More Homeowners Seeking Bankruptcy Protection to Remain in Homes

More and more homeowners are filing bankruptcy in an effort to stay in their homes as a result of their inability to pay their mortgages.  
 
According to the American Bankruptcy Institute, in September, as the nation's housing slump continued, consumer bankruptcy filings increased almost 23% from a year earlier -- representing nearly 69,000 people. The American Bankruptcy Institute is a non-profit research group whose members include bankruptcy attorneys, judges and lenders.  
 
Overall, consumer bankruptcy filings were up 44.76% during the first nine months of this year. 
In some areas where the real-estate boom was especially heated, the increase in filings has been even sharper -- especially for a type of bankruptcy that allows homeowners to halt foreclosures on their homes. 
 
The surge in filings hasn't caught up with the flood of bankruptcy cases consumers launched in 2005, as they raced to beat a change in federal law that made it harder for individuals to declare bankruptcy. Even so, it shows the rising sense of insecurity many Americans feel as housing values fall, lending standards get tighter and hundreds of thousands of mortgages with low introductory interest rates "reset" to higher rates, boosting the homeowner's monthly payments. 
 
Most consumers filing for bankruptcy continue to do so under Chapter 7 of the federal Bankruptcy Code. Under that provision, a person must forfeit certain assets -- including, in some cases, a portion of home equity. Those assets are sold to pay off debts. 
 
While Chapter 7 filings stop foreclosure proceedings, the break is usually only temporary. As a practical matter, many homeowners who file under Chapter 7 lose their homes. 
 
In recent months, however, an increasing number of homeowners have filed for bankruptcy under Chapter 13, which staves off foreclosure proceedings while the homeowner works out a plan to pay off mortgage debt and other obligations over time -- usually three to five years. To qualify, debtors must have a regular income and must stay current on their new bills. About four in 10 filers today are filing under Chapter 13 -- up from three in 10 two years ago. The 2005 change in bankruptcy laws was designed in part to shift more filers to Chapter 13, which forgives less debt than Chapter 7. 
 
In California, one of the nation's hottest markets during the recent real-estate boom, the number of non-business Chapter 13 petitions in the second quarter of the year more than doubled from a year earlier, according to records compiled by the Administrative Office of the U.S. Courts in Washington. Over the same period, such filings increased nearly 40% in the northern district of Illinois, which includes Chicago, and 70% in Massachusetts. 
 
"It's a mess," says William McLeod, a Boston bankruptcy attorney who says he is receiving twice as many calls from debtors as he did a year ago. "This is fed right now by real estate, and what's been this mortgage frenzy in the last several years." 
 
There are pitfalls to filing bankruptcy. A Chapter 13 filing stays on a person's credit file for a decade, wreaking havoc on his or her ability to get financing. And the repayment plans leave borrowers with little room for maneuver. Indeed, many Chapter 13 plans fail because of unforeseen problems such as an illness, job loss or expenses for an emergency home repair. Moreover, for thousands of debtors caught up in the sagging housing market, a Chapter 13 plan can be unrealistic.  
 
With Congress scrambling to stem foreclosures, a bipartisan group of lawmakers has suggested altering the Bankruptcy Code. The code currently prevents mortgage lenders from changing loan terms on a filer's primary residence, but not on vacation homes, investment properties, family farms and businesses.