Mortgage Claims In Bankruptcy – You May Be Doing It Wrong

DonaldCram

Author:
Donald H. Cram

Preparing and filing a proof of claim in a bankruptcy case used to be a fairly simple process. Today, especially for mortgage servicers, proofs of claims are one of the most difficult (and tedious) aspects of servicing a mortgage loan where the borrower has filed for Chapter 13 bankruptcy relief. Since the addition of Bankruptcy Rule 3002.1 in 2011, nearly every aspect of the mortgage loan balance must be broken down in the proof of claim. Further, the rule requires the loan servicer to periodically update the claim in the event of a post-petition payment change or for the addition of a recoverable expense. Upon completion of a Chapter 13 plan, the servicer has the burden to prove that the borrower is not current at the end of the bankruptcy case (even where the debtor is not paying post-petition mortgage payments through the plan).

In large part, it appears that these new rules have been addressed by the servicing industry and, after some initial hiccups, there is substantial compliance. However, common issues related to proofs of claims are beginning to surface that have nothing to do with the financial information. Rather, they involve the naming of the “creditor” in the proof of claim and the failure of a new servicer to update a claim upon transfer of servicing rights.

Who Is The Creditor? One of the initial entries on a proof of claim form is: “Name of Creditor (the person or other entity to whom the debtor owes money or property)”. Prior to the enactment of Bankruptcy Rule 3002.1, the practice of many mortgage servicers was to list itself, rather than the owner of the loan, as the creditor. However, an increasing number of bankruptcy courts, especially in the Eastern District of California, have scrutinized this practice, finding that the servicer is misrepresenting its status as the owner of the loan – that such a practice is deceptive and creates confusion for the debtor as well as the court.

This position is, at best, not clear cut. The Bankruptcy Code generally defines the term “creditor” as an entity that has a claim against the debtor that arose at the time of, or before, the bankruptcy case was filed. 11 U.S.C. § 101(10)(A). The term “claim” is defined broadly to include any right to payment. 11 U.S.C. § 101(5)(A). “Entity” includes a person, estate, trust, governmental unit, and the United States trustee. 11 U.S.C. § 101(15). The term “person” includes individuals, partnerships, and corporations. 11 U.S.C. § 101(41). As a duly appointed agent through a power of attorney, a mortgage servicer has such a right to payment. Nonetheless, many bankruptcy judges disagree and will refuse to accept, upon objection, the validity of a claim filed in the name of the servicer. Some bankruptcy judges have gone so far as to issue orders prohibiting mortgage servicers from filing claims in their own name.

Due to this scrutiny, it is recommended that, when possible, all proofs of claims be filed in the name of the owner of the loan as the creditor. Under the “name and address where notices should be sent” section of the claim form, the servicer should place its own name and address. In those instances where the owner of the loan will not permit a servicer to file a claim listing the owner as the creditor, the suggestion would be to list the name of the mortgage servicer “as servicer of the loan” in order to deflect any finding of misrepresentation or deception. In these instances it is further recommended that the servicer attach a copy of the power of attorney from the owner of the loan to the proof of claim form.

Transfer Of Servicing Rights. A related issue arises upon servicing transfers. Often a new servicer fails to respond to an objection to a claim or to the treatment of its claim in a proposed plan because it did not timely receive the pleading (it having been sent to the prior servicer), resulting in the disallowance of the claim or improper treatment of the claim by default. Bankruptcy Rule 2002 provides that most notices simply need be served at the address listed on the creditor’s proof of claim. Bankruptcy Rule 7004 requires that objections to the claim, motions to value, and other contested matters need to be served directly on the claimholder or their attorney of record if they are FDIC insured. The burden is on the new servicer to keep the court informed of its current address. Bankruptcy Rule 2002(g)(5). This means that if the claim has not been updated after a servicing transfer, sending pleadings to the former servicer will satisfy the due process requirements for service upon the creditor despite the fact that the new servicer never received actual notice.

A new servicer should take prompt action to ensure that the court has the current address for service upon the creditor. A review of the existing proof of claim is required. Bankruptcy Rule 3001(e) provides that when a claim is transferred, the transferee needs to file a notice of that transfer. A claim transfer should only be filed when the claim lists the prior servicer as creditor. In this event, a notice of transfer of claim should be filed to transfer the existing claim to the new servicer (or if possible, the owner of the loan) indicating the proper address for notice. However, in instances where the proof of claim lists the owner of the loan as the creditor, no transfer of claim is required (because the creditor/claimant remains the same). Instead, the new servicer should amend the proof of claim to simply reflect the new name and address where notices should be sent. In doing so, the new servicer will ensure that it timely receives notices in the future (and if it does not, it has grounds to challenge any default based upon lack of due process).

For more information about proofs of claims & other bankruptcy issues, contact Donald H. Cram at dhc@severson.com.

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