Under section 506(a) of the Bankruptcy Code, a creditor holding a lien perfected under non-bankruptcy law against bankruptcy estate property, and which is not subject to avoidance, is entitled to retain that encumbrance.
However, where the value of the collateral is less than the amount the debtor owes, the debtor may elect to retain the collateral and be obligated to pay the creditor only that amount equaling the value of the estate’s interest in the property.
This process is called “lien stripping” which reduces the lien to the value of the collateral to which it attaches and removes a wholly unsecured lien in its entirety. Thus, this allows a debtor to bifurcate a mortgage claim into secured and unsecured debt based on the value of the home so that the debtor will only have to pay the secured part of the claim. The code is clear that this is not permissible for homes that are the debtor’s principal residence.
Furthermore, courts generally have determined that only senior liens can be stripped down and that it is impermissible to strip down junior liens (a second lien). However, in the recent landmark decision in LORRAINE MCNEAL v. GMAC MORTGAGE, LLC, HOMECOMINGS FINANCIAL, LLC the 11th circuit reversed this holding.
In this case, the debtor had reported that her home was subject to a first and second priority lien. The debtor contended that, because the senior lien exceeded the home’s fair market value, GMAC’s junior lien was wholly unsecured and, thus, void under section 506(d).
The bankruptcy court denied the debtor’s motion, concluding that section 506(d) did not permit a Chapter 7 debtor to “strip off” a wholly unsecured lien. However, the 11th circuit reversed the district court decision and held that an allowed claim that was wholly unsecured (just as GMAC’s claim) was voidable under the plain language of section 506(d). Thus, a junior priority lien may be deemed wholly unsecured and may be removed in its entirety.
If you’re considering bankruptcy and have a bankruptcy lien-stripping question in Florida consult with Winter Park attorney Eric Lanigan or Roddy Lanigan of Lanigan and Lanigan, P.L. The Lanigans are attorneys with 36 years and five years of respective experience in bankruptcy, foreclosure and mortgage workouts. They provide personal attention to all clients with answers and expertise that are specific to each situation.