Tennessee bankruptcy court halts deficiency judgments

If you lose your home in foreclosure, in many states the lender has the option to pursue a deficiency judgment if the home sells for less than the value of the mortgage. This type of judgment compensates the lender for the difference between the remaining value on the mortgage and the foreclosure sale price. About 40 states allow lenders to do this. In Tennessee, a bankruptcy court recently ruled that this practice was no longer permissible in some cases.

After the house is sold in foreclosure, lenders typically send the homeowner IRS Form 1099-C. This form is used to help the homeowner calculate taxes owed on the forgiven debt, which is usually the deficiency. A Tennessee bankruptcy court ruled that the form itself does not cancel the debt in and of itself. However, the court ruled that the form serves as evidence that the lender wrote off the homeowner's deficiency, signaling its intent to not collect the debt.

Under the tax laws, a forgiveness of the homeowner's deficiency constitutes income and is taxable. The court clarified that it would be unjust for the homeowner to have to pay a deficiency judgment, because he or she would be liable twice-once to the IRS for taxes on the forgiven debt and once to the lender for the deficiency.

The bankruptcy court's line of reasoning is not accepted in most other jurisdictions. However, it is binding in Tennessee. As a result, Tennessee homeowners who have lost their homes to foreclosure cannot be sued if the proceeds of the foreclosure sale do not fully cover the remaining balance of the mortgage, assuming that the bank also wrote off the debt.

Bankruptcy can stop foreclosure

This decision offers some relief to Tennessee homeowners who are struggling to pay their mortgage, but only after they have lost their home. If you find that you are unable to meet your mortgage obligations, it is better to take action before the situation gets worse.

Chapter 13 bankruptcy can help homeowners in this situation. Once you file for Chapter 13, any foreclosure proceedings are stopped. All of your debts are consolidated into a payment plan and repaid over a three to five-year period.

Although this sounds like you have to repay in full every debt that you have, this is not the case. Under the payment plan, your mortgage and other secured debts (e.g. car loans) are brought up to date over the repayment period. However, your unsecured debts (e.g. credit cards, personal loans or medical bills) are not required to be fully repaid by the plan. In most cases, you only have to pay a fraction of your unsecured debt. Once bankruptcy has been completed, you emerge up to date on your secured debt and receive a discharge of most remaining unsecured debt.

If you are behind on your mortgage, bankruptcy is only one possible solution. An experienced bankruptcy attorney can advise you on your situation and recommend a debt-relief option that can alleviate your situation.