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The Bankruptcy “Cram Down” – One Cure for the “Foreclosure Crisis”

Introduction

The “Occupy Wall Street” movement represents a sizeable sentiment of angry Americans who wonder why the Government bailed out Wall Street while allowing the current “foreclosure crisis” to destroy neighborhoods and lives. Arguably, Congress could have averted this crisis if they had legislated a “Cram Down” provision for home mortgages in Chapter 7 and Chapter 13 of the Bankruptcy Code.

The “Foreclosure Crisis”

The “Foreclosure Crisis” resulted from irresponsible and reckless lending practices by mortgage lenders and banks. Consumers leveraged their homes to support massive debt based on assumptions that real estate values would continue to increase.

The recession precipitated the default on home mortgages. Banks foreclosed on homes and real estate values plummeted. Neighborhoods, lives and families have been destroyed.

Consumer Bankruptcy in a Nutshell

Bankruptcy is a Constitutionally mandated federal process that gives consumers a “fresh start.” As codified, the Bankruptcy Code is a powerful body of law that brings order, rational planning and meaningful relief to people who can’t pay their bills. The Code frees people from the hell of collection agency calls, garnishments, repossession and foreclosure. The Code provides for the efficient and orderly improvement of the well-being of individuals and families under the authority of the US
Bankruptcy Court.

The genius of the Bankruptcy Code lies in several profound and powerful provisions: The Automatic Stay; Exemptions; Loan Modification; and, the Discharge.

The Automatic Stay is an injunction that stops creditor collection actions immediately upon the filing of a bankruptcy petition. Exemptions allow debtors to keep and protect asset and equity interests in their property – homestead, car, goods and furnishings, and retirement funds. The Discharge operates to wipe away debt obligations by operation of law. Loan modifications or “Cram Downs” provide for the restructuring of loans and secured obligations.

Congress “Fell Down” by Not Enacting “Cram Downs” in 2005

Congress enacted the Bankruptcy Abuse Prevention and Consumer Protection Act in 2005. These reforms were intended to prevent the abuse of the Bankruptcy system through “Means Testing” and other measures. The reforms were intended to force debtors into filing less Chapter 7’s and more Chapter 13 repayment plans.  The practical effect is that the provisions made it harder for Americans to access the relief that bankruptcy had traditionally afforded. Instead, the new law helped maintain profits for banks and mortgage holders, at the expense of ordinary Americans who were caught in the midst of an economic torrent created by the profiting banks and financial markets themselves.

The Congressional record shows that Congress considered the inclusion of “Cram Down” provisions for residential loans in the enacted reforms. Congress could have given Bankruptcy Courts the authority to reduce the principal amount owed on a home mortgage to the actual “fair market value” of their home. For example – a debtor with a house worth $50,000 would be able to “Cram Down” their $100,000 mortgage loan to $50,000. The interest rate and amortization term could also be modified. With “Cram Down” provisions, a home owner could file bankruptcy and modify the terms of their home mortgage under the systematic and regulated authority of the US Bankruptcy Court.

The Government Bail Outs

In 2008, Congress appropriated $700 billion to the Troubled Asset Relief Program (TARP). The Government promised to pay “Big Banks” for any losses they incurred on foreclosed mortgage loans. With TARP, the Big Banks couldn’t lose. If they suffered a loss because of mortgage loan defaults, the Government reimbursed them for their losses.

Loan modification programs were enacted by the current Administration – HAMP & HARP. These programs have proven to be too cumbersome and difficult for many home owners. Banks or their designated agents make the process extremely difficult. Desperate home owners are required to resubmit the same voluminous documentation again and again only to be denied a modification.

The loan modifications that have been approved are tenuous propositions at best. Typically, there is no reduction in any principal amounts owed and the modification allows a lower interest rate for a short term.

Conclusion

In 2005, Congress failed their constituents by not enacting “Cram Down” provision in the Bankruptcy law to allow home owners to modify their home mortgages under the efficient and systematic authority of the US Bankruptcy Court. The “foreclosure crisis” continues and Congress has refused to modify the law to provide for this simple, effective remedy. A portion of the funding allocated to TARP could have been reallocated to reimburse banks for the losses they suffered by “Cram Downs” of residential mortgage loans.

The issues raised by the “foreclosure crisis” are issues that demand the attention of our Congress and this Administration. Give the US Bankruptcy Court laws that can save neighborhoods and families.