Articles Posted in Bankruptcy

Our community association attorneys contribute articles on association issues to a number of publications on a regular basis. In the July issue of Florida Community Association Journal, the leading publication focusing on associations in the state, partner Jeffrey S. Berlowitz wrote an extensive article on the latest court decisions and legal strategies that are offering some relief for associations which are contending with unit owners who file for bankruptcy.

The article discusses the “lien stripping” provisions of the bankruptcy code and how associations can respond:

With regard to associations, most owners who file for Chapter 13 are striving to save their home from foreclosure. However, what is becoming more prevalent with bankruptcy filers who reside in community associations is the taking advantage of a debtor friendly component of the bankruptcy laws affording a debtor the right to “strip off” second mortgages, lines of credit and association liens in the event that the debtor evidences to the court that the value of their unit is less than the amount due on their first mortgage. If successful, then the unit owner may receive the benefit of a complete avoidance of an association’s lien claim in the amount that existed as of the date of the bankruptcy filing; ultimately a remarkable benefit to a debtor and a potentially harsh outcome to the community association.

. . . Associations should be well advised that an owner’s intentions to lien strip an association claim does not mean that the association cannot challenge or object to the owner’s effort to avoid the association’s lien. My colleagues and I have assisted associations in overcoming lien stripping efforts by debtor owners notwithstanding the debtor-friendly law supporting lien stripping. This is accomplished by countering the owner’s value of their home with an appraisal procured by the association which demonstrates that the value of the unit at the time of the bankruptcy filing was greater than the amount due under the owner’s first mortgage. Simply stated, this is an “all-or-nothing” deal: If the bankruptcy court determines that the unit maintains even just a single dollar of equity, then the owner will be required to cure all arrears due to the association over the life of the bankruptcy plan. Should the court find that the unit is underwater and lacks equity, then the owner will be in a position to carry out the bankruptcy plan to strip off the amount due to the association as of the day in which the bankruptcy case was filed. Given the risk associated with going before the bankruptcy court in this all-or-nothing lien stripping venture, wherein the bankruptcy judge will make a finding on the unit’s value that will inure entirely to the benefit of either the association or the debtor/owner, often the parties will amicably resolve the matter wherein the association agrees to accept a portion of the arrears paid through the bankruptcy plan by the debtor/owner, as opposed to having the association’s lien avoided entirely. However, should the matter proceed to a valuation hearing before the bankruptcy judge, no matter the findings of the court, an owner remains liable to the association for all regular monthly maintenance assessments as well as any special assessment that come due after the day the bankruptcy case was filed.

Jeffrey also writes about recent rulings that preclude bankruptcy lien strips from being extended to subsequent buyers:

Additionally and as a related event connected to the craze of the foreclosure crisis in South Florida over the last several years, associations are finding that investors (a/k/a “third-party buyers”) are positioning themselves to purchase units in foreclosure. Florida Statutes governing associations provide that a “subsequent owner” is liable to the association for the prior owner’s outstanding maintenance obligations. Notwithstanding, these third-party buyers who purchase a unit out of foreclosure that was formerly owned by an individual who filed for bankruptcy relief have creatively argued that they should get the benefit of the prior owner’s bankruptcy discharge or, in certain circumstances, the prior owner’s avoidance of the association’s lien via the lien stripping action and, therefore, are not liable to the association as the subsequent owner for the prior owner’s liabilities that were released through the bankruptcy case.

Those arguments have failed. Recent court decisions favor associations that lose certain of their lien rights against bankrupt owners and then attempt to collect the past-due assessments from the subsequent buyers of the properties. In a case that was decided by one of the local bankruptcy judges in the Southern District of Florida earlier this year, the court determined that even if an owner strips off a condominium association lien because the unit lacks equity and that individual is ultimately released from their pre-bankruptcy personal obligations to the association, the subsequent owner will not receive the benefit of the prior owner’s lien strip and will remain liable to the association for the prior owner’s unpaid assessments that were due at the time title to the unit transferred to the subsequent owner. In other words, no matter what a unit owner in bankruptcy accomplishes in their bankruptcy case with respect to their liability for association assessments, nothing can impact a subsequent owner’s personal liability for the unpaid assessments and nothing in the prior owner’s bankruptcy impacts the association’s right to pursue payment from that subsequent owner.

Similarly, in a case in which I represented a community association, a successful third-party purchaser at the prior owner’s foreclosure sale argued in state court that it was not liable for the prior owner’s unpaid assessments because the prior owner filed bankruptcy and received a personal discharge from his monetary obligations to the association. The new owner asked the court to give it the benefit of the prior owner’s bankruptcy discharge and the resulting avoidance of the prior owner’s personal liability to the association for unpaid assessments. I successfully demonstrated to the court that the bankruptcy discharge had no legal bearing on the statute assigning liability for past unpaid assessments to the new subsequent property owner. The court concurred and issued a summary judgment in favor of the association and ruled that the subsequent purchaser does not receive the benefit of the prior owner’s bankruptcy discharge.

Click here to read the complete article.

Never underestimate the power of the United States bankruptcy courts. As a much younger lawyer, I was amazed to learn that in a bankruptcy proceeding, rather than requiring a process server to serve the complaint upon the defendants, a debtor-plaintiff can actually serve their bankruptcy complaint on the creditor-defendants by U.S. First Class Mail! Yes, the bankruptcy court is full of surprises. A bankruptcy court might even be able help fix the unfixable, unanswerable problem: How can an association require a first mortgagee lender to pay assessments during the lender’s own self-stalled foreclosure?

If you’re following recent developments in the foreclosure courts, you already know that many lenders have stopped their foreclosures cold because they have no confidence in their very own mortgage documents. Apparently, with the securitization of mortgage backed securities, “Wall Street” failed to keep track of the actual mortgage documents. For analogy, imagine the paperwork that evidences each residential mortgage as a stack of paper six inches high. Imagine how many six inch stacks of paper can fit into a semi-trailer. Now imagine each semi-trailer full to the brim with these six inch stacks. Remember, each six inch stack represents only one mortgage. Think of the loaded semi-trailer as the hard asset upon which each mortgage backed security was created; one semi-trailer for each mortgage backed security that was created. With that in mind, imagine that the semi-trailer representing only one of seemingly countless mortgage backed securities, is bought and sold multiple times each day to multiple investors from all over world . . . every day for several years. What happened to the semi-trailers? Where are all of those loan documents that together comprise the mortgage backed security?

Recently, “60 Minutes” suggested that hundreds of thousands of loan documents were re-created by companies outsourced by our nation’s largest lending institutions. These re-created documents are nothing more than forgeries. Any lawyer who knowingly forecloses a debtor based on fraudulent documents commits a fraud on the court, not to mention exposing their client to significant liability. Meanwhile, associations, large and small, suffer from a continued lack of assessment revenue from these stalled foreclosures.

For a time, upon proper motion, the trial courts were ordering stalling lenders to either move their foreclosures along or pay assessments. On appeal, the appellate courts reversed. Primarily, they held that where a remedy at law exists, the trial courts could not create equitable relief for associations. With that in mind, how can the lender ever be responsible to pay assessments before it finally acquires title to the property?

The answer, pending the financial strength of your association, might be a bankruptcy to reorganize the debts of the association. In these situations, a Chapter 11 bankruptcy might just be what the doctor ordered. Not only does it provide the restructuring of existing debts, but it allows the federal bankruptcy court to do what the state courts cannot. Specifically, under federal bankruptcy law, the court can order the secured creditor (in this case, the lender whose mortgage is secured by the property) to pay a “surcharge” during the reorganization.

As discussed in the recent United States, Southern District Bankruptcy Court case, In re the Spa at Sunset Isles Condominium Association, the federal bankruptcy “surcharge” can be implemented to require a lienholder (the lender) to be charged with the reasonable costs and expenses incurred by the debtor (the association) to preserve or dispose of the lienholder’s collateral to the extent that the lienholder derives a benefit as a result.

The lender had argued that any order requiring it to pay the “surcharge” was improper because state law had already prohibited requiring the lender to pay towards the upkeep of the property prior to the time it acquires title to the property as a result of its own foreclosure. The bankruptcy court looked to Article VI of the United States Constitution, the Supremacy Clause, which provides that the laws of the United States “shall be the supreme law of the land and the judges in every state shall be bound thereby, anything in the Constitution or Laws of any state to the contrary notwithstanding.” The court required the lender to pay their pro rata share of preserving the association’s common elements.

Not every association is a candidate for a Chapter 11 bankruptcy. Pending the number of foreclosures in your community, the financial shortfall created by the debt, the association’s cash on hand, the ability of the association to pay its debts, etc., a Chapter 11 bankruptcy may or may not be appropriate. Clearly, the necessary first step is consultation between the board and qualified bankruptcy counsel.

A couple of weeks ago I wrote an article for this blog that focused on the tactics that we are using to enable community associations to contend with unit owners who file for personal bankruptcy protection. For my first video as part of our new video series, I focused on one of the strategies that we have now been using with considerable success.

Many of these associations are quite surprised when they learn that under Chapter 13 bankruptcy, homeowners can strip away any second mortgages or association liens if they are able to prove that they have absolutely no equity in the home. By submitting to the bankruptcy court a professional appraisal that says that the current market value of their home or condo is actually less than the amount that they owe under the first mortgage, they are able to use the “lien stripping” provisions under Chapter 13 bankruptcy to wipe out everything that they owe to the association or under a second mortgage from prior to the bankruptcy filing.

As you can well imagine, the use of lien stripping has grown quite a bit during the last several years with the meltdown in the housing market, and as a result we are working with a number of our association clients to help them to fight it. To learn more about exactly how we are helping our association clients to successfully contend with lien stripping by their members in bankruptcy, click below to watch my brief video on the matter and scroll down to read my article posted on Sept. 20.

The recent report in The Miami Herald stating that the number of South Florida homeowners who owe more on their mortgage than their property is worth remains above 400,000 was very disquieting for the thousands of community associations in the region. Many of these associations have already discovered that their members who file for Chapter 13 bankruptcy have the opportunity to wipe away their association lien and second mortgages or secured credit lines if they are able to demonstrate that they have no equity in their property because it is now valued at less than what they owe on their first mortgage. With so many homeowners underwater on their first mortgages in South Florida, the use of these lien stripping provisions under the bankruptcy code seems destined to continue to rise.

Thankfully for the associations, there is a strategy that we have been using with considerable success to enable them to fight back and avoid lien stripping. It hinges on the fact that the criteria in the bankruptcy code for lien stripping to take place essentially creates an all or nothing requirement for the debtor who is trying to show that they have no equity in the residence. If the association is able to demonstrate to the bankruptcy judge that there is even just one dollar in equity in the residence, then the debtor is unable to strip away the association lien or second mortgage.

The issue becomes a “battle of appraisers.” Given that, we are counseling our association clients in these cases to obtain detailed professional appraisals based on recent comparable sales and the condition of the residence that show that it is worth more than the balance due on the debtor’s first mortgage. We then submit the higher appraisal to the bankruptcy court, and in many of these cases we are able to reach a settlement to recoup some of the delinquent fees that would otherwise have been eliminated using lien stripping. In one recent case, the association was owed $28,000 and we secured a settlement for $17,000 to be paid through the Chapter 13 bankruptcy, marking a very successful outcome for the association in today’s “debtor friendly” bankruptcy world.

The results, of course, will vary based on the amount that the homeowner owes under their first mortgage and the strength of the association’s higher appraisal. However, we have certainly realized a great deal of success using this approach, and we plan to continue using it on behalf of many of our association clients that are facing the prospect of receiving nothing for what they are owed from prior to their member’s bankruptcy filing.