Lien Stripping in Consumer Bankruptcy: Bringing or Defending Actions to Avoid Junior Mortgage Liens

Debtors in consumer bankruptcy aggressively seek to shed second or third mortgages through lien stripping which has become one of the more contentious issues facing consumer bankruptcy practitioners and lenders.

Although the Supreme Court prohibited lien stripping in Chapter 7 cases in Dewsnup v. Timm (1992) and Bank of America v. Caulkett (2015) of wholly unsecured consensually granted security interests--mortgages and deeds of trust--under Section 506 of the Bankruptcy Code, most courts have limited the ruling strictly to Chapter 7 and have permitted this type of lien stripping in Chapter 11 cases, Chapter 12 cases, and Chapter 13 cases. The cancelation of wholly unsecured second and third liens can even be accomplished where such liens are secured only by the debtor's principal residence. What cannot be accomplished is the reduction of the lien down to the value of the collateral if the only collateral is the debtor's principal residence.

In Chapter 13 bankruptcies, a junior mortgage no longer secured by the property's equity may be stripped. The junior mortgage becomes part of the debtor's unsecured debt and the personal liability for the debt may be discharged through the completion of a Chapter 13 plan. At the end of the plan period, the remaining unsecured debt is discharged. The wholly unsecured consensually granted mortgage or deed of trust lien can even be stripped off when discharge is not applicable (for such a circumstance where a discharge has previously been obtained).

A Chapter 20 debtor who obtained a Chapter 7 discharge less than four years before filing a Chapter 13 petition and so is ineligible to receive a Chapter 13 discharge may strip off unsecured junior liens, but that lien stripping may not be permanent absent a discharge or payment in full. But the Circuits are split, as the Fourth Circuit has held that a strip-off is permitted in Chapter 20 both as to the debtors’ principal residence and their non-homestead property.

Listen as our authoritative panel of consumer bankruptcy practitioners provides counsel with practical insights when representing debtors seeking to strip junior liens or when defending mortgage lenders seeking to preserve their liens.