A recent order from the U.S. Bankruptcy Court for the District of South Carolina has shed some light on whether a debtor who has inherited a house subject to a reverse mortgage in foreclosure can pay off that mortgage as part of a Chapter 13 bankruptcy plan. According to the Honorable John E. Waites, Chief Bankruptcy Judge of that court, such a debt is eligible for Chapter 13 under certain conditions.

In this case, Ms. Brown had lived with her mother, along with several other family members, in the family home for 40 years. Her mother took out the reverse mortgage on the home during her lifetime. Upon her mother's death, Ms. Brown inherited the house, along with the remaining balance on the reverse mortgage -- $29,524.44 -- which became payable in full immediately upon her mother's death.

The reverse mortgage was owned by Financial Freedom Senior Funding, which called in the debt and began foreclosure proceedings. In 2009, Ms. Brown filed for Chapter 13 bankruptcy, proposing to pay off the reverse mortgage in full as part of her five-year Chapter 13 repayment plan.

Reverse Mortgage Holder Argues That the Chapter 13 Repayment Plan Would Impermissibly Modify Its Rights; Court Disagrees

In its petition to have Ms. Brown's Chapter 13 repayment plan rejected by the court, Financial Freedom argued that the U.S. Bankruptcy Code §1322(b)(2) required Ms. Brown to surrender her interest in the property in order to protect Financial Freedom's interest. If the court approved Ms. Brown's five-year repayment plan while allowing her to keep the title to the home, the company argued, the court would be overstepping its jurisdictional rights by modifying the mortgage.

According to Judge Waites, "Financial Freedom argues that allowing Debtor to cure over the term of the plan would constitute an impermissible modification of its rights...because the plan proposes to extend the term of repayment of a fully accelerated debt that is secured only by the debtor's principal residence."

Citing a long string of cases from the District of South Carolina and the Fourth Circuit Court of Appeals as precedent, Judge Waites disagreed with Financial Freedom's reading of the law. He pointed to an exception in §1322(b)(2) of the Bankruptcy Code: §1322(c)(2).

"The Fourth Circuit stated...that §1322(c)(2) serves primarily to permit debtors to cure maturing obligations by paying the remaining part of the debt over the life of a Chapter 13 plan and that this repayment flexibility is an important tool for debtors in restructuring the payment of home mortgage debt in chapter 13 plans," his opinion reads.

"In other words," he said, "with respect to mortgages on which the last payment of the original payment schedule is due before the date on which the final payment under the Chapter 13 plan is due, debtors are permitted under §1322(c)(2) to modify a mortgage creditor's rights by proposing in their plan to pay the mortgage creditor in full over the course of the bankruptcy."

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