Wednesday, March 25, 2015

Why the Supreme Court Might Actually Rule Against the Corporate Interest

King v. Burwell isn't the only Supreme Court case this term that will determine the fate of millions of poor and vulnerable Americans. Bank of America v. Caulkett, to be heard Tuesday, is a technical case about the bankruptcy code, but if the bank succeeds, it would make it more difficult for people to start over when debt burdens become unmanageable. “It will affect many people’s pocketbooks,” said Bob Lawless, bankruptcy law professor at the University of Illinois.

The Caulkett case has a link to the foreclosure crisis. Under current law, primary residence mortgages cannot be modified in bankruptcy, unlike vacation homes, yachts, car leases, and almost every other form of debt, with the notable exception of student loans. That’s because of a 1992 Supreme Court case called Dewsnup, which barred bankruptcy judges from stripping down an underwater first mortgage to its market value. Liberals wanted the bankruptcy “cram-down” option available to prevent a flood of foreclosures, but a bill to change the law failed in the Senate in 2009. As Dick Durbin famously said, the banks "frankly own the place.”

In Caulkett we’ll see if they own the Supreme Court too, and if they can extend that prohibition on modifying primary mortgages in bankruptcy to a prohibition on extinguishing second mortgages in one part of the bankruptcy code. Second mortgages, often home equity loans, use the home as collateral, but the secured claim is junior to the first mortgage. So if the house is worth $200,000, and the first mortgage is owed $250,000—a phenomenon known as an “underwater” home—that second mortgage will receive no money in a foreclosure sale.

Right now, in a Chapter 13 bankruptcy, you can “strip off” a second mortgage on an underwater home, but you weren’t allowed to do it in a Chapter 7 bankruptcy. The 11th Circuit Court of Appeals, using an old case in its circuit as precedent, said that stripping off the second mortgage was allowed under Chapter 7, and did so for Mr. David Caulkett of Melbourne, Florida.

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