§ 85.4 — Accelerating Payment of a Home Mortgage
Revised: June 2, 2004
It will sometimes be in the best interests of a Chapter 13 debtor to pay a claim that is secured only by a security interest in real property that is the debtor’s principal residence more quickly than otherwise required by contract. For example, this will be true when the rate of interest in the mortgage contract is very high or when the debtor’s disposable income1 is sufficient to pay unsecured claim holders in full and retire a home mortgage more quickly than its contract maturity. A Chapter 13 debtor may desire to sell the real property during the plan and prepay the mortgage from the proceeds.2
If the home mortgage is not protected from modification by § 1322(b)(2),3 the debtor can pay the mortgage through the plan more quickly than required by contract, to include payment in full during the life of the plan, so long as the plan does not violate some other condition for confirmation. For example, in In re Govan,4 after claim splitting under § 506(a), the debtor was able to pay the allowed secured claim of an undersecured mortgage in full during the plan notwithstanding a longer original maturity. The bankruptcy court held that the debtor’s proposal to maintain the contract interest rate and monthly payment was not prohibited by either § 1322(b)(2) or § 1322(b)(5) notwithstanding that the result would be early retirement of the lien. In In re Elrod,5 the bankruptcy court rejected good-faith6 and disposable-income-test7 objections to a plan that paid Citifinancial $25 per month more than its contract payment to accelerate retirement of the mortgage. The bankruptcy court found the resulting “slight reduction in the percentage that the debtors might pay to unsecured creditors” was “not sufficient evidence by itself to show lack of good faith by the debtors.”8 In contrast, the bankruptcy court in In re Crussen9 held that increasing the contract payment on a second mortgage from $475 to $1,125 per month to pay the mortgage in full during a 36-month plan was an unfair classification when unsecured creditors would receive only 44 percent.10 Lack of good faith and unfair discrimination stopped a Chapter 13 plan that increased payment to a mobile home lender from $408 to $979.18 per month when the effect was to require unsecured claim holders to contribute $17,000 to the mobile home lender over the life of the plan.11
When the mortgage is protected from modification by § 1322(b)(2), the question becomes whether acceleration is a prohibited modification of the rights of the claim holder. There is no exception to the prohibition against modification in § 1322(b)(2) for a Chapter 13 plan that changes the terms of a home mortgage to retire the debt more quickly. Sections 1322(b)(3) and 1322(b)(5) provide for curing default,12 but the power to cure default merely reinstates the original mortgage contract terms;13 if the original contract is protected from modification by § 1322(b)(2), curing defaults does not empower the debtor to change the terms of the contract. The Supreme Court’s strict construction of the antimodification provisions of § 1322(b)(2) in Nobelman v. American Savings Bank14 supports the view that § 1322(b)(5) and, by analogy, § 1322(b)(3), are not independent sources of power to change the terms of the underlying mortgage contract, even when the proposed change in terms accelerates payment of the debt.
If the mortgage documents would permit the debtor to accelerate or prepay the note, the Chapter 13 plan can prepay or accelerate the debt, notwithstanding the protection from modification in § 1322(b)(2). This power to accelerate or to prepay would arise from the mortgage contract, not from the Bankruptcy Code; thus, resort to tortured notions of curing default under § 1322(b)(5) or § 1322(b)(3) would be unnecessary. If the debtor’s mortgage was in default at the petition, and if the contract permitted the debtor to prepay or accelerate payment of the debt, then the debtor might use § 1322(b)(5) (if the debt is a long-term debt) or § 1322(b)(3) (if the debt is a demand, matured, balloon or short-term mortgage) to accomplish two things: the plan could cure the prepetition default, thus reinstating the original loan terms; then the debtor could prepay or accelerate the note, in whole or in part, consistent with the contract.
In Chapter 13 cases filed after October 22, 1994, there is help for debtors who want to accelerate payment of a short-term residential mortgage. As discussed above,15 the Bankruptcy Reform Act of 1994 enacted § 1322(c)(2), which permits Chapter 13 debtors, “notwithstanding” § 1322(b)(2), to pay during the life of the plan consistent with § 1325(a)(5) a claim secured only by the debtor’s principal residence when “the last payment on the original payment schedule . . . is due before the date on which the final payment under the plan is due.”16 If the conditions in § 1325(a)(5) are satisfied,17 in cases filed after October 22, 1994, a Chapter 13 plan can accelerate the payment of a demand, matured, balloon payment or short-term residential mortgage.
For example, if the original payment schedule for an aluminum siding loan called for three more years of payments and if the debtor proposes a four-year plan, the debtor could pay the aluminum siding loan through the plan in less than the three years remaining by contract. The debtor might care to do so, for example, if the interest rate on the aluminum siding loan was onerous and a better repayment schedule could be worked out using § 1325(a)(5).
At first blush, new § 1322(c)(2) will be of no use to Chapter 13 debtors who wish to accelerate long-term residential mortgages. New § 1322(c)(2) applies only if the last payment on the original payment schedule is due before the final payment under the plan. If “original payment schedule” in § 1322(c)(2) is more broadly interpreted to include all contract terms, Chapter 13 debtors may be empowered to modify and provide for accelerated payment of even long-term home mortgages with respect to which the mortgage holder accelerated or took a foreclosure judgment before the petition.18
Many standard form mortgage contracts allow the borrower to prepay principal. Typically, the borrower can prepay or accelerate either in a lump sum or by paying additional amounts with the regular monthly payments. If the mortgage contract permits prepayment, a Chapter 13 plan might, for example, pay the regular monthly payment during the life of the plan and an extra amount each month that would be credited against the principal balance. Such a plan would have the effect of accelerating payment of the debt. The plan would not offend the antimodification provision of § 1322(b)(2) if the mortgage contract itself permits prepayment. Similarly, the plan might maintain the regular monthly payments on a mortgage until a predetermined time during the plan when the debtor will pay the remaining balance in full, for example, by refinancing or by sale of the property. In contrast, a provision to suspend the regular monthly payment until the debtor sells the property and pays the mortgage in full is prohibited by § 1322(b)(2), even if the contract permits prepayment, because the plan neglects to maintain the contractual monthly installments pending the sale.19
In the absence of a contract provision permitting prepayment or acceleration, it is hard to find authority in the Bankruptcy Code for a Chapter 13 plan that accelerates payment of a home mortgage that is protected from modification by § 1322(b)(2). Justice Thomas’s analysis in Nobelman strongly supports the view that a mortgage holder with a claim that is protected from modification by § 1322(b)(2) has all its contract and state law rights to the original benefits of its bargain with the debtor. That bargain includes the right to a particular monthly payment at a particular interest rate for a fixed term. If the debtor did not bargain for the right to prepay the mortgage, and if state law does not supply that right, nothing in Chapter 13 forces the creditor protected by § 1322(b)(2) to accept prepayment or acceleration.
The U.S. Court of Appeals for the Seventh Circuit permitted a Chapter 13 debtor to prepay or accelerate a home mortgage that was protected from modification by § 1322(b)(2). In Homebanc v. Chappell (In re Chappell),20 the Chapter 13 plan proposed to pay the second mortgage on the debtor’s home in full during the life of the plan. By contract, the last payment on the second mortgage was due approximately 19 years after payments would be completed under the plan. The plan accelerated the second mortgage for payment in five years. The second mortgage holder did not object to confirmation. Because of mistakes by the mortgage holder in filing its proof of claim, the debtor completed payment of the principal amount of the second mortgage during the five-year life of the plan without paying interest to the second mortgage holder.
After completion of payments, the second mortgage holder objected to discharge of its lien, claiming that it was still owed interest on its claim. The mortgage holder argued that the balance of its claim was excepted from discharge by operation of § 1328(a)(1)—the Code provision that excepts from discharge any long-term claim that the debtor maintained during the plan pursuant to § 1322(b)(5).21 The debtor responded that the second mortgage was discharged because the plan did not treat the claim as a long-term debt under § 1322(b)(5), rather, the plan paid the second mortgage in full during the life of the plan. The Seventh Circuit accepted the debtor’s argument:
In this case, the Chappells’ plan clearly did not take advantage of the contract repayment period of the second mortgage. Instead, it proposed accelerating the second mortgage and paying it in full during the five years in which the plan was in effect. . . . The plan altered the regular monthly payment schedule on the mortgage by repaying the debt in full some 19 years before it was scheduled to end. As a result, the Chappells did not choose to treat the second mortgage in accordance with § 1322(b)(5), and [the creditor’s] argument that the debt was exempted from discharge by operation of § 1328(a)(1) therefore must fail.22
In support of this outcome, the Seventh Circuit cited 11 U.S.C. § 1325(a)(5)(B)(ii). This section contains the general confirmation requirement that the holders of allowed secured claims must be paid through the plan not less than the present value of the allowed amount of the secured claim.23 Chappell suggests that a Chapter 13 debtor has the alternative of dealing with a long-term real estate-secured creditor by proposing full payment through the plan consistent with § 1325(a)(5)(B)(ii).24
Because the mortgage holder in Chappell did not object to confirmation, the Seventh Circuit did not address whether the prohibition against modification in § 1322(b)(2) would preclude confirmation of a plan that accelerates payment of a protected long-term debt. If treatment consistent with § 1325(a)(5)(B)(ii) overcomes a § 1322(b)(2) objection to confirmation of a plan that accelerates a protected home mortgage by payment in full during the life of the plan, it could certainly also be argued that § 1325(a)(5)(B)(ii) permits a Chapter 13 debtor to extend a home mortgage for payment in full during the life of the plan notwithstanding a contrary contract. In other words, if payment in full during the plan is not prohibited by § 1322(b)(2), it should not matter whether the plan accelerates or extends the original contract term.
As discussed above,25 in cases filed before the 1994 amendments, many courts held that payment in full did not avoid the antimodification provisions of § 1322(b)(2) with respect to demand, matured or balloon payment mortgages. A minority of courts found statutory authority to pay a maturing, ballooning or demand note during the life of the plan in § 1322(b)(3) or § 1322(b)(5).26 If § 1325(a)(5)(B)(ii) is statutory authority for accelerating a home mortgage for payment during the plan when the mortgage is protected from modification by § 1322(b)(2), then § 1325(a)(5)(B)(ii) must be added to the list of sections that might support extension of a matured, balloon or demand note for payment in full during the plan.
Nobelman requires the bankruptcy courts to read the prohibition against modification in § 1322(b)(2) as a limit on the use of § 1325(a)(5)(B)(ii) in any manner that would modify the contract or state law rights of the mortgage holder. Acceleration or prepayment of a protected home mortgage, though sometimes more favorable than other treatments, is nonetheless a modification prohibited by § 1322(b)(2) unless acceleration or prepayment is supported by contract or state law or consent of the lender. In cases filed after October 22, 1994, new § 1322(c)(2) will permit acceleration of an otherwise protected home mortgage in the narrow circumstances when the last payment on the original payment schedule is due before the final payment under the plan and the debtor has the financial wherewithal to retire the claim in full (with interest) consistent with § 1325(a)(5).
In any Chapter 13 case in which the plan pays less than 100 percent of unsecured claims, a proposal to accelerate payment of a secured claim is likely to provoke an objection to confirmation under the disposable income test in § 1325(b).27 If acceleration produces a higher than contract monthly payment to the secured claim holder during the life of the plan, then unsecured claim holders may have suffered, and the disposable income test may preclude confirmation.28 On the other hand, the mathematics of accelerating payment of a secured claim may actually favor unsecured creditors if faster payment of principal reduces the payment of interest leaving more money for distribution to unsecured claim holders during the life of the plan.29 One court denied confirmation on good-faith grounds of a plan that bifurcated a long term debt secured by a mobile home and accelerated the secured portion for payment in full during the five-year plan when unsecured claim holders suffered a loss of distributions to pay for the mobile home and the combination of cramdown and acceleration produced a windfall for the debtors.30
1 See discussion beginning at § 91.1 In General.
2 See §§ 102.1 [ Surrender or Sale of Collateral ] § 74.5 Surrender or Sale of Collateral before BAPCPA and 263.1 [ To Sell or Refinance Property of the Estate ] § 127.6 To Sell or Refinance Property of the Estate.
4 139 B.R. 1017 (Bankr. N.D. Ala. 1992).
5 270 B.R. 258 (Bankr. E.D. Tenn. 2001).
6 See discussion of good faith beginning at § 103.1 In General.
7 See discussion of projected disposable income test beginning at § 91.1 In General.
8 270 B.R. at 262.
9 264 B.R. 723 (Bankr. W.D. Okla. 2001).
10 See § 103.1 [ Classification of Secured Claims ] § 74.7 Classification of Secured Claims.
11 In re Liles, 292 B.R. 138, 140–41 (Bankr. E.D. Tex. 2002) (“[A] plan which proposes to take money from unsecured creditors in order to fund accelerated payments to a secured creditor is not proposed in ‘good faith.’ . . . [I]f the Debtors pay Greenpoint according to the terms of their contract over the life of the 36 month Plan, in excess of $30,500 in disposable income will be available to pay creditors other than Greenpoint Credit. There is a difference of approximately $17,000 less available to pay to the aforementioned creditors under the Debtors’ proposed plan. Thus, the Debtors are not prepaying their account with Greenpoint, rather their unsecured creditors are funding the accelerated pay off of this asset for these debtors. . . . [T]he issue is not only one of good faith . . . . It is also an issue of the treatment of classes of creditors. . . . Section 1322(b)(1) of the Code prohibits unfair discrimination between classes of unsecured creditors. No specific statute prohibits unfair discrimination between secured and unsecured creditors but this Court concludes that to do so is abhorrent to the spirit of the Code and to Congressional intent.”).
12 11 U.S.C. § 1322(b)(3) also allows the plan to provide for “waiving of any default.” The power to waive default is of uncertain use in this context. See § 115.1 [ Curing Default, Waiving Default, Maintaining Payments and Combinations ] § 78.4 Curing Default, Waiving Default, Maintaining Payments and Combinations.
13 See also In re Ford, 221 B.R. 749, 754 (Bankr. W.D. Tenn. 1998) (Debtor can use § 1322(b)(5) to manage a long-term, unsecured debt to an insurance company; however, plan must specify the amount of the arrearages, and the ongoing monthly payment, and the proposed long-term treatment cannot have the effect of accelerating payment. “[A] debtor electing to classify a debt under § 1322(b)(5) is not entitled to accelerate the payments due under the contract.”).
14 508 U.S. 324, 113 S. Ct. 2106, 124 L. Ed. 2d 228 (1993). See § 118.1 [ Most Home Mortgages Cannot Be Modified: § 1322(b)(2) and Nobelman ] § 79.1 Most Home Mortgages Cannot Be Modified: § 1322(b)(2) and Nobelman.
15 See § 143.1 [ Demand, Matured and Balloon Loans; “Short-Term” Mortgages after October 22, 1994 ] § 85.2 Demand, Matured and Balloon Loans; “Short-Term” Mortgages after October 22, 1994.
16 11 U.S.C. § 1322(c)(2), as amended by Bankruptcy Reform Act of 1994, Pub. L. No. 103-394, § 301, 108 Stat. 4106 (1994).
18 See § 144.1 [ Prepetition Foreclosure Judgment: Curing Default, Payment in Full or Modification under § 1322(c)(2)? ] § 85.3 Prepetition Foreclosure Judgment: Curing Default, Payment in Full or Modification under § 1322(c)(2)?.
19 See Philadelphia Life Ins. Co. v. Proudfoot (In re Proudfoot), 144 B.R. 876, 877 (B.A.P. 9th Cir. 1992) (“Proudfoot planned to sell his home within the time period covered by the plan and to use the proceeds to pay off [the mortgage holder]. Proudfoot’s . . . plan made no provision for making the regular future mortgage payments as they became due. The plan did not cure a default as allowed by 11 U.S.C. § 1322(b)(5), it created one. . . . Proudfoot’s plan violated 11 U.S.C. § 1322(b)(2), since, by withholding payments, the plan created defaults which modified [the mortgage holder’s] rights.”).
20 984 F.2d 775 (7th Cir. 1993).
21 See § 351.1 [ Long-Term Debts ] § 158.7 Long-Term Debts.
22 984 F.2d at 780–81.
23 See §§ 111.1 [ “Value, As of the Effective Date of the Plan” Means Interest ] § 77.1 “Value, As of the Effective Date of the Plan” Means Interest and 113.1 [ Full Payment of Allowed Secured Claim ] § 78.1 Full Payment of Allowed Secured Claim.
24 See also In re Weber, 140 B.R. 707, 712 (Bankr. S.D. Ohio 1992) (The antimodification provision of § 1322(b)(2) prohibits debtor from paying second mortgage in full over 55 months with 10% interest where the original contract called for interest in excess of 20% and the original contract term would expire before completion of the plan. “Here, [the creditor] will receive a slower repayment under the plan than it is entitled to receive under its contract and at a discount factor which is significantly lower than the rate of interest under its loan. . . . This is not a situation where full repayment of the allowed secured claim is accelerated. Clearly, the plan as proposed substantially and negatively modifies the claimant’s rights in a manner prohibited by § 1322(b)(2).”)
25 See § 142.1 [ Demand, Matured and Balloon Loans; “Short-Term” Mortgages before October 22, 1994 ] § 85.1 Demand, Matured and Balloon Loans; “Short-Term” Mortgages before October 22, 1994.
26 See §§ 115.1 [ Curing Default, Waiving Default, Maintaining Payments and Combinations ] § 78.4 Curing Default, Waiving Default, Maintaining Payments and Combinations and 142.1 [ Demand, Matured and Balloon Loans; “Short-Term” Mortgages before October 22, 1994 ] § 85.1 Demand, Matured and Balloon Loans; “Short-Term” Mortgages before October 22, 1994. In cases filed after October 22, 1994, 11 U.S.C. § 1322(c)(2), as amended by the Bankruptcy Reform Act of 1994, Pub. L. No. 103-394, § 301, 108 Stat. 4106 (1994), permits Chapter 13 debtors to pay a demand, matured, balloon payment or short-term residential mortgage during the life of the plan consistent with § 1325(a)(5). See § 143.1 [ Demand, Matured and Balloon Loans; “Short-Term” Mortgages after October 22, 1994 ] § 85.2 Demand, Matured and Balloon Loans; “Short-Term” Mortgages after October 22, 1994.
27 See discussion of projected disposable income test beginning at § 91.1 In General.
28 See In re Dingley, 189 B.R. 264 (Bankr. N.D.N.Y. 1995) (Chapter 13 trustee has standing under § 1302(b)(2)(B) and duty to object to confirmation on the ground that proposed interest rate exceeds the appropriate “present value” rate under § 1325(a)(5). Duty arises because overpayment of interest to one secured claim holder reduces the funds available for distribution to all creditors.).
29 See In re Delauder, 189 B.R. 639, 645–47 (Bankr. E.D. Va. 1995) (Direct payment of undersecured car lender consistent with contract separately classifies by silently providing payment in full with interest of the unsecured portion of the claim, but separate classification is fair discrimination because payment in full of the undersecured claim during the life of the plan would actually reduce the funds available for payment to other unsecured creditors. If the long-term debt were paid through the Chapter 13 trustee, the percentage distribution to all unsecured claim holders would actually fall from 25% to approximately 18% because the unsecured portion of the car lender’s claim is small and accelerating long-term car loan for payment in full during the life of the plan would reduce the money available to unsecured claim holders. In other words, the discrimination in favor of the car lender actually worked to the advantage of other unsecured claim holders.). Compare In re Bernard, 201 B.R. 600, 603, 604 (Bankr. D. Mass. 1996) (Denies mortgage holder’s motion to require Chapter 13 debtor to pay mortgage and arrearages directly to the bank to avoid trustee’s fees and thus increase percentage repayment of unsecured claims. Bank and debtors agreed to payment of $80,000 secured claim over 60 months with interest through the plan and 10% on unsecured claim. Then bank objected because direct payments would increase money available to unsecured claim holders by $9,964.02. “[D]ebtors may depart from the norm of payments to creditors by the Chapter 13 Trustee only if they advance a ‘significant reason’ for doing so. . . . The Bank cannot be heard objecting to a Plan that does no more than implement the provisions of an agreement it entered into voluntarily and with the assistance of counsel.” The bank’s proposal to require the debtor to pay the bank directly is “unprecedented.” Because the bankruptcy court “does not have the authority to reduce Chapter 13 Trustee’s fee,” the bank is stuck with its agreement for payment through the Chapter 13 trustee.).
30 In re Pope, 215 B.R. 92 (Bankr. S.D. Ga. 1997) (Good-faith requirement in § 1325(a)(3) prohibits confirmation of a plan that would bifurcate a 240-month mobile home-secured claim and accelerate the secured portion for payment in full during five year plan. Assuming that mobile home-secured claim is not protected from modification by § 1322(b)(2), cramdown would accelerate repayment of the secured portion of claim at the expense of unsecured creditors. Debtors are motivated solely by their desire to reduce the purchase price of their mobile home, and the proposal would produce an unfair windfall for the debtors.). See also In re Crussen, 264 B.R. 723, 726 (Bankr. W.D. Okla. 2001) (Accelerated payment of second mortgage is an unfair classification. Plan proposed to pay second mortgage in full in 36 months by increasing contract payment from $475 to $1,125 per month while paying unsecured creditors 44%. “Prepayment of the second mortgage will indeed operate to benefit the Debtor rather than the unsecured creditors. On these facts, it is unfair to separately classify the second mortgage to facilitate such prepayment and there are not special circumstances warranting preferring Debtor over the unsecured creditors.”). But see In re Elrod, 270 B.R. 258, 262 (Bankr. E.D. Tenn. 2001) (Bankruptcy court rejects good-faith objection to plan that accelerated payment of second mortgage. Plan proposed to pay Citifinancial $25 per month more than contract mortgage payment but at lower interest rate. Citifinancial accepted. With respect to good faith, “[t]he proposed payments to Citifinancial will cause a slight reduction in the percentage that the debtors might pay to unsecured creditors based on a 60-month plan. This slight reduction is not sufficient evidence by itself to show lack of good faith by the debtors.”).