Recently there has been a discussion among bankruptcy attorneys regarding the potential benefits of reaffirming a mortgage in a bankruptcy case. One difference with other reaffirmation agreements is that the judge will not need to approve a reaffirmation of a mortgage in a bankruptcy case. Thus, the reaffirmation will be valid after it is signed by the debtor and creditor and then filed with the court. Some lenders are refusing to refinance mortgages for debtors who have gone through a bankruptcy and not reaffirmed their mortgage. Also, lenders will not normally report post bankruptcy mortgage payments to the credit reporting bureaus if there was not a reaffirmation. Are these two reasons, good reasons to go against what has been traditionally recommended by bankruptcy attorneys in Portland regarding not reaffirming a mortgage?
Remember, reaffirming the mortgage will mean that the debtor is still liable on the note (in addition to the lien being valid, of course). Is there a risk of a deficiency lawsuit against a bankruptcy debtor who reaffirmed a mortgage? If the house remained the debtor’s residence, then the foreclosing bank cannot sue for a deficiency balance, even if the debtor did not file a bankruptcy. But if there are multiple mortgages on the house, the second mortgage would be able to sue the debtor for a deficiency (unless the second mortgage was owned by the same bank as the first mortgage and it was used to purchase the house). Thus, if a debtor in a bankruptcy reaffirmed both mortgages in a bankruptcy and then subsequent to the bankruptcy the house was foreclosed, then the debtor could be sued for a deficiency on the second mortgage. Hence, it is usually a really bad idea to reaffirm a second mortgage. One potential risk of a deficiency on the first mortgage would be if the house becomes a rental house at some point in the future and then the debtor defaults and the bank files a judicial foreclosure lawsuit. In that scenario, there would be a possibility of a deficiency against the debtor if the debtor had reaffirmed the first mortgage in the bankruptcy. Another risk of reaffirming the first and/or second mortgages would be if there was a post-bankruptcy short sale of the property and the bank(s) did not waive their deficiency rights.
Additionally, there are potential tax implications of reaffirming a mortgage in the bankruptcy if post-bankruptcy there is a write off of some or all of the liability associated with the mortgage by the bank in a short sale. If the mortgage was not reaffirmed in the bankruptcy, then there would never be any danger of cancellation of debt tax liability based on that mortgage. Thus, does it make sense to reaffirm a mortgage for the potential benefit of a future loan refinance and post-bankruptcy reporting of payments to the credit bureaus? Indeed it is important to reestablish credit after a bankruptcy filing, but there are other ways to do this then having the post-bankruptcy mortgage payments reported to the credit reporting bureaus (e.g., I recommend that all of my bankruptcy clients obtain secured credit cards from their bank or credit union to start rebuilding their credit).
The potential future loan refinance that might not be available to a debtor who has not reaffirmed their mortgage in their bankruptcy may be a valid reason to consider reaffirming a first mortgage (I would never advise reaffirming a second mortgage). But the truth is that the bankruptcy discharge of the mortgage note, without a reaffirmation, does not prevent the bank from refinancing the mortgage post-bankruptcy. Nonetheless, the banks seem to be currently operating on this premise. Thus, it is a valid consideration for a debtor with a mortgage who files a bankruptcy.
