arrearages, so you’d have to find a way to make those up in order to keep your home.
If you don’t want to reaffirm the mortgage, you may choose to surrender the home. If you surrender the collateral, the house, then you are acknowledging that you do not wish to keep the collateral and the creditor may take steps necessary to proceed in foreclosing on the property once the stay has been lifted on the property by the Court. Bankruptcy will relieve you of your personal liability for the loan. This means that if the house sells for less than you owe, you won’t have to pay the difference.
In a Chapter 13, if the mortgage is not delinquent, it can remain outside the bankruptcy plan. In other words, you can continue to pay it directly to the mortgage lender as you were prior to filing. If the mortgage is delinquent, then the arrearage (the past due amount), and the ongoing payment must be added to the bankruptcy plan to be paid on a monthly basis. The Chapter 13 Trustee will analyze the proposed plan and determine if the total mortgage debt included in the plan can be paid off with the proposed plan payments. The mortgage debt will not be discharged but you will be considered compliant with the terms of your mortgage debt at that point. Similar to a Chapter 7, in a Chapter 13, you may opt to surrender the property that secures the mortgage. This will allow the creditor to proceed to foreclosure once the bankruptcy stay has been lifted as to the property.
How Credit Card Debt Is Treated In Bankruptcy
As an unsecured debt, credit card debt is generally discharged in bankruptcy, with some exceptions. Many exceptions based upon fraud, including the following, will make the credit card debt non-dischargeable. For example, there is a presumption that credit card debt is fraudulent if it was incurred within ninety (90) days of the bankruptcy filing for the purchase of luxury goods over $650 on one card. Additionally, any cash advance of more than $925 on a credit card incurred within seventy (70) days is presumed fraudulent. Some of the other circumstances the courts examine to determine if the credit card debt is non-dischargeable are 1) large shopping sprees inconsistent with otherwise typical spending habits; 2) incurring credit card debt after meeting with an attorney about possibly filing bankruptcy; and, 3) using your credit card despite being repeatedly delinquent with payments.
Exceptions to discharge notwithstanding, credit card debt is usually dischargeable. Exactly when and how the debt is handled is dependent on whether you file a Chapter 7 or a Chapter 13. In a Chapter 7, the trustee will examine the bankruptcy estate to determine if there are any assets which can be liquidated to satisfy debts. State and federal law protect most, if not all, of your assets. If you do have nonexempt assets, they’ll be sold and used to pay creditors. Most people have no nonexempt assets. In that case, the unsecured debts, such as credit cards, are discharged once you have successfully completed your bankruptcy.
In a Chapter 13, your secured and priority debts must be paid in full. However, you will only be responsible for paying a portion of unsecured debt, such as credit cards. The portion you pay is determined largely by looking at your disposable income. The court will determine your disposable income by comparing your actual income to state and national standards for expenses. Payment of your unsecured debts will be based on what you make, not on what you owe. Unlike a mortgage, where you must include the full payment in the plan, the unsecured debt of a credit card will only be payable up to the amount of your disposable income. At the end of the plan, any leftover unsecure debt will be wiped out.
Be aware that creditors can object to the treatment of their claims in both Chapter 7 and Chapter 13 cases. In the event a credit card creditor challenges the treatment and files a complaint, you or your attorney will need to respond to the complaint in a timely manner if you choose to dispute it.
What Steps You Should Take
Mortgages and credit card debt can be overwhelming as can the constant notices and phone calls from creditors. If you’re battling with bills and can’t cover everything, what should you pay first? Consider that mortgage debt is not dischargeable in bankruptcy, but credit card debt is. If you can only pay one or the other, you should consider paying your mortgage and letting the credit card bills slide. If you’re struggling with debt, contact an experienced personal bankruptcy attorney. Bring your financial documents to a free consultation to discuss your financial situation and goals. Your attorney can help you decide if bankruptcy is the best choice for you.