Perhaps surprisingly, one of the of the most frustrating developments in our ongoing foreclosure crisis has to do with mortgage lenders' obstinate resistance to carry through with a foreclosure in a timely manner. Most commonly, this situation arises in a Chapter 7 Bankruptcy in which the debtor has determined that it is in his or her best interest to surrender a home.
As we all know, state anti-deficiency laws determine whether a mortgage lender may seek a deficiency judgment after a foreclosure. We likewise know that a Bankruptcy Discharge will protect that homeowner from such liability regardless of what the debtor's state statutes have to say concerning whether a mortgage lender may seek a deficiency judgment.
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While protection from post-foreclosure liability to the mortgage lender remains a powerful advantage offered by the Bankruptcy Discharge, a relatively new source of post- bankruptcy petition liability has arisen in the last couple of years. One that our clients are all too frequently surprised by if we neglect to offer increasingly comprehensive advice before, during, and after the filing of a bankruptcy petition.
What I am talking about, of course, are Homeowners Association dues, and to a lesser extent, municipal water and garbage fees. As we all should know well, such recurring fees accumulate post-petition, and precisely because they recur post-petition, they constitute new debt--and as new debt, the Bankruptcy Discharge has no effect whatsoever upon them.
The typical case involves a Chapter 7 bankruptcy debtor who decides that he or she cannot possibly afford to keep a home. Perhaps this debtor is a year or more in arrears on the first mortgage. Perhaps the debtor is today (as is common here in California) $100,000 or more underwater on the property, and the lender has refused to offer a loan modification despite months of effort by the homeowner. The home in all likelihood won't be worth the secured amounts owed on it for decades to come. The monthly payment has adjusted to an installment that is now sixty or seventy percent of the debtor's household income. This house must be surrendered.
The problem, of course, is that a surrender in bankruptcy does not equate to a prompt foreclosure by the lender. In days past, say three or even just two years ago, it would. But today, mortgage lenders simply don't want the property on their books. I often imagine an analyst deep within the bowels of the mortgage lender's foreclosure department looking at a screen showing all the bank-owned properties in a given zip code. This would be another one, and the bank does not want another bank-owned property that it cannot sell at half the amount it lent just four years ago. We could go on and on about the recklessness of the bank's decision in having made that original loan, but that is another article. Today the property is a hot potato, and there is nothing the debtor or the debtor's bankruptcy attorney can do to compel the mortgage lender to take title to the property.
Hence the conundrum. There are other parties involved here--most notably, homeowners associations. HOAs have in many areas seen their monthly dues plummet as more and more of their members have defaulted. Their ability to collect on delinquent association dues was long thought to be secured by their ability to lien the property and foreclose. Even if their lien was subordinate to a first, or even a second mortgage lien, in the days of home appreciation there was nearly always enough equity in real estate to make the HOA whole. But no more. Today HOAs often have no hope of recovering past dues from equity in a foreclosed property.
So, where does this all leave the bankruptcy debtor who must surrender his or her property? Between the proverbial rock and a hard place. The lender may not foreclose and take title for months, if not a year, after the bankruptcy is filed. The HOAs dues--along with water, garbage, and other municipal services--continue to accrue on a monthly basis. The debtor has often moved along and cannot rent the property. But be assured, the owner's liability for these recurring fees are not discharged by the bankruptcy as they arise post-petition. And he or she will remain on the hook for new, recurring fees until the bank finally takes over title to the property. HOAs will usually sue the homeowner post-discharge, and they'll aggressively seek attorneys' fees, interest, costs, and whatever else they can think of to recoup their losses. This can sometimes lead to tens of thousands of dollars of new debt that the recently bankrupt debtor will have no hope of discharging for another eight years, should he or she file bankruptcy again.
This problem would not arise if mortgage lenders would foreclose promptly in the context of a bankruptcy debtor who surrenders a home. We as bankruptcy attorneys can literally beg that lender to foreclose already--or, better yet, accept a deed-in-lieu of foreclosure, but to no avail. They simply don't want the property. What advice, then, should we give to debtors in this situation? The options are few. If the debtor can hang on until the property actually forecloses prior to filing bankruptcy, this would eliminate the problem. But such a delay is not a luxury most debtors can afford. If this option is not available, the debtor should either live in the property and continue to pay his or her HOA dues and municipal services, or if the property is a second home, for example, attempt to rent the property to cover these ongoing costs.
In the final analysis, the Bankruptcy Code never contemplated this situation. Nor did most states' statutes governing homeowners' associations. A remedy under the Bankruptcy Code to compel mortgage lenders to take title to surrendered real property would be ideal, but given the issues facing this Congress and its political orientation, we can comfortably say that the possibility of such a legislative solution is beyond remote.
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