Are You Properly Applying Mortgage Payments Received During a Chapter 13 Bankruptcy?

The Bankruptcy Code and Rules govern the application of mortgage payments in a pending Chapter 13 bankruptcy. The improper application of mortgage payments during a Chapter 13 can result in a creditor receiving insufficient repayment, and in some situations, the penalty of sanctions.

From the moment a person files a Chapter 13 bankruptcy petition (“Petition Date”), a loan supported by a mortgage must be treated as if it is current. Once a debtor’s Chapter 13 plan is confirmed, the debtor’s regular ongoing mortgage payments should be applied from the Petition Date based on the mortgage contract terms and original loan amortization as if no default exists. All pre-bankruptcy arrearages are paid separately under the Chapter 13 plan as part of the creditor’s allowed claim. In essence, the creditor’s claim is split into two claims – the underlying debt and the arrearages (although a creditor is only required to file one Proof of Claim as discussed below). This can often be inconvenient for a creditor as it may have to create a separate account within its own system, but it is imperative that the payments be applied correctly to avoid being liable for improperly applying the payments, resulting in the penalty of sanctions.

Mortgage loan payments should be applied for all Chapter 13 debtors as follows:

1. Payments from the trustee or debtor post-confirmation should be applied to payments due from the Petition Date going forward – not to the arrearages. All postpetition installment payments must be applied and credited to the debtor’s mortgage account as if the account were current and no prepetition default exists (this includes any adequate protection payments received pre-confirmation).
2. Because an arrearage claim is basically a separate claim, the trustee or debtor should note that the payment is for the arrearages when it is sent. When the trustee or debtor notes the payment is for arrearages, then that payment can go toward the arrearages.
3. Late fees cannot accrue or be charged on the debt unless the postpetition payments made by the trustee or the debtor are not made timely.

The bankruptcy Proof of Claim rules were amended in December 2011, and now require additional forms be filed with a Proof of Claim (Form B 10). A creditor must file a form that itemizes the claim by breaking down the amount due by principal, interest, late fees, costs, and arrearages. In addition to the itemization form, the creditor must file a form that defines the arrearages due as of the Petition Date. Both the itemization and arrearage forms are not official forms, but rather the creditor must either provide a statement or prepare a form to file along with the Proof of Claim.

When a creditor’s claim in a Chapter 13 includes a mortgage on the debtor’s principal residence, additional forms must be provided. The first form is called a “Mortgage Proof of Claim Attachment.” This is an official form that can be found here. If the mortgage includes an escrow account for the taxes and/or insurance, an additional form must be filled out and filed with the Proof of Claim. An escrow statement must also be provided.

Notably, if the monthly payment changes on the mortgage loan of the debtor’s principal residence (for example: because of a variable interest rate or escrow change), a Notice of Mortgage Payment Change must be filed 21 days before a payment of the new amount is due (Form B 10S1). Furthermore, for any postpetition fees incurred, such as attorney fees or appraisal fees, a Notice of Postpetition Mortgage Fees, Expense and Charges must be filed within 180 days of the fees and charges being incurred (Form B 10S2). These forms can be found here.

In summary, any time a creditor has a mortgage against the debtor’s property – particularly the debtor’s principal residence – the creditor must be sure to properly apply mortgage payments and to properly account for the indebtedness to avoid the risk of sanctions later. Please contact our office with any questions to ensure proper application and accounting.