Former Tennessee homeowners could see help after bankruptcy court case

Many Tennessee homeowners have experienced the heartache of losing their residences to foreclosure after the housing bubble burst, starting a wave of foreclosures across the U.S. Sometimes the pain is not over after the bank repossesses the home and sells it at auction. Many banks try to go after borrowers to recoup the difference between what they sold the house for at auction and what the borrower still owed on the mortgage by obtaining a deficiency judgment. When banks get deficiency judgments, not only do the borrowers no longer have their homes, they still owe the lenders money. A 2013 ruling from a federal bankruptcy court in Tennessee may provide protection for those who lost their homes to foreclosure from deficiency judgments.

Deficiency judgment after foreclosure

The case before the court stemmed from a Tennessee couple's bankruptcy filing. They took out a mortgage for a home in 2008. In 2010, the couple defaulted on the loan, and the bank repossessed the house. After the sale of the house, the bank issued IRS Form 1099-C to the couple indicating that the difference between the house's sale price at the foreclosure auction and what they owed on the home was $5,074, which was cancelled debt. The couple included that amount on their taxes as cancelled debt income.

In 2011 the bank filed a deficiency judgment against the couple for the original deficiency plus interests and fees for a total of $12,075. The couple did not respond to the suit and the bank obtained a default judgment. The couple filed for bankruptcy in 2012, and the bank dropped the judgment in favor of filing a Proof of Claim in the bankruptcy process for $18,824. The sum represented the original amount, continuing interest that was accruing, costs and fees.

The couple objected to the Claim, arguing that the original deficiency was cancelled, since they received the Form 1099-C.

Court sides with former homeowners

The bankruptcy court agreed with the couple. The court reasoned that even though the 1099-C form does not cancel debt, it reflects the banks intent to cancel the debt. In many cases, the terms "cancellation of debt" and "discharge of indebtedness" are used interchangeably, as well.

The court noted that the couple had included the original deficiency as income on their taxes, and that it would be unfair to make them pay taxes on it as income as well as requiring them to repay it to the lender.

The court's holding is the minority position. Other courts have held that a Form 1099-C does not cancel debts. However, Tennessee residents may be able to use this case to defend themselves against deficiency judgments after foreclosure.

Speak with an attorney

Many people who go through foreclosure are in extreme financial distress and have many other debts to try to manage. People facing or going through foreclosure may want to consider bankruptcy as a way to get a fresh financial start. If you are overwhelmed with debt, speak with a board certified bankruptcy attorney who can help you with debt relief.