For California homeowners who are struggling under insurmountable debt, bankruptcy offers a real solution. That said, knowing which type of bankruptcy to file can be a challenge. Many consumers pursue Chapter 7 bankruptcy, due to the fact that it can lead to the discharge of many types of consumer debt. After a recent Supreme Court ruling, however, some will find that Chapter 13 offers a better fit for their financial needs.
The ruling focused on the issue of the discharge of second mortgages during Chapter 7 bankruptcy. A lower court ruling allowed homeowners to eliminate a second mortgage if their homes were "underwater," meaning the value of the home was worth less than what is owed on the property. However, the high court looked at the cases that set a legal precedent on the matter and reversed the earlier ruling.
Loans that are secured by collateral, such as real estate, are protected from discharge during bankruptcy because the lender can seize the property if payment is not made. In this case, the issue before the court was whether a second mortgage met the standard of being "secured." An earlier decision concerning Chapter 13 bankruptcy resulted in a ruling that second mortgages that hold no collateral value can be stripped away during the bankruptcy process, as there is nothing of value for the lender to seize.
For California homeowners who owe more on their home than the property is currently worth, this decision can have a major impact on their financial futures. In such cases, pursuing Chapter 13 bankruptcy might offer a solid path toward financial stability. While future court cases might clarify the matter and change the power of bankruptcy to eliminate second mortgage debt, those consumers who complete their bankruptcy prior to such a ruling would not suffer.
Source: Forbes, "Debtors Can't Void Underwater Mortgages In Bankruptcy, Supreme Court Rules", Daniel Fisher, June 1, 2015