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When it comes to home equity loans, filing for bankruptcy typically means two things: If you already have a home equity loan when you file for bankruptcy, bankruptcy probably won’t wipe out this secured debt. And qualifying for a new home equity loan after you file for bankruptcy is significantly harder — although it's not impossible.
Filing for bankruptcy can offer some relief when you experience a financial disaster. When things go right, it can stop the collection calls, get rid of unsecured debts, and temporarily halt foreclosures and repossessions.
But bankruptcy isn’t a magic wand. Though the proceedings might reduce your debt, bankruptcy won’t get rid of the lien on your property from a mortgage or home equity loan. There are long-lasting negative consequences, as well. You’ll suffer a major hit to your credit, making it much more difficult to qualify for new loans in the future.
- Can I Get a Home Equity Loan After Bankruptcy?
- How Long Do I Have to Wait After a Bankruptcy Before Applying for a Home Equity Loan?
- Can You Discharge Your Home Equity Loan in a Bankruptcy?
Can I Get a Home Equity Loan After Bankruptcy?
Yes, but it may not be easy. When a bankruptcy shows up on your credit report, lenders may be concerned about the risk of not being repaid if they loan you money. Thankfully, as time passes, you can reduce that risk by rebuilding credit and managing it well.
Unlike mortgages which have underwriting guidelines established by Fannie Mae and Freddie Mac, underwriting guidelines for home equity loans are lender specific. This means a lender decides itself which criteria you have to meet in order to qualify for a home equity loan.
“Qualifying for a home equity loan after bankruptcy can definitely be difficult,” said Leslie H. Tayne of Tayne Law Group, a financial debt resolution attorney. First, bankruptcy can result in a hit to your credit score of 100 to 200 points, and sometimes even more. The damage typically lasts for 10 years, making it hard to meet the minimum credit score requirements most home equity lenders have.
A bankruptcy can stay on your credit report for up to 10 years. As far as home equity loans go, it’s up to the lender to decide whether or not it wants to approve your loan application as long as a bankruptcy is on your credit report.
How Long Do I Have to Wait After Bankruptcy Before Applying for a Home Equity Loan?
Most lenders will require you to wait five to six years before your application for a new home equity loan can be approved. In some cases, you might find a lender that’s willing to issue you a home equity loan as soon as three years after the discharge of your bankruptcy, but this is the exception, not the rule.
When it comes to waiting periods, each lender separately determines how long you need to be out of bankruptcy before it will consider issuing you a new home equity loan. It’s smart to shop around and see which lenders may be willing to work with your situation.
Can You Discharge Your Home Equity Loan in a Bankruptcy?
When you take out a home equity loan, you agree to put up the value of your home as collateral to secure your loan. If you don’t repay the lender as agreed, it may still be able to foreclose on your home. Depending on whether you file a Chapter 7 or Chapter 13 bankruptcy, it's possible to discharge your home equity loan but whether you can keep your home will be subject to the Court's ruling. We recommend that you consult with a reputable bankruptcy attorney to confirm that the following rules apply to you.
Under a Chapter 7 Bankruptcy, you may be able to discharge your liability for the second mortgage on your home, but the home equity lender retains the right to foreclose. However, it's likely that you will not be liable for any residual balances on the home following a foreclosure, should the sale be insufficient to cover you home equity debt.
Under Chapter 13 Bankruptcy, you may be able to partially discharge your home equity debt and "strip" or remove the home equity lender's lien from your home under certain conditions.
Whether you're able to strip the HELOC from your property will depend on the value of your home. In general terms, if your home is worth less than the owed amount on the first mortgage, any home equity loan, HELOC or second mortgage could be treated as unsecured debt. The balance on your second mortgage will be added to the debts you agree to pay off over the course of 3 - 5 years. Under this scenario, you must prove that the home equity lender's lien is no longer secured based on the home's value. This may require one or multiple appraisals and will likely be contested by the lender.
Summary: Chapter 7 vs Chapter 13 Bankruptcy
|Chapter 7 Bankruptcy||Chapter 13 Bankruptcy|
|Treatment of Debt||Eliminates all debts that can be legally discharged||3-5 year payment plan is made to pay back some debts; certain debts reduced/wiped out|
|Treatment of Property||May be required to relinquish property unless current on payments||May be allowed to keep property but will likely be required to repay secured loans in full|
|Who Qualifies||You may not qualify if your income is above an established median level for your state||Must prove income and be willing to dedicate a portion of that income towards creditors.|
|Treatment of Home Equity Debt||Cannot discharge home equity loan unless you're willing to surrender your home||Requires continued payments to lender if you wish to retain home. May be able to strip HELOC if home value has declined|
Bankruptcy negatively affects your credit and hinders your ability to borrow money for many years. It should not be undertaken without careful consideration.
This article does not constitute legal advice, nor is the writer of this guide a qualified legal consultant. A reputable bankruptcy attorney should be consulted to discuss any legal actions you wish to undertake.