Interviewer: What are some of the ways that Chapter 13 protects the debtor? Could they be sued or could their wages still be garnished while the plan is in effect?
An Automatic Stay
Court Koehler: No. When you file bankruptcy, and this applies for both Chapter 7 and Chapter 13, you have an automatic stay that goes into place. An automatic stay is it’s an order that the court sends out. It prevents anyone from garnishing your wages or suing you for any sort of debt collection.
It applies in any state and any court anywhere, no one will be able to call you and ask you for money, try to collect from you or file a lawsuit to collect money from you. That protection starts as soon as you file.
With the Chapter 13, that stay extends for the life of the case. So if you’re going through a plan for the three to five years, you’re not going to be having your wages garnished or having other people sue you for collections during that time period. That’s usually the reason that you’re filing bankruptcy, is because you have people trying to sue or you or garnish your wages or foreclose on your house.
Home Foreclosures and Bankruptcy
Interviewer: What’s the process of foreclosure?
Court Koehler: When you have a mortgage legally, what you have are two promises. You’re making a personal promise to pay the debt. We’ll give an example. Let’s say you have a house that you purchased and it cost you $200,000. You pay $20,000 down on it and then you have a loan for the other $180,000.
When You Obtain a Mortgage, You Are Pledging Both to Repay the Mortgage and Guaranteeing Your Property as Collateral
When you enter into a mortgage, you have a personal promise to pay the $180,000, and then you also have a lien on the property that is securing the loan for $180,000. When someone puts your house in foreclosure, they are foreclosing on that lien that’s securing the $180,000 loan.
If you are initially making your payments and then you start to have some financial trouble, maybe you lose your job or you have medical issues and cannot work. There are many unforeseen events that can happen. You stop making your payments for a while.
If Your Home Is Foreclosed on, the Lender Sells the Property and Applies the Proceeds towards the Loan
If eventually the institution that holds the loan decides to foreclose on you, what that means is that they want to take the property and sell it. When they sell the property, then they will take the proceeds of the sale and they will apply it towards that $180,000 loan that you have.
If it pays it all off, then you’re done and you move on. Of course your house is gone. If the sale doesn’t pay off the balance, then you still owe the bank the difference because of the personal promise that you’ve made to pay the $180,000. If they have a foreclosure sale and your house sells for $150,000 but the loan is for $180,000 then you will still owe $30,000 to the bank or whatever institution it is that holds your mortgage.
When you go through a foreclosure, what happens is the bank has to file a lawsuit with the local state court. Here in Utah they’ll file a foreclosure action in the district court and you go through a legal proceeding. If it’s determined that: the bank does indeed have the lien on your house and they have followed all the laws they need to follow to be able to execute the lien and sell the property– then the judge will issue an order that says that they can have a foreclosure sale of your house.
You Can File for Bankruptcy during the Foreclosure Process
During that process, what you can do is you can file for bankruptcy. As I was talking about earlier with the automatic stay, that procedure in the bankruptcy court puts a hold on the foreclosure procedure. Once you file, they can no longer proceed with the lawsuit or any kind of foreclosure sale. It puts a stop to the foreclosure, and it allows you to come up with a payment plan and pay back the bank in alternate way.
I’ve had people call me in an emergency situation literally days before the foreclosure sale. In those cases, they would have been already contacted by the bank. The bank finally decides to file a foreclosure action and they’ve gone through the initial parts of the proceeding of the foreclosure. They’re about to have the foreclosure sale and then they file bankruptcy.
At any point during that time, you can file bankruptcy and that automatic stay will prevent them from moving forward. So literally up to the minute that you house is actually sold, you can file bankruptcy.
Can Back Taxes Be Discharged in Bankruptcy?
Interviewer: Can back taxes that are owed to the IRS be discharged in bankruptcy?
Court Koehler: Taxes are a different kind of a debt. They’re not a secured debt because they’re not backed by any kind of asset. They’re an unsecured debt, but they’re treated as a priority unsecured debt. When you have your medical bills, your credit cards and other regular unsecured debts, those aren’t priority debts. They aren’t given priority.
Back Taxes Have the Same Priority as Secured Debt and Must Be Paid
They’re at the back of the line, so to speak, when it comes to the pecking order of your creditors. Back taxes are a priority unsecured debt, so they are something that needs to be paid off. Similar to your secured debts; if you have an arrear on your mortgage or back payments on your car payments, back taxes are treated the same way. They’ll be put into your Chapter 13 plan and you’ll pay them out along with everything else over the life of the plan.
I should say taxes can be tricky. Sometimes you don’t necessarily need to pay back all of those back taxes. But generally speaking, they are a priority unsecured debt.