Chapter 13 Bankruptcy

[T]here are known knowns… known unknowns … and unknown unknowns… things we do not know we don’t know.—US Secretary of Defense Donald Rumsfeld

When it comes to Bankruptcy, many Debtors don’t know what they don’t know about real estate taxes. Confused? So were the District Courts until the 7th Circuit Court of Appeals addressed the issue in the case of In re LaMont, Opinion 13-1187 (January 7, 2014).

The 7th Circuit began its analysis in LaMont by acknowledging the 2 kinds of real estate taxes with which Debtors must deal:

(a) Sold; and (b) Unsold.

The 2 are treated differently under State law and receive distinct treatment in a Plan of Reorganization as well:

Unsold taxes can be paid through the Plan in the same way that a Debtor would pay arrears to a secured creditor like a mortgage company. The rationale for such treatment is that the taxing body – the County – is presumed to have a secured lien in the subject property for its taxes. Moreover, those axes cannot be sold once a Bankruptcy Petition is filed. Such taxes generally get paid directly to the County Treasurer via the Plan.

Sold taxes are trickier. They can be paid through the Plan like unsolid taxes, but only so long as the “redemption period” has not expired. Even if the redemption period expires during the Plan, sold taxes can still be paid over the rest of the Plan period. And while that is taking place, the Automatic Stay will remain in effect to prevent Tax Buyers from redeeming the sold taxes or forcing a sale of the underlying property (the typical State law remedy).

In LaMont the issue was sold taxes. The LaMont Debtors owed real property in Minooka, Illinois on which the Village had levied a special assessment that they hadn’t paid. The Court noted that in this context a special assessment was deemed a property tax. Thus, the unpaid assessments were disposed of at a tax sale. Shortly afterwards the Debtors filed Chapter 13 and their Plan provided for payment of the assessment directly to the Village. However, the Plan did not identify. nor did notice go out to, the tax buyer. Nonetheless, the Plan was confirmed and the Debtors made payments to the Trustee who distributed them to the creditors including the Village.

But was the tax buyer bound by the terms of the confirmed Plan even though he had not been notified? In answering the questions the Court conducted a thorough analysis of the Illinois property tax system including tax sales and redemption periods – treating the sold special assessments the way they would sold property taxes.

The upshot of the analysis was that for the entirety of the redemption period – usually 2 to 2 ½ years, – a property owner could redeem his or her sold taxes by paying the County Clerk the past due amount, plus penalties and interest. Between 3 and 6 months before the expiration of the redemption period, a tax buyer had to file a Petition for Tax Deed with the Circuit Court, then take the resulting Order to the County Clerk to secure a Tax Deed, which then had to be recorded within a year. If those steps were not followed the tax buyer would lose his interest in the subject property. That is time enough for the property owners to act, but here the time period was tolled because of the Bankruptcy. Still, the Debtors neither identified the proper party to pay nor made adjustments to their Plan of Reorganization.

The LaMont the tax buyer filed his Petition for Tax Deed with the Circuit Court 3 years after the Debtors filed Bankruptcy and the Circuit Court denied it. The tax buyer then filed a Lift Stay Motion in the Bankruptcy Court, which denied the Motion because he was ostensibly being taken care of in the Plan. The tax buyer appealed, arguing that the Stay should not apply since he was not given notice of the case. But the District Court affirmed the Bankruptcy Court.

The tax buyer had also argued that his interest was in the real property, so it was not an interest against the Debtors. In other words he argued that his interest automatically divested the Debtors of their interest in the property after the redemption period expired. In response the 7th Circuit first examined whether or not the tax buyer had a claim, concluding that he did even though there wasn’t a traditional creditor-debtor relationship present. Nonetheless, the Court found that the tax buyer did not have an executory interest in the property itself: he merely had a tax lien on the property.

In reaching its decision the LaMont Court reviewed Illinois case law in concluding that, while there were differences, precedent favored the treatment of sold taxes as a lien. Since the tax buyer’s claim was deemed to be a lien, it could be modified under Section 1322(b)(2) of the Bankruptcy Code and the Debtors could force him to take payments even past the redemption date as long as the Plan was in effect.

In short, sold taxes can be addressed in a Plan of Reorganization but notice should be given to the payee or the Debtors risk paying into their Plan for 5 years only to end up with no credit towards their sold property taxes – and in the end stand to lose their home. Sad but true.

Who Should You Trust?

When Fiduciaries Go Bad

Section 523(a)(4) of the Bankruptcy Code, 11 USC 523(a)(4) makes debts arising from “fraud or defalcation while acting in a fiduciary capacity” nondischargeable.  You know what that means, right? If you answered “Yes,” then you’ve overcome a gulf that several Federal Courts of Appeal could not.

In fact it was not until the decision in Bullock v. Bankchampaign (October term 2012 decided May 13, 2013 slip opinion 11-1518) that the Supreme Court addressed that Circuit split and determined once and for all that “defalcation” requires a showing that the actor had the requisite state of mind or scienter. In short, to have a debt excepted from discharge based on breach of a fiduciary duty, a Debtor must have known that what they were doing was wrong, or must have acted with a gross neglect of whether that was true.

So why did the Supreme Court rule on this relatively abstruse point? It turns out that the Courts of Appeal couldn’t even agree on whether there was a scienter component to defalcation, much less what defalcation should mean. The Supreme Court had to clarify the issue for good.

The Court started its analysis by looking at an old case that discussed requirements for the fraud exception to discharge.  In Neal v. Clark, 95 U.S. 704 (1878) the Court declared that Bankruptcy fraud must be “positive fraud, fraud in fact, involving moral turpitude or intentional wrong” rather than merely implied fraud or fraud in law. The key to Bankruptcy fraud, it seemed, was intentional action and moral turpitude. Certainly moral terpitude seemed a necessity for fraud to exempt a debt from discharge. After all, what good would Bankruptcy be if it did not absolve most all forms of debt? It seemed logical to draw the line at bad actions by bad actors.

Using this logic the Supreme Court concluded that intentional acts, bad faith, and moral turpitude, were prerequisites for a finding of nondischargeability due to a breach of fiduciary duty; while the necessary state of mind could only be shown by demonstrating acts that were intentional or had been taken with reckless disregard as to their propriety.

The Model Penal Code was pressed into service to support the idea that only actual knowledge of wrongdoing or “conscious disregard” of “a substantial and unjustifiable risk” could demonstrate the necessary state of mind to support this discharge exception. Whether the conduct also violated a fiduciary duty was another question. What was certain however, was that the “risk” must have been so obvious “that its disregard would involve gross deviation from the standard a law-abiding person would observe.” (citing Model Penal Code).

Likewise, the Court emphasized that exceptions to discharge “should be confined to those plainly expressed.” Kawaauhau v. Geiger, 523 U. S. 57, 62 (1998). In this case, the Trustee wasn’t a professional: simply a son in charge of his father’s trust. The Court noted this and observed that when there was no apparent fault or intent there was no policy reason for excepting the debt from discharge.

The takeaway here is that the discharge exception in Sec. 523(a)(4) of the Code requires a showing of intent or reckless disregard. It is also important to note the distinction between professional and nonprofessional trustees.

Questions? Concerns? Contact M. Hedayat & Associates, PC for a confidential consultation.

This piece from the Wall Street Journal’s Real Time Economics site answers the question with charts galore! The short answer comes in 3 parts:

1) For working people, 2013 was more of the same slow, jobless recovery;
2) For high net-worth individuals and corporations it was a bonanza; and;
3) The housing sector underwent a slow, painful, and uneven half-recovery.

Check it out here.

WSJ Real Time Economics 2013 Graph

Homeless Couple (In re Smith)(Tax Deeds)

Q: If a debtor files Bankruptcy after taxes are sold, the redemption period has expired, and the property is sold to a disinterested third party, can Bankruptcy still help them recover that property?

A: Kind of. The debtor is out of luck unless the redemption period expired within the 2 years prior to the filing. Then things get a lot more interesting. And that is exactly what happened in the Chapter 13 case of In re Smith.

Inheriting Property, Losing it to a Tax Sale

The Smiths inherited property in 2004 as to which 2001 real estate taxes had already been sold. Although they had until April 2005 to redeem the sold taxes by paying the tax amount plus statutory interest, they failed to do so. As a result the tax buyer was able to obtain a tax deed on April 15, 2005.

Filing Chapter 13 and an Adversary Complaint

Nearly 2 years later, on April 13, 2007, the Smiths filed a Chapter 13 case and Adversary Complaint to avoid the sale of their property pursuant to 11 USC 548. Their Adversary case was appealed all the way to the 7th Circuit.

When Was the Property Transferred?

The initial issue before the 7th Circuit was when the tax sale legally took place – that is, when it was “perfected.” Was it once the redemption period expired? Once the tax deed was issued? The Court determined the sale was perfected when the tax deed was issued.

With the date of perfection fixed, the next question was whether the issuance of a tax deed constituted the kind of transfer that can be undone via Bankruptcy – a Fraudulent or Preferential transfer. Certainly 11 U.S. 548(a)(1)(B) permits the Bankruptcy Trustee to avoid the transfer of an interest of the debtor in property of the Estate made within 2 years before the filing of the petition; but only if the debtor received less than reasonably equivalent value in exchange and was either insolvent when the transfer was made or became insolvent as a result.

Was Reasonably Equivalent Value Given?

The Court quickly determined that the Smiths were insolvent when the property was taken by the tax buyer. But had they received “reasonably equivalent value”? The winning bid at a Sheriff’s Sale is presumed to be a “fair and proper price” or “reasonably equivalent value,” so was this situation (a tax sale) like that one (a foreclosure?). The Court said “No.” So when the tax buyers attempted to rely on BFP v. Resolution Trust Corp., 511 U.S. 531, 114 S. Ct. 1757, 128 L. Ed. 2d 556 (1994) and claimed that the Smiths received “reasonably equivalent value,” the 7th Circuit distinguished that case. After all, it pertained to foreclosure sales and had already been distinguished in the context of tax sales. (See Williams v. City of Milwaukee (In re Williams), 473 B.R. 307, 320 (Bankr. E.D. Wis. 2012), aff’d in part, City of Milwaukee v. Gillespie, 487 B.R. 916 (E.D. Wis. 2013)).

Instead, the Court noted that the Illinois tax sale process does not provide for competitive bidding – unlike a Sheriff’s Sale. The only purpose for a tax sale is to deliver funds to the taxing body. There is essentially no relationship between the sale price and property value. State law allows for the tax buyer to potentially receive a windfall: but Bankruptcy law does not.

Using that standard, tax sales (virtually) always fail to satisfy 11 U.S.C. 548 and, as a result, will always constitute fraudulent transfers. Here, based on testimony, the Smiths’ property had an appraised value of nearly 20x the amount paid at the tax sale. Even the 3rd-party purchaser to whom the tax buyer sold the property only paid about half the appraised value. Regardless of the amount paid for the property, however, the key was that its value was greater than the Debtors’ homestead exemption ($15,000).

If The Transfer Was Invalid, Now What?

So if the issuance of a tax deed in this context constituted a “fraudulent transfer” that was invalid under Sec. 548 of the Bankruptcy Code, what was the proper remedy? Sec. 550(a)(1) of the Code allows for recovery from the initial transferee (the tax buyer), but what about the 3rd party purchaser? After all Sec. 550(b)(1) protects bona fide purchasers (“BFPs”) if they give value, in good faith, without any knowledge concerning the voidability of the transaction.

In this case the 7th Circuit found that merely because the 3rd party purchased a tax deed, and merely because the resulting tax deed arose from taxes bought at a sale, the buyer did not lose his BFP status altogether. Instead, his purchase is free and clear up to the value of relevant State-law exemptions ($15,000 per person) in the value of the property.

All’s Well That Ends…?

In this case the Debtors were able to retain up to $15,000 per person (their Illinois Homestead Exemption) in the value of the underlying property. Additionally, the debtors were awarded costs under Bankruptcy Rule 7054. Was it a “win” for the Debtors? It certainly wasn’t the total loss that it could have – and some would say should have – been.

Business Opportunity Doctrine.jpgLet’s face it. Things are tough economically. Most talking heads agree the economy is undergoing a structural change that will affect everybody. Sadly it looks like not everyone is sharing the pain of the Great Recession, however. The rich are getting richer, while the rest of the population keeps on

sliding,

At a time like this who wouldn’t want to get everything they can? What if you were part of a company that wasn’t doing well and decided to make the best of it by jumping on opportunities unearthed by the company?

This is where the Corporate Opportunity or “Business Opportunity” Doctrine comes in. This equitable principal is employed by Illinois Courts and holds that:

a company fiduciary such as a director, officer. or majority shareholder may not develop an opportunity using company resources, or acquire an interest adverse to the company, or acquire property related to current or future company business, until they present that opportunity to the company and allow it to choose or decline the opportunity.

The hallmark of the Doctrine is the use of company assets to benefit the fiduciary. For instance, if a Director or Officer profited personally by acquiring property they have reason to know the company will need or intends to acquire, the Doctrine is violated. In other words, fiduciaries should not step in to grab things that the company could use.

The Doctrine itself is derived from the duty of undivided loyalty that comes with being a fiduciary. So while it goes without saying a fiduciary must act in the best interests of the company; Directors and Officers must do more: they must deal openly and honestly and exercise the utmost good faith. Levy v. Markal Sales Corp., 268 Ill. App. 3d 355, 364, 205 Ill. Dec. 599, 643 N.E.2d 1206 (1994).

While not codified by statute, the recognized elements of the Doctrine are:

a) The opportunity could benefit the company or benefit its future business;
b) The opportunity fits into the business model established by the company;
c) The company has an actual or in expectancy interest in the opportunity; and
d) The fiduciary has not presented the opportunity to the company yet; or
e) The fiduciary presented it, company chose it, but the fiduciary took it.

Using this analysis the Illinois Appellate Court pronounced in Graham v. Mimms, 111 Ill. App. 3d 751, 761, 67 Ill. Dec. 313, 444 N.E.2d 549 (1982) that the core principle of the Doctrine is that a fiduciary may not usurp a business opportunity developed through the use of corporate assets.

If corporate assets are used to develop an opportunity, the fiduciary cannot deny that the resulting benefit belongs to the company – even if the company couldn’t have pursued the opportunity itself or had no expectation interest. In Preferred Meal Systems v. Guse, 557 N.E.2d 506 (Ill. App. 1 Dist. 1990), the Court held that an officer was liable for breach of his fiduciary duty because, while still employed by the company, he failed to inform his employer that other employees were forming a rival company and soliciting customers and fellow employees to join that rival business.

The touchstone case regarding disclosure of corporate opportunities is Dremco v. South Chapel Hill Gardens, in which the Court enunciated the core principle that a fiduciary may not usurp an opportunity developed through the use of the company assets unless he first discloses and tenders the opportunity to the company – even if he believed that the company would not have been able to take advantage of the opportunity anyway. SEE ALSO Graham v. Mimms; Levy v. Markal.

Factors considered in this context include:

a) The manner in which the offer was communicated to the Corporation;
b) The good faith of the disclosing fiduciary;
c) The use of corporate assets to acquire the opportunity;
d) The degree of disclosure made to the Corporation;
e) Action taken by the Corporation with reference to that opportunity; and
f) The need or interest of the Corporation in the opportunity.

Lindenhurst Drugs, Inc. v. Becker, 154 Ill. App. 3d 61, 68, 506 N.E.2d 645, 650, 106 Ill. Dec. 845, 850 (Ill. App. 2 Dist. 1987).

So the basic tenet of the Corporate Opportunity Doctrine is that fiduciaries cannot compete with the company because they owe duties of loyalty, good faith, transparency, and fair dealing. The original conception of the Doctrine restricted fiduciaries from taking any opportunity that the company could have pursued: but more recent decisions have held that disclosure to the company and its decision not to pursue the opportunity relieves the fiduciary of further obligation. Still,  failure to disclose and tender the opportunity results in the fiduciary being prevented from exploiting the opportunity at all.

If you believe that you have experienced a violation of the Corporate Opportunity Doctrine, or that fiduciaries at your company may be violating their obligations, contact us in confidence to find out what you can do about it.

Battle Royale

A Little Light Reading

Are you excited to read about a dispute between competing secured creditors for the priority of their liens in property of the Bankruptcy Estate? Of course not.

Lucky for you issues such as these are generally heard in State court rather than in Federal Bankruptcy courts. Why? Because real property is considered a unique feature of the state and county in which it is located. Local features get local treatment.

But priority disputes can, and do, get played out in Bankruptcy court. For example take the case of In re Jones, 2011 WL 6140686 (Bankr. SD IL 2011) in which Debtors in a Chapter 11 case owned several pieces of property encumbered with mortgages cross-collateralized with other property of the Estate.

1st mortgage on Property #1 was taken by Bank #1, cross-collateralized, and provided that the maximum secured liability under its terms was approximately $214,000.

2nd mortgage on Property #1 was taken by Bank #2.

Both mortgages were timely recorded and Bank #2 did not contest its priority status. But then something happened.

1st mortgage on Property #2 was taken by Bank #1 and cross-collateralized with its mortgage on Property #1.

Since the interest of Bank #2 was not yet recorded when the additional loan from Bank #1 was taken, Bank #2 found itself in a tentative position.

Got all that? Because here is where it gets interesting…

As part of their reorganization, the Debtors sought lave to sell, and the Court agreed to permit the sale of, Property #1.  But by that time the Great Recession was in effect. Property #1 was not worth nearly what it had been when the loan was taken. In fact, it looked as if a sale of the property would not even generate enough to pay off all the lenders.

That’s when the fighting started.

Eventually Property #1 sold for $388,000. At that time Bank #1 was owed $115,000 under the terms of its 1st mortgage, plus more than $300,000 under the loan against Property #2. Bank #2 looked to be owed more than $300,000. But it was Bank #1 that sought all sale proceeds; so when Bank #2 objected, the battle was on!

Come Out Swinging

At the core of In re Jones was the distinction between 2 equally accepted concepts found in Illinois law:

  • Actual Notice; and
  • Record (“Inquiry”) Notice

There was no denying that Bank #1 and Bank #2 had actual notice of  claims on Property #1. Nor could it be denied that Bank #2 did not know of Bank #1′s claim on the 2nd Property until it was too late.

Rather, the question was whether Bank #2 should have known of the cross-collateralization clause and investigated further. In its opinion the Court noted that the cross-collateralization clause was on the first page of the mortgage document so even a cursory review of the title records would have revealed it. The Court also went through an analysis of Illinois case law and the recording statute in reaching its decision.

The opinion in Jones explains record notice: if a mortgage is properly recorded, then actual knowledge is no longer important. The burden of due diligence shifts to subsequent lenders who can, and should, search public records. The Court explains inquiry notice in a similar way. Where a lender has been made aware of facts or circumstances that lead it to believe there could be other liens on a property, that lender has a duty to perform a diligent inquiry.

The Decision and Appeal

Here, the Court found Bank #2 knew about the senior mortgage and cross-collateralization – the language was on the front page of the mortgage document, which was sufficient to put Bank #2 on inquiry notice that its borrower might have additional loans that could trigger the cross-collateralization. Finally, since Property #2 was in the same county as Property #1, the loan could easily have been discovered.

On appeal, the 7th Circuit affirmed the Bankruptcy Court and found for Bank #1.

There are many instances where priority fights occur in bankruptcies. Cross-collateralization is a frequent case, but refinancing can also trigger such clauses. Generally, the lender who refinances will get a formal subrogation agreement to eliminate a potential priority fight, but even if it doesn’t, equitable subordination will allow it to keep its priority intact.  

Questions about your own situation? Contact us for a no-cost consultation.

Thumbnail image for Breaking the (Piggy) Bank.png

In Illinois, as in most jurisdictions, retirement funds like 

  • Pension proceeds
  • 401(k) accounts
  • 403(b) accounts
  • IRA’s and Roth IRA’s 

constitute exempt assets that cannot be taken away in Bankruptcy. 

But what if a Debtor were to inherit an IRA? Would the inheritance still be “exempt?”

This was the issue before the Bankruptcy Court for the Western District of Wisconsin in the case of In re Clark. The Clark Court found that the retirement funds did not retain their exempt character. 

The 7th Circuit Court of Appeals agreed; noting that  11 USC 522(b)(3)(C) and (d)(12) only makes an IRA exempt if it is part of a tax exempt fund  Thus a spouse that inherits or rolls over a retirement fund can take advantage of the exemption because they are bound by the same IRS rules that bound the deceased – that money could not be withdrawn (without penalty) until the inheritor reached age 59 1/2. But if the inheriting spouse wanted to take a distribution before then, the transfer or rollover would be retroactively treated as a taxable event.

Rules applicable to a non-spouse inheritor are even more strict, and those differences played a large role in the decision of the 7th Circuit. As noted by the Court for instance, the Debtor in Clark inherited an IRA from her mother since she was the beneficiary. But an inherited IRA cannot be rolled over into another IRA, and additional funds could be be added to the inheritor’s IRA per 26 USC 408(d)(3)(C)); and since all distributions from the inherited IRA would have to commence within a year according to 26 USC 402(c)(11)(A), the Court refused to treat those funds as exempt because doing so would be the equivalent of form over substance.

Unfortunately, resolving this issue isn’t that easy. The 7th Circuit isn’t the only Federal Appeals Court that has considered this issue: and wouldn’t you know it, there’s a circuit split. 

The 5th and 8th Federal Circuits treat inherited retirement funds as exempt. See In re Nessa, 426 BR 312 (BAP 8th Cir. 2010), In re Chilton, 674 F.3d 486 (5th Cir. 2012). The rationale is that 522(b)(3)(C) of the Bankruptcy Code specifies that retirement funds in the Debtor’s possession are exempt.

The 7th Circuit on the other hand examined the nature of the inherited funds following their distribution. Since such funds could not be held until Debtor’s retirement, to simply treat them as retirement funds would exalt form over substance. Put another way, the 7th Circuit believed inherited IRA funds were an “opportunity for current consumption, not a fund for retirement savings.”

Since there is a Circuit split on this issue, it is important to determine which way the wind blows where you are; and if the Debtor has a choice as to where to file, it would be a wise to keep these factors in mind. An interesting issue not addressed by the Clark opinion is this: 

What if the Debtor in that case had actually within a year of retirement (i.e. 59 1/2 years old)? 

In that instance, an inherited IRA could be held until the Debtor’s retirement. Ultimately that is a case for another day. 

But if Clark is the law of the land then another question comes to mind: 

Is there a way around the harsh results of the 7th Circuit’s Clark decision? 

Well, other than filing in the 5th or 8th Circuits, the answer seems to be that in order to avoid such a problem, estates would have to roll their IRA’s into Trusts having a valid discretionary or spendthrift provision. Under those circumstances the money in the Trust would still be exempt from Bankruptcy execution (albeit not because it was in an IRA but because it was in a spendthrift trust).

As usual, no perfect solution, but it pays to plan. Thinking of your estate or planning for the future? Contact us for a free consultation to find out how to deliver more to your heirs and less to Uncle Sam.

House Underwater

Where Did the Equity Go?

If you’re an Illinois homeowner chances are any equity you had in your home disappeared between 2008 and 2011; and hasn’t been seen since. If you’re lucky that equity may start crawling back to “normal” levels in 2013; but if you haven’t seen it happen you’re not alone. Despite recent reports in the news about recoveries in California, Arizona, and Las Vegas, Illinois property values continue to languish. Of course it’s not all bad news. For instance, as of January the overall price of housing in the Chicago area was up 3.3% from a year ago, with condo prices up a robust 5.8%. Then again, the Illinois foreclosure rate has merely leveled off rathern than falling as it has in other States. And as the “jobless recovery” grinds on, a few basic truths are coming to light:

The value of real estate is still well below pre-crash levels and many people borrowed against those inflated values. These people owe well more than their homes are worth.

Result: These borrowers can afford to keep paying, but they know that doing so is tantamount to throwing good money after bad. They don’t really want to keep making monthly payments on loans valued at 2 or 3 times they market price of their homes.

Moreover, many who who managed not to over-borrow still find themselves in trouble because they have suffered irreversible job loss or were forced to take a lower-paying position. Often these jobs come without benefits like insurance.

Result: This leaves many with no option but to make payments on excessive loans with high interest rates until something unexpected happens and their system crashes.

Are Write-Downs The Solution?

Members of Congress, Administration officials, analysts, and pundits, have all speculated that if mortgagees adjusted homeowner indebtedness down to the value of their homes, the result would be a tide of debt forgiveness that would lift all boats. In other words, they advocate a write down of mortgages by banks to match the value of the underlying real estate. The result would be the one-time elimination of billions in phantom real estate value. Of course banks would be left holding the bag… but the last time that happened the government came to the rescue. Could it work again?

Is DeMarco the Bad Guy?

The consensus on the feasibility of write downs has been growing for some time. Now even quasi-government enterprises like Fannie Mae and Freddie Mac support these kinds of mortgage loans now. So why aren’t write-downs being used more? Illinois Attorney General Lisa Madigan puts the blame on one man: Edward DeMarco, the head of the agency that regulates Fannie and Freddie. DeMarco has stated on the record that he does not believe write-downs would resolve the nation’s foreclosure problems, and that on the contrary, their use would force banks to write down billions in non-performing loans then turn around and seek another bailout at taxpayer expense.

The Controversy Over Write-Downs

In March 2013 Attorney General Madigan and 8 other State Attorneys General called for DeMarco to resign because he had impeded the best chance that most homeowners would ever have to get on track. Whether or not that allegation is true, the controversy raises troubling questions. No place is this more apparent than Illinois, where home values remain low.

According to the Illinois Assistant Attorney General for Consumer Fraud, borrowers will be forced to struggle with their mortgages for years because of DeMarco’s refusal to permit Freddie and Fannie to accept write-downs. Attorney General Madigan echoed those sentiments in her own statement on the subject.

Arguing With The Administration

The position espoused by the AG’s has garnered support from Washington heavyweights like Tim Geithner, former Treasury Secretary, who wrote to DeMarco in July 2012 to say suppressing write-downs was not in the best interests of the nation. Secretary Geithner also noted that strategic principal reductions, as they are known in Washington, are effectively the only way for homeowners to escape crushing subprime mortgages, and that the economic rebound resulting from widespread write-downs would benefit taxpayers far more than it would cost them..

DeMarco Remains Intransigent

In October 2012 Bank of America analysts predicted that DeMarco would resign his position or be forced out. Some analysts even thought that if President Obama were reelected he would fire DeMarco by December of that year. When that didn’t happen, 45 members of the House of Representatives called for DeMarco’s removal. Attorney General Madigan made her demand a few months later. Despite everything however, DeMarco has retained his position and continues to stand fast in his refusal to allow mortgage write-downs as a legitimate means of extinguishing mortgages owned by, or backed by, Freddie Mac or Fannie Mae.

What will happen in 2013? If write-downs are not an option, many will find themselves looking at programs like HAMP and HARP to manage payments while others will find that Chapter 13 is the most expedient way to deal with their situation.

To find out which route might work for you, feel free to call for an appointment or contact us directly using the form on this page. We look forward to speaking with you in confidence.

About the Author
Robin Lewis is a business development professional with a real estate background. She is currently a senior writer at Mortgageloan.com, which covers trends in real estate, financial stability, and economics.