by Hearthstone Legal Group | Jul 14, 2026 | creditors, mortage
After 9/11, President Bush encouraged Americans to go out and spend money to keep the economy going. One of the results of this, was a housing bubble. This was encouraged not only by the housing and lending industries themselves, but by top levels of government, and by television shows that promoted the undeniable good feeling of homeownership and do it yourself engineering.
One of the features of the housing bubble was the proliferation of second mortgages on relatively new purchases, specifically the home equity line of credit, or other Junior mortgages that allowed homeowners to go out and spend more, leveraging their house to the same or a second lender in the process.
Of course, this came to a screeching halt with the financial crash of 2007, following the failure of Lehman Brothers, the near collapse of General Motors, the implosions of WorldComm and Enron, and the companion collapse in the real estate industry.
No longer could anyone who could fog a mirror get a loan.
Over the years 2007 to 2012, there were some homeowners who were able to refinance or modify their mortgages, which saved them from foreclosure or bankruptcy. However, for many of these homeowners, they didn’t realize that what they had modified or refinanced was the senior mortgage, and not the HELOC, which laid buried in the weeds for years.
But beginning around 2013, holders of the HELOC loans began to spring out of the weeds, and demanded payment or threatened foreclosure. These mortgages, which had laid dormant for years, eventually became known as zombie mortgages, because 1) many homeowners mistakenly believe that modifying the senior mortgage had modified the second, and 2) the holders of the loans had remained silent, and not communicated with the homeowners for years.
The problem of these “springing” or “Zombie” mortgages has continued unabated since the mid-2000 ‘teens. One typical way they come to the attorney’s attention is that the client, blissfully paying his/her/their modified first mortgage, in the first, second, or fifth year after modification, receives a cold, rude letter stating that the property will be placed in default, and on the road to foreclosure, in 60 to 90 days unless the outstanding HELOC is paid off. The client is taken aback, because she/he/they believed that “Everything was modified back in 2010 or 2012 or 2014.” Or, “We thought we had taken care of all the loans.” Or, (even more cynically) “That’s the same lender who has the first mortgage.”
Eventually however, California, has sought to deal with the “zombie” mortgages, expanding protections connection to the Homeowners Bill of Rights.
Specifically, the “Zombie Mortgage” section begins with Civil Code Sec. 2924.13, which entered into effect on July 1, 2025.
The California Credit Union League, in its Summary of California Assembly Bill 130 – Housing, (July 1, 2025), summed up the prohibited conduct under new Civil Code Sec. 2924.13 (b) as follows (the following is presented as part of this commentary on an important public issue):
“Civil Code Sec. 2924.13(b), provides that any one of the following practices alone will be considered an Unlawful practice that could preclude the credit union (or presumably, another lender or servicer) from successfully foreclosing on a second mortgage lien.
“1. The mortgage servicer did not provide the borrower with any written communication regarding the loan secured by the mortgage for at least three years. (Credit unions may not send periodic statements or any other written communication on a second mortgage or home equity lines of credit (HELOC) that has been charged off. This rule also runs afoul of the applicable statute of limitations that allows foreclosure as a remedy well beyond the three year timeframe established here.)
“2. The mortgage servicer failed to provide a transfer of loan servicing notice to the borrower when required to provide that notice by law, including, but not limited to, the federal Real Estate Settlement Procedures Act, as amended (12 U.S.C. Sec. 2601 et seq.), and investor or guarantor requirements.
“3. The mortgage servicer failed to provide a transfer of loan ownership notice to the borrower when required to provide that notice by law, including, but not limited to, the federal Truth in Lending Act, as amended (15 U.S.C. 1601, et seq.), and investor or guarantor requirements.
“4. The mortgage servicer conducted or threatened to conduct a foreclosure sale after providing a form to the borrower indicating that the debt had been written off or discharged, including, but not limited to, an Internal Revenue Service Form 1099. (This raises issues for credit unions when filing 1099-Cs or otherwise communicating in writing about debt that has been discharged, including debt discharged in bankruptcy.)
“5. The mortgage servicer conducted or threatened to conduct a foreclosure sale after the applicable statute of limitations expired.
“6. The mortgage servicer failed to provide a periodic account statement to the borrower when required to provide that statement by law, including, but not limited to, the federal ruth in Lending Act, as amended (15 U.S.C. 1601, et seq.), and investor or guarantor requirements.
(Reg Z allows a lender on a HELOC to stop sending periodic statements to the borrower provided the lender does not continue to charge the borrower for additional interest and/or fees. As such, a credit union that stops sending statements in connection with a second lien HELOC should not be in violation of this subsection if TILA/Reg Z allows the credit union to stop sending statements given the circumstances.)”
Of course, tens of millions of dollars, in cash and real estate, are at stake. Consequently, the lenders and servicers are not taking this medicine lying down (or dead; really?); their lawsuit in federal court in Fresno will be the subject of Part II of “Zombie Loan Apocalypse.”
THIS POST DOES NOT CONSTITUTE LEGAL ADVICE; PLEASE CONSULT AN ATTORNEY
PRESENTED AS COMMENTARY ON AN IMPORTANT PUBLIC ISSUE
by Hearthstone Legal Group | Oct 21, 2021 | bankruptcy, creditors, Lien Stripping, mortage, Real Estate
One of the axioms of bankruptcy is that a bankruptcy will discharge unsecured debt. Unsecured debt is that which is not backed up with some type of collateral.
Typical unsecured debt consists of credit cards, medical bills, promises to pay bills without a promissory note secured by a deed of trust, etc.
A controversial question arose 30 years ago, which became more acute during the Great Recession (aka, the Financial Crash or the Housing Crash). That question has been, with regard to residential real estate, where the mortgage debt exceeds the fair market value of the property, may those mortgages be reduced to correspond to that fair market value? This proposition, of reducing or eliminating such debt in Chapter 7 bankruptcy, is referred to as “lien stripping.”
For example, if a home is worth $600,000, and the senior (first) mortgage is $400,000, and the junior (second) mortgage is also $400,000, then the first is fully secured. That is to say, if the house were sold, the property has enough value to fully pay off the first mortgage. However, with regard to the junior mortgage, the house is undersecured, because if the house were sold, it would yield only $600,000, meaning that $200,000 of the junior mortgage would go unpaid.
As another example, if the fair market value of the same home is $600,000, and the first mortgage is $800,000, then the first is undersecured by $200,000, but the second is unsecured, because a foreclosure sale of the home would yield nothing to the lender of that second mortgage.
So, the owner of such a home, should he or she file for Chapter 7 bankruptcy, might argue that the debt, for purposes of the proceedings, should be reduced (stripped) down to the fair market value of the home. Otherwise, the homeowner would argue, he or she is being penalized with a hopelessly “underwater” property.
Unfortunately, despite the logical appeal of this argument, the US Supreme Court rejected this approach, affirming decisions of the bankruptcy court and the US Court of Appeals. The reasoning appears to be, as long as the homeowner retains title, at least in Chapter 7 cases, the homeowner owes the full amount of all mortgage debts, regardless of property value.
Although this situation became acute in the Great Recession, the SCOTUS laid down the marker for its approach to these cases in the late 1980’s, long before the 2008 Financial Crash. The Dewsnups, a bankrupt debtor couple, sought to have the bankruptcy court reduce (“strip down”) the mortgage debt from the original loan value of $120,000, to their property’s fair market value of $39,000.
The US Supreme Court rejected this argument, based on Sec. 506 of the Bankruptcy Code:
“The practical effect of [the debtor’s] argument is to freeze the creditor’s secured interest at the judicially determined valuation. By this approach, the creditor would lose the benefit of any increase in the value of the property by the time of the foreclosure sale. The increase would accrue to the benefit of the debtor, a result some of the parties describe as a “windfall.”
“We think, however, that the creditor’s lien stays with the real property until the foreclosure. That is what was bargained for by the mortgagor and the mortgagee. The voidness language sensibly applies only to the security aspect of the lien and then only to the real deficiency in the security. Any increase over the judicially determined valuation during bankruptcy rightly accrues to the benefit of the creditor, not to the benefit of the debtor and not to the benefit of other unsecured creditors whose claims have been allowed and who had nothing to do with the mortgagor-mortgagee bargain.”
Dewsnup v. Timm, 502 U.S. 410, 112 S.Ct. 773. Argued Oct. 15, 1991; Decided Jan. 15, 1992 [emphasis added]
Some District Courts and Courts of Appeal were not satisfied with this analysis. Particularly in light of the drop in home values during the Financial Crash, there were many properties whose value was far less than the outstanding mortgages. In fact thousands of people simply walked away from their properties, rather than pay mortgages that were far above the value of the homes they owned.
Naturally, the lending industry was keen to maintain the viability of Dewsnup. But in the Southeast, the US Circuit Court of Appeals for the 11th Circuit (Alabama, Georgia & Florida), pushed back on this disallowance of lien stripping in 2012, in a case in which the bankrupt debtor sought to fully strip an unsecured junior mortgage:
“That GMAC’s junior lien is both “allowed” under 11 U.S.C. § 502 and wholly unsecured pursuant to section 506(a) is undisputed.
“To determine whether such an allowed — but wholly unsecured — claim is voidable, we must then look to section 506(d), which provides that “[t]o the extent that a lien secures a claim against a debtor that is not an allowed secured claim, such lien is void.” See 11 U.S.C. § 506(d).
“Several courts have determined that the United States Supreme Court’s decision in Dewsnup v. Timm, 502 U.S. 410, 112 S.Ct. 773, 116 L.Ed.2d 903 (1992) — which concluded that a Chapter 7 debtor could not “strip down” a partially secured lien under section 506(d) — also precludes a Chapter 7 debtor from “stripping off” a wholly unsecured junior lien such as the lien at issue in this appeal. See, e.g., Ryan v. Homecomings Fin. Network, 253 F.3d 778 (4th Cir.2001); Talbert v. City Mortg. Serv., 344 F.3d 555 (6th Cir.2003); Laskin v. First Nat’l Bank of Keystone, 222 B.R. 872 (9th Cir. BAP 1998). But the present controlling precedent in the Eleventh Circuit remains our decision in Folendore v. United States Small Bus. Admin., 862 F.2d 1537 (11th Cir.1989). In Folendore, we concluded that an allowed claim that was wholly unsecured — just as GMAC’s claim is here — was voidable under the plain language of section 506(d).
“A few bankruptcy court decisions within our circuit — including the decision underlying this appeal — have treated Folendore as abrogated by Dewsnup. See, e.g., In re McNeal, No. A09-78173, 2010 Bankr.LEXIS 1350, at *9-12 (Bankr.N.D.Ga. Apr. 9, 2010); In re Swafford, 160 B.R. 246, 249 (Bankr.N.D.Ga.1993); In re Windham, 136 B.R. 878, 882 n. 6 (Bankr.M.D.Fla.1992). But Folendore — not Dewsnup — controls in this case.
“Under our prior panel precedent rule, a later panel may depart from an earlier panel’s decision only when the intervening Supreme Court decision is `clearly on point.’” Atl. Sounding Co., Inc. v. Townsend, 496 F.3d 1282, 1284 (11th Cir.2007). Because Dewsnup disallowed only a “strip down” of a partially secured mortgage lien and did not address a “strip off” of a wholly unsecured lien, it is not “clearly on point” with the facts in Folendore or with the facts at issue in this appeal.
“Although the Supreme Court’s reasoning in Dewsnup seems to reject the plain language analysis that we used in Folendore, “`[t]here is, of course, an important difference between the holding in a case and the reasoning that supports that holding.’” Atl. Sounding Co., Inc., 496 F.3d at 1284 (citing Crawford-El v. Britton, 523 U.S. 574, 118 S.Ct. 1584, 1590, 140 L.Ed.2d 759 (1998)). “[T]hat the reasoning of an intervening high court decision is at odds with that of our prior decision is no basis for a panel to depart from our prior decision.” Id. “As we have stated, `[o]bedience to a Supreme Court decision is one thing, extrapolating from its implications a holding on an issue that was not before that Court in order to upend settled circuit law is another thing.” Id. In fact, the Supreme Court — noting the ambiguities in the bankruptcy code and the “the difficulty of interpreting the statute in a single opinion that would apply to all possible fact situations” — limited its Dewsnup decision expressly to the precise issue raised by the facts of the case. 112 S.Ct. at 778.”
In re: Lorraine McNEAL, Debtor. Lorraine McNeal, Plaintiff-Appellant v. GMAC Mortgage, LLC, 735 F.3d 1263 (11th Circuit, issued May 11, 2012)
Although the 11th Circuit had valid reasons for its decision, the SCOTUS was not friendly to this trend of pushing back on Dewsnup. Eventually the issue came back before The Supreme Court. In 2015, the Supreme Court restated its Dewsnup ruling, in the context of property value severely affected by the Housing Crash. The Court would overrule the reasoning of the 11th Circuit:
“The Code suggests that [Bank of America’s] claims are not secured. Section 506(a)(1) provides that “[a]n allowed claim of a creditor secured by a lien on property . . . is a secured claim to the extent of the value of such creditor’s interest in . . . such property,” and “an unsecured claim to the extent that the value of such creditor’s interest . . . is less than the amount of such allowed claim.” (Emphasis added.) In other words, if the value of a creditor’s interest in the property is zero—as is the case here—his claim cannot be a “secured claim” within the meaning of §506(a). And given that these identical words are later used in the same section of the same Act—§506(d)—one would think this “presents a classic case for application of the normal rule of statutory construction that identical words used in different parts of the same act are intended to have the same meaning.” Desert Palace, Inc. v. Costa, 539 U. S. 90, 101 (2003) (internal quotation marks omitted). Under that straightforward reading of the statute, the debtors would be able to void the Bank’s claims.
“Unfortunately for the debtors, this Court has already adopted a construction of the term “secured claim” in §506(d) that forecloses this textual analysis. See Dewsnup v. Timm, 502 U. S. 410 (1992). In Dewsnup, the Court confronted a situation in which a Chapter 7 debtor wanted to “ ‘strip down’ ”—or reduce—a partially underwater lien under §506(d) to the value of the collateral. Id., at 412–413. Specifically, she sought, under §506(d), to reduce her debt of approximately $120,000 to the value of the collateral securing her debt at that time ($39,000). Id., at 413. Relying on the statutory definition of “ ‘allowed secured claim’ ” in §506(a), she contended that her creditors’ claim was “secured only to the extent of the judicially determined value of the real property on which the lien [wa]s fixed.” Id., at 414.
“The Court rejected her argument. Rather than apply the statutory definition of “secured claim” in §506(a), the Court reasoned that the term “secured” in §506(d) contained an ambiguity because the self-interested parties before it disagreed over the term’s meaning. Id., at 416, 420. Relying on policy considerations and its understanding of pre-Code practice, the Court concluded that if a claim “has been ‘allowed’ pursuant to §502 of the Code and is secured by a lien with recourse to the underlying collateral, it does not come within the scope of §506(d).” Id., at 415; see id., at 417–420. It therefore held that the debtor could not strip down the creditors’ lien to the value of the property under §506(d) “because [the creditors’] claim [wa]s secured by a lien and ha[d] been fully allowed pursuant to §502.” Id., at 417. In other words, Dewsnup defined the term “secured claim” in §506(d) to mean a claim supported by a security interest in property, regardless of whether the value of that property would be sufficient to cover the claim. Under this definition, §506(d)’s function is reduced to “voiding a lien whenever a claim secured by the lien itself has not been allowed.” Id., at 416.
“Dewsnup’s construction of “secured claim” resolves the question presented here. Dewsnup construed the term “secured claim” in §506(d) to include any claim “secured by a lien and . . . fully allowed pursuant to §502.” Id., at 417. Because the Bank’s claims here are both secured by liens and allowed under §502, they cannot be voided under the definition given to the term “allowed secured claim” by Dewsnup.”
BANK OF AMERICA, N. A. v. CAULKETT & BANK OF AMERICA, N. A. v. TOLEDO-CARDONA, No. 13–1421 (2015)
There are signs that there is continued discontent with the Dewsnup construction. But for the moment, it remains the law. At this time, as housing values have continued to climb in the pandemic, those who own homes are apparently not in danger of losing the full value and being underwater, the way home owners were between 2008 and 2012.
However, we know that markets are volatile, and that business cycles are just that, and eventually, the Supreme Court will have to look again at whether consumers should be forced to pay back loans far in excess of their property’s value, when their disposable income has drastically decreased.
QUOTATIONS FROM COURT OPINIONS ARE PRESENTED AS PART OF COMMENTARY BY THE AUTHOR, AND THUS CONSTITUTE “FAIR USE” UNDER FEDERAL LAW.
THIS POST DOES NOT CONSTITUTE LEGAL ADVICE, AND READING IT DOES NOT CREATE AN ATTORNEY-CLIENT RELATIONSHIP. PLEASE CONSULT YOUR ATTORNEY IF ANY QUESTIONS!!
#bankruptcy #mortgages #lienstripping #dewsnup
