A judgment puts a judgment lien on your home. Bankruptcy can undo that lien, and write off the debt.
Very Different Treatment of Unsecured Debts and Secured Debts
A couple blog posts ago we discussed how bankruptcy treats unsecured and secured debts differently.
Bankruptcy legally, permanently writes off most debts that do not have a “lien” on any of your property or possessions. However bankruptcy does NOT USUALLY write off or affect the lien that a secured creditor has in your asset. That means the creditor can take collection action against your asset through that lien after you complete the bankruptcy case. As a result usually you have to pay the debt.
But in certain situations bankruptcy CAN turn a secured debt back into an unsecured debt. We focus on another one of those situations today.
Erase a Lien in Bankruptcy is Extraordinary
Turning a secured debt into an unsecured one is quite extraordinary. It’s unusual even in bankruptcy. You cannot erase most liens. Instead, after bankruptcy you often have to pay the underlying debt either in full or in part.
So it’s quite special to be able to erase a judgment lien, write off the debt, and not pay anything.
Erasing a Judgment Lien
But you can only do this can under certain circumstances. The good news is that for practical reason these circumstances apply to a large percentage of people filing bankruptcy who have a judgment lien on their home.
For you to get rid of a judgment lien, the lien must “impair your homestead exemption.” (See Section 522(f) of the Bankruptcy Code).
An Example of “Impairing Your Homestead Exemption”
Here are the conditions that you need to meet through the guidance of your Louisville bankruptcy lawyer, applied to a hypothetical example.
- The judgment lien at issue must attach to your “homestead.” That generally means the place where you live. So assume you live in a home titled in your name, with a mortgage—that’s your homestead. In our example it’s worth $200,000 with an $180,000 mortgage, and so has equity of $20,000.
- The “homestead exemption” must protect the equity in your homestead. State and federal laws provide different amounts of protection for your home. It’s usually a certain maximum dollar amount of equity. Assume a homestead exemption of $30,000. Since that’s more than your $20,000 in equity, the homestead exemption protects all of your equity.
- The lien at issue must be a “judicial lien.” Its definition in the Bankruptcy Code is “a lien obtained by judgment, levy, sequestration, or other legal or equitable process or proceeding.” It can’t involve child or spousal support, or a mortgage foreclosure. In our example a collection company sued you for an unpaid $15,000 medical bill. You didn’t respond to the lawsuit. So a judgment was entered against you, which turned into a judgment lien against your home. It’s a “judicial lien” that you could potentially remove in bankruptcy.
- That judgment lien must “impair the homestead exemption” for you to get rid of it through bankruptcy. This generally means that the judgment lien attaches to equity that the applicable homestead exemption protects.
The End Result
So in our example the $15,000 judgment lien attaches to the $20,000 in equity in the home. ALL of that $15,000 of equity is included in the equity that the homestead exemption protects. That is, the judgment lien “impairs the homestead exemption.” As a result, the ENTIRE $15,000 judgment lien would be removed by filing bankruptcy. The bankruptcy discharge writes off the underlying medical debt. You would owe nothing and the judgment lien would be gone.