L is for Lien Strip

Posted By Tom Hensel || 6-Feb-2013

"Lien strip" has become a very popular bankruptcy term over the past 5 years or so – largely due to the dramatic decline in the value of real estate. Here's how it works: say you happen to own a home with a first mortgage with a balance of approximately $150,000. Say you also have a second mortgage or home equity loan with a balance of approximately $30,000 - that was taken out in 2004 when the appraised value of the home was approximately $195,000. Fast forward to today where that same house is now worth only $140,000. This would mean that the second mortgage is now technically "unsecured" – as there is no equity over and above what is owed on the first mortgage to secure it.

In a Chapter 13 proceeding (NOTE: you cannot validly strip a second mortgage lien in a Chapter 7 case), you can seek to strip the second mortgage lien in this scenario and then treat it like a general unsecured debt. This is can prove to be extremely useful because in most Chapter 13 cases, unsecured creditors may only be required to receive only a few pennies on the dollar. Assuming you complete the Chapter 13 case successfully, the unpaid unsecured debt is discharged –and you then own the home subject only to the first mortgage.

Over the past 5 years, I've had plenty of clients who elected to file a Chapter 13 - even though they qualified for relief under Chapter 7 – just so they could strip a second mortgage lien.

Although lien stripping has become more prevalent over the last 5 years, not every bankruptcy attorney knows how to do it successfully. In the Eastern District of Michigan, the local rules require an Adversary Complaint (i.e. a lawsuit within the bankruptcy case) to be filed in order to strip a lien. If you believe that you may be in a position to attempt to strip a second (or even a third) mortgage lien be certain to consult an experienced bankruptcy attorney who is familiar with the lien stripping process – one who knows the rules and has perhaps even litigated some lien strip cases.

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