Can I refinance my home while in Chapter 13 bankruptcy?
You may refinance your mortgage in Chapter 13
- You must obtain court permission to refinance your mortgage while in Chapter 13.
- Refinance lenders require at least one or two years of reliable payments since filing for bankruptcy, among other criteria.
- Depending on your objectives, you may want to consider loan modification instead of refinancing.
Filing for personal bankruptcy significantly limits your options for taking on new debt or refinancing existing loans. To refinance your home while in Chapter 13 bankruptcy, you must meet the requirements of both your new lender and the bankruptcy court. Consider your financial objectives to select the best refinance option for your financial scenario.
Refinancing in Chapter 7 vs. Chapter 13
The two most common types of personal bankruptcy filings are Chapter 7 and Chapter 13.
A Chapter 7 bankruptcy discharges all of your unsecured debt over the course of three to six months. Assuming your home was not sold to pay off your creditors, refinancing a mortgage in Chapter 7 bankruptcy is probably unrealistic, given borrower risk and the relatively short Chapter 7 process. Before considering a new loan, lenders prefer that Chapter 7 debt is discharged.
A Chapter 13 bankruptcy, on the other hand, consists of a court-approved repayment plan that allows you to keep your property while paying off a portion of your debt over three to five years. At the end of the repayment term, your remaining unsecured debt is discharged. Refinancing a mortgage while in Chapter 13 is a more common scenario, but the borrower must get court approval in order to obtain a new loan.
Why refinance while in bankruptcy?
Before seeking a refinance lender, ask yourself why you want to refinance your mortgage. Do you intend to lower your interest rate, extend your loan term to reduce payments or roll your Chapter 13 debt into your new mortgage? Depending on your objectives, it may be more cost-effective to ask your existing lender for a loan modification rather than pursue a refinance. You must inform your bankruptcy trustee of either scenario.
Refinancing while in bankruptcy entails all of the steps — and associated closing costs — of a conventional refinance, in addition to extra steps with your bankruptcy lawyer and court-appointed trustee. The overall cost may be more expensive than the benefit of a reduced interest rate. Moreover, lenders may be hard pressed to offer a low rate to a borrower with a bankruptcy in their immediate past.
If your intention is to consolidate some or all of your Chapter 13 debt into your mortgage, refinancing may be a prudent way to expedite or get out of bankruptcy while securing better mortgage conditions.
Qualifying with a lender
Lenders are understandably wary of lending to individuals with a recent bankruptcy on their record and look at the following when assessing eligibility:
- Time since Chapter 13 filing. Lenders typically require at least two years in Chapter 13 before considering a borrower for a conventional refinance and one year for an FHA refinance.
- Payment activity. Consistent, on-time payment activity since the bankruptcy is essential. Any payments made more than 30 days late would likely disqualify you.
- Debt-to-income ratio. Lenders want to see that you have sufficient income to manage your debt obligation.
- Credit score. Although anyone with a recent bankruptcy will have a weak credit score, lenders still have minimum requirements. An FHA refinance accepts credit scores as low as 500, though 620 is more typical.
- Home equity. Lenders require a minimum amount of home equity before refinancing. For an FHA refinance, this can be as low as 3.5 percent.
Once you have found a lender to refinance your mortgage, you must obtain court approval to proceed with the new loan.
First, prepare personal financial documents as well as a written loan commitment from the lender including information on the loan’s interest rate and term, monthly payments, fees and other conditions. You need to demonstrate to the court that it is in your financial best interests to refinance your mortgage.
Next, inform both your bankruptcy attorney and court-appointed trustee of your intention to refinance. Your attorney can help you correctly file a motion with the bankruptcy court seeking permission for your loan. The court sends a notice to your creditors and sets a hearing with the judge, who decides whether you may proceed with the refinance.
The entire court approval process can take as many as 30 days, so it is important to begin the process as soon as you have a commitment from a lender. Inform your lender as well that you are obtaining court approval so that they do not forfeit your loan in the meantime. A lender experienced in working with borrowers in bankruptcy may be more flexible.