Bankruptcy Law and Foreclosures
There are many proposals currently in Congress that are trying to address the current housing market problem. A current proposal in congress would allow bankruptcy courts to modify mortgages on residences. Under bankruptcy law, courts can’t modify mortgages on primary homes but that are able to do it on second homes.
Bankruptcy means adjusting debt and making it easier for individuals to pay off their creditors. Consumers see bankruptcy as an efficient way for homeowners to pay their mortgages. Bankruptcy is designed in a way that protects owners of second homes but does not protect homeowners that are struggling with mortgage payments.
If bankruptcy courts are allowed to make modifications to mortgages, this would allow them to help homeowners that took out second mortgages at the same time as they received their first mortgage. Homeowners that are struggling are always urged to get their loans modified by a lender but holders of second mortgages will not allow loan modification without the amount being paid off.
Holders of second mortgages do not allow loan modifications because they believe this is against their best interests. What normally occurs is that the first mortgage gets paid off and then the second mortgage gets paid off. For this reason the lender that holds the second mortgage has no reason to modify loans because they could be faced with a complete loss.
The lender that holds a second mortgage will do better if they wait and see if the homeowner can make some payments before beginning the foreclosure process. The Bush administration is opposed to changing bankruptcy laws so that loans can be modified by the court. It is believed that changing the bankruptcy code in this way will undermine current contracts and this will lead to changes in mortgage credit affordability and availability.
The administration feels that changing bankruptcy laws would negatively affect lenders and home buyers. The proposed bankruptcy reform proposal would allow judges to rewrite contracts without any constraints. Many in the government feel this would cause more foreclosures. Banks may foreclose on houses more rapidly so they can avoid having to comply with the provisions of the proposal.
Others disagree with this assessment. Many believe that changes in bankruptcy law would be an incentive for lenders to refinance additional loans because they may believe they are getting a better deal. Bankruptcy could encourage more lenders to accept a refinancing program and agree to modifications without having to deal with bankruptcy and bankruptcy courts.
In the long run, bankruptcy reform should be considered because the laws and institutions already exist. Large federal programs, new initiatives, and introducing new governmental laws can take months to be implemented properly if not longer. If homeowners are encouraged to file Chapter 13 bankruptcy, this could result in about a five percent increase in yearly filings but officials do not believe that people will run toward this option.
The typical American understands that filing for bankruptcy has long term affects. If an individual files for bankruptcy it will be a long time before they can apply for another mortgage and it negatively impacts credit scores.
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