What is a Lien Strip?

Confused about Lien Stripping?

What is a lien strip motion? Simply put, a lien strip motion to the Court is a motion to strip a lien from a piece of property from which it was formerly attached.  For example, if you have two mortgages on your home, a first and second mortgage, your home value may have decreased so much that the second mortgage is no longer in reality secured by any value.  Consider a home that was purchased several years ago for $200,000.00. The first mortgage loan balance is $150,000.00 and the second mortgage loan balance is $50,000.00.  However, the value of the home has decreased to $135,000.00. In a Chapter 13 bankruptcy the second mortgage loan may be stripped off and eventually discharged, leaving only the first mortgage in place.  This ability to strip a lien is an essential part of the debt relief provided by a Chapter 13 Bankruptcy.

The Bankruptcy Code

The law used to strip the lien is a section of the Bankruptcy Code.  Specifically it is 11 U.S.C. §506 (a) and (d). These sections of the Code allow the bifurcation or a split of a lien into secured and unsecured portions.  The secured lien is allowed up to the amount of the fair market value of the property at the time of the stripping.  The balance of the lien, which exceeds the fair market value of the property is now deemed unsecured.  Liens can be stripped off the debtor’s property in a Chapter 13 when there is not enough equity in the assets.  §506(a) and §506 (d) of the Bankruptcy Code acknowledge that a lien is only a secured claim to the extent there is value in the asset to which it attaches. If a claim exceeds the value of the collateral, that portion is unsecured.

Can Debtors Strip Second or Third Mortgages in a Chapter 7 Bankruptcy?

For many years, it has been settled law that a debtor who owns property can file a motion with the Bankruptcy Court to eliminate or “strip” the second mortgage or equity line of credit from that property.  The caveat is that this is only available in Chapter 13 Bankruptcy.  The reason for this rule was that in a Chapter 13 case, the Trustee retains an interest in the property for the Bankruptcy Estate.  Conversely, in a Chapter 7 case, presuming the trustee abandons any interest in the estate, there is no interest in the property by the estate and §506(a) does not apply.  As a result, the Court cannot bifurcate the debt into secured and unsecured debt.  Without this bifurcation there is no unsecured debt to discharge.  However, a recent case changed this well settled law.  In the McNeal case (Case Number 11-11353) Lorraine McNeal v. GMAC mortgage, the Court held that even though a debtor cannot cram down an investment property, as clearly noted in a Supreme Court Case, Dewsup, a debtor can strip a junior lien from a primary residence.  The Court reasoned that because the U.S. Supreme Court in Dewsup, disallowed a “strip down” of a “partially secured” mortgage lien and did not address a “strip off” of a wholly secured mortgage lien, it was not clearly on point and as such the issue was not intended to be addressed by that Court. However, this unpublished opinion in the 11th Circuit is being appealed by GMAC mortgage.  Obviously the mortgage companies have an interest, in not having their liens, stripped and discharged in Chapter 7 bankruptcies.  As of today, if a lien strip was filed in a Chapter 7 case in the 11th Circuit (Includes Northern District of Georgia) a judge will only rule in a debtor’s favor if there is no opposition by the mortgage company.  There are two risks in filing a motion to strip a lien in a Chapter 7.  One, the mortgage company can object, leaving the judge no choice but to hear evidence from both sides, currently the judges are pondering how to rule in these cases. Two, the McNeal appeal could be ruled on, against the debtor.  This would mean all lower courts including our Courts (Northern District of Georgia) would have to rule against the debtor in any pending decisions.  So it is best to file a motion to strip a lien in a Chapter 13 Bankruptcy until the 11th Circuit or higher Court rules more definitively