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Dear Bankruptcy Adviser,
I filed bankruptcy in 2008, and at that time asked to reaffirm my home loan. I have been paying my loan on time for 4 years, not realizing that my home loan had been discharged in the bankruptcy. Now I’m trying to refinance my home, but I was told that I can’t because I did not reaffirm the loan. The new lender said I can’t refinance without a loan and I don’t have a loan anymore because I did not reaffirm the loan. Can I still reaffirm the loan? If not, is there any way I can refinance my house?
— Lynn

Dear Lynn,
This has become an issue for my clients as well. I would love to hear how others are handling this problem.

I will try to keep this answer brief, even though it is complicated. While I don’t doubt that the customer service representative said you can’t refinance the loan because you don’t have a loan, I can assure you the representative is incorrect.

The property still has a lien against it. The lender is just not reporting the monthly payment to the credit bureaus. That is all. While bankruptcy eliminated your liability on the loan, it did not remove the lien.

If you fail to make loan payments, the lender will foreclose on the property. And if you continue to make your payments, you eventually will pay off the loan. Chapter 7 bankruptcy cannot remove a mortgage lien because that would mean you would keep your home and have it free and clear of any mortgage.

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In your case, I believe the lender is just making up an excuse not to work with you. I have told clients to get something in writing from the lender stating that the lender would refinance the loan if the loan had been reaffirmed. No client has ever sent me that letter.

I would first try to find another lender and explain your situation before applying for a loan. There is no reason to waste your time when the next lender’s customer service representative might say the same thing.

If that does not work, I believe you probably could file a motion to reopen your bankruptcy case and file the reaffirmation agreement. I only say it is probable because I don’t know how every bankruptcy court throughout the country is dealing with this issue. The bankruptcy courts here in California, where I file cases, are allowing debtors to do this, even though the bankruptcy case is closed and the time period to file the reaffirmation agreement has passed. Many debtors are filing these, and the court appears not to be taking a hard-line approach to the deadlines.

Make sure to understand that reopening the case and reaffirming the loan will re-establish your personal liability on that mortgage loan.

Since a reaffirmation agreement is a legally enforceable contract filed with the bankruptcy court, the agreement means that you promise to repay all or part of a debt that otherwise had been discharged in your bankruptcy case.

If you live in a state in which the lender can pursue a homeowner post-foreclosure for a deficiency balance, reaffirming the loan could be a terrible decision. This is important because not all states allow the lender to pursue you. In states in which the lender can’t pursue you, reaffirming the loan would not pose great personal risk to you, just to your credit.

But here is the bizarre contradiction of this entire process. If you refinance the loan even without reaffirming the old loan, you are liable on the new loan. So if the new or old lender is concerned about making sure you are liable, you’d think they’d be more than willing to refinance your existing loan. The bankruptcy eliminated your liability; a refinance re-establishes it.

This is where you have the greatest risk associated with your motion to reopen the case. You file the motion to reopen your case and the court grants your request. The lender then gives you the reaffirmation agreement, which re-establishes your liability on a previously discharged debt.

The lender then says you don’t qualify for a refinance. After that, you can’t afford your payments and the lender forecloses on your house. You could then be sued for a deficiency balance, which became possible because you reaffirmed the loan. Now, you may have a bad-faith defense against the lender, but that will be an expensive battle to undertake.

While you should not let this tough decision paralyze you, make sure you are making an informed one. You need to know whether reaffirming the loan in your state re-establishes the liability and how likely your refinance application is to be approved.

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