Many people in New York and New Jersey have houses that are “underwater” — meaning the current value of the house is less than the value of the mortgage. In the Supreme Court case of Bank of America, N.A. v. Caulkett, – U.S. – , No. 13-1421 (June 1, 2015), the Court ruled that in a chapter 7 bankruptcy a debtor cannot “strip off” or void a wholly underwater junior or second mortgage.
By way of example, if the property was worth $300,000 and subject to a first mortgage of $305,000 and a second mortgage of $50,000, the debtor seeking stip off argued he should be able to strip off or void the second mortgage as being wholly unsecured. The debtor argued that based on section 506(d) of the Bankruptcy Code (that provides “[t]o the extent that a lien secures a claim against the debtor that is not an allowed secured claim such lien is void….”), the unsecured second mortgage could be stripped off with the result that the claim of the second mortgage lender would be treated as a wholly unsecured claim.
The Court held, however, that based on its prior ruling in the case of Dewsnup v. Timm, 502 U.S. 410 (1992), this interpretation of section 506(d) was not correct. The Supreme Court found that in the prior Dewsnup case it had already “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.”