Will a Second Mortgage Holder Foreclose in Colorado?

August 11, 2011

By: David M. Serafin

A second mortgage holder is legally permitted in Colorado to pursue foreclosure if the loan is in default (even if the first mortgage is current). But the reality is that, in today’s depressed real estate market, foreclosure for the second mortgage holder makes little sense for an upside down property as the second mortgage is junior in priority to property taxes, HOA dues (if any) and then the first mortgage holder. So, the second mortgage holder would recover nothing absent a substantial amount of equity to pay off all senior liens and the costs of foreclosure. (The precarious position of a second mortgage holder results in higher interest rates for these loans.)

The second mortgage lien will remain on the property absent foreclosure by another senior lien holder. If the property appreciates in value, the second mortgage lender may then pursue a foreclosure action. If this occurs, it is likely that the first mortgage holder would also pursue foreclosure to protect its lien priority leading to a likely scenario whereby both mortgage holders negotiate with one another for one to purchase the entire property so that only one party forecloses. Regardless, the homeowner may owe a deficiency balance to only the first mortgage holder and also the second mortgage holder if the property is upside down in equity.

Outside of bankruptcy, it is not possible to eliminate the second mortgage (absent consent). However, Section 506 of the U.S. Bankruptcy Code allows for the strip off of a second mortgage in chapter 13 bankruptcy if the value of the property is less than the first mortgage balance alone (as determined by a Broker Price Opinion or Appraisal) on the date of the bankruptcy filing. As real estate prices in Colorado continue to stagnate, bankruptcy lawyers nationwide continue to file strip off motions at a high rate. A court order for the second mortgage to be stripped off, assuming that the debtor successfully complete chapter 13 plan payments for 3 to 5 years, renders the second mortgage unsecured, similar to credit card debt or medical bills. Chapter 13 debtors who pass the Means Test will not need to pay anything back on the second mortgage, while higher income chapter 13 filers will pay back anywhere from 1% to 100% of the second mortgage and other unsecured debt (depending on their income, expenses and household size).

As a chapter 13 strip off of a second mortgage benefits homeowners who intend to keep their home, many bankruptcy debtors eligible under Section 506 are better off surrendering their upside down home in chapter 7, if they pass the Means Test, particularly if the deficiency as to the first mortgage alone is significant. Please call our Parker bankruptcy relief lawyer at (303) 862-9124 if you believe you are eligible to eliminate your second mortgage.