It’s a given that Chapter 7 bankruptcy, for the most part, wipes out your debts and permits a fresh start.
We also know that in the wake of 2008 mortgage crisis, banks were notoriously loathe to work with underwater homeowners on loan modifications to give them time to get back on their feet. As a result, many did the best thing they could: often filing for bankruptcy. This allowed them to walk away from the debts – sometimes in the hundreds of thousands of dollars – that they incurred as a result of not being able to keep up on the mortgage payments.
Now, bankruptcy lawyers are hearing reports that banks are reportedly “forgiving” debt that has already been discharged in bankruptcy.
Here’s what’s happening, according to a recent investigation by The New York Times:
Back in February, five of the country’s top five banks – JP Morgan Chase, Bank of America, Ally Financial, Wells Fargo and Citibank – all agreed to settle allegations of wrongdoing over their past mortgage practices. That deal was inked with the government for $25 billion. Part of that deal was that the banks would work much harder to assist borrowers who were underwater or struggling.
As further incentive for the banks to do this, the government offered credits against the amounts they agreed to pay.
So reportedly, the banks are now willing to forgive the debts that they had previously not been willing to negotiate on – however if these debts have been discharged in bankruptcy, the banks are no longer legally allowed to collect on the debts. The trade-off for them is that they end up getting government credit for it. (The banks say this is not their goal, and any errors are simply oversights; however there is a large reported volume of these letters going out to former bankruptcy clients from coast to coast.)
That alone would be enough to upset those who have already had their debts discharged, but it gets worse: It may create potential tax problems for those who receive this notice.
That’s because the Internal Revenue Service deems forgiven debt as taxable income. The exception to this, obviously, is bankruptcy. When your debts are discharged by bankruptcy, you can’t be taxed.
However, the letters sent from some of these banks discharging this “phantom debt” indicate it will be reported to the IRS. So then it will be up to the borrowers to show that the banks made an error in forgiving the debts.
In other words, homeowners who have sought bankruptcy protection because their bank would not negotiate a modification, may now be faced with a tax nightmare because the bank is announcing forgiveness of debt it has no legal right to collect.
Banks have countered that some of the customers who had filed for bankruptcy still had liens on their property, and therefore this letter was notification that the lien had been discharged. Don’t fault the consumer for being confused, since nowhere on the letter is the word “lien” mentioned.
Outside regulators are supposed to be keeping an eye on how the settlement is carried out, and ensuring there are no abuses. A spokesman for the monitoring team said regular reviews will be conducted. However, this is no guarantee that your rights will be recognized and respected.
If you have received one of these letters and have already had your debts discharged through a bankruptcy, contact our Louisville bankruptcy lawyers.
And if you are contemplating bankruptcy or foreclosure in Kentucky, we can help you explore all your options.
If you need to speak to a Louisville Chapter 7 bankruptcy attorney or Kentucky foreclosure defense firm, contact the Schwartz Bankruptcy Law Center at 866-270-4495 for a free and confidential consultation to discuss your rights.
How to Erase a Debt That Isn’t There, Sept. 29, 2012, By Gretchen Morgenson, The New York Times
More Blog Entries:
Louisville Bankruptcy Watch: Nearly 30% Don’t Maintain Emergency Savings, July 9, 2012, Louisville Chapter 7 Bankruptcy Lawyer Blog