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Bankruptcy Court Holds Wholly Unsecured Second Mortgage Lien May Be ‘Stripped Off’

bankruptcycourtflaThe U.S. Bankruptcy Court for the Southern District of Florida recently held that a wholly unsecured second mortgage lien may be “stripped off,” even if the property encumbered by the lien is no longer part of the bankruptcy estate due to abandonment by the bankruptcy trustee.

The Bankruptcy Court did not specifically reference the consolidated cases now before the U.S. Supreme Court in Bank of Amer. v. Toledo-Cardona, and Bank of Amer. v. Caulkett, which should resolve the issue of whether a wholly unsecured lien may be stripped off in a Chapter 7 bankruptcy.

However, the Court noted that, “[a]t present in the Eleventh Circuit, one may void a lien with no equity, but may not reduce a lien that is partly secured.”  See McNeal v. GMAC Mortgage, LLC, 735 F.3d 1263 (11th Cir. 2012), cert. den. (S.Ct. May 20, 2014); Folendore v. United States Small Bus. Admin., 862 F.2d 1537 (11th Cir. 1989).

A copy of the Bankruptcy Court’s opinion is available at:

The debtor filed a voluntary bankruptcy petition under Chapter 7. Shortly thereafter, the bankruptcy trustee filed a notice abandoning the debtor’s  homestead property.

The debtor filed a motion to value and determine the secured status of a second mortgage lien on his homestead property under 11 U.S.C. § 506. The motion alleged that his primary residence, which was homestead property in Florida, was worth $84,000 and that, because the amount owed on the first mortgage was $191,856.53, there was no equity left for the second mortgage, which was held by the same mortgagee.  As a result, the debtor argued, the mortgagee was left with a wholly unsecured claim as to the second mortgage.

The mortgagee did not file an objection in response to the debtor’s motion, and also did not appear at the hearing on the motion.

The Bankruptcy Court noted that, under 11 U.S.C. § 506(a), a secured claim is “bifurcated” into secured and unsecured claims if the property encumbered by the lien is worth less than the amount of the claim, and that subsection 506(d) provides the procedure for voiding or “stripping off” such “underwater” liens.

The Bankruptcy Court framed the issue before it as whether it has the authority to “strip off” a wholly unsecured lien, even if the property encumbered by the lien is no longer being administered as part of the bankruptcy estate.  Here, because the bankruptcy trustee abandoned the homestead property, it was deemed administered before the debtor’s motion was filed.

The Bankruptcy Court began its analysis by acknowledging the unsettled state of the law on this issue.

On the one hand, in Dewsnup v. Timm, 908 F. 2d 588 (10th Cir. 1990), the Tenth Circuit Court of Appeals held, as a matter of statutory construction, that “abandoned property is not property in which the estate has an interest” and, accordingly, section 506(a) does not apply.  The Bankruptcy Court noted that the U.S. Supreme Court’s subsequent ruling in Dewsnup – which affirmed the Tenth Circuit’s ruling on other grounds — did not reach the issue of whether section 506 applies to property abandoned by the bankruptcy trustee under section 554.

On the other hand, the Third Circuit in Gaglia v. First Federal Sav. & Loan Ass’n, 889 F. 2d 1304 (3rd Cir. 1989), and the Eleventh Circuit in McNeal v. GMAC Mortgage, LLC, 735 F. 3d 1263 (11th Circ. 2012) held that section 506(a) does apply and permitted lien-stripping.

The Court agreed with the Third Circuit’s reasoning in Gaglia, holding that it has the power to strip liens under section 506 regardless of whether the collateral has been abandoned or may be abandoned by the estate later in the case.

The Court also noted that, “[a]lthough the Eleventh Circuit has not explicitly addressed the issue, both Folendore and McNeal indirectly support the conclusion reached here. In Folendore, the debtors had received their discharge and the Eleventh Circuit assumed that the subject property would be foreclosed. It appears that the property was not subject to administration. Gaglia, 889 F.2d at 1307 (stating that the facts in Folendore “suggested that the property was not subject to liquidation”). McNeal permitted lien stripping on the debtor’s homestead, an exempt asset. McNeal, 735 F.3d at 1264-66.”

Accordingly, the Court held “[t]he only reasonable interpretation of section 506(a) is that it is effective as of the petition date, and so the use of the present tense – ‘in which the estate has an interest’ – means the petition date and not some later date when the court considers a motion to value. Any other interpretation would lead to a series of untenable results.”

The Court granted the debtor’s motion, finding (a) the value of the debtor’s homestead was $84,001 when the case was filed; (b) the total secured claims senior to the second mortgage was $191,856.53; (c) no equity remained after payment of senior liens; (d) the second mortgage shall be deemed void as a secured claim against the debtor’s homestead upon entry of the discharge in the Ch. 7 case, but if the case was converted or dismissed, the lien of the second mortgage would be restored as a secured claim; (e) if the mortgagee filed a proof of claim, the claim would be classified as a general unsecured claim, regardless of how the claim was classified in the proof of claim; and (f) the subject property could not be sold or refinanced without notice and further court order.

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Ralph Wutscher's practice focuses primarily on representing consumer and commercial financial services companies, including depository and non-depository mortgage lenders and servicers, as well as mortgage loan investors, financial asset buyers and sellers, loss mitigation companies, third-party debt collectors, and other financial services providers. He represents the lending and financial services industry as a litigator, and as regulatory compliance counsel. For more information, see