Zombie Debt is real.
Debt from the past that just haunts you happens. The appearance of zombie debt takes different forms but in the end, it is there gnawing at your mind and chasing you into the future.
There are primarily two different types of zombie debt: credit card judgments and residential second liens aka second mortgages or home equity lines of credit. How did this debt become a zombie?
Zombie Debt – Credit Card Judgments
For credit card debt, the first question you may ask is what about the statute of limitations? All debt has a statute of limitations on collection, but this SOL date is based on the debt type and the state with jurisdiction over the debt. In short, all debt is subject to a different SOL, and only attorneys should calculate the date for you. However, the SOL is only a limit on how long a creditor, or the owner of the debt, must sue you to enforce collection. This means that if a creditor sues you before the SOL expires, then there is a new SOL for the resulting judgment.
For credit card debt, an account from 2006 could easily still be enforceable . . . if there was a judgment. The creditor has a certain number of years to sue you, and if the creditor sues, then the judgment is enforceable for a certain number of years. The creditor can also renew the judgment thus the judgment is still enforceable. Why is this so problematic? One word – INTEREST. Post-judgment interest has real teeth. If a credit card judgment includes an interest award of 18%, no matter what the credit card balance was in 2006, the balance will quadruple.
You may not even know the debt exists. Default Judgments are common, which means you never appeared in court or defended the lawsuit. You may receive “service” via some form of legally valid alternative service at an old address. You may not actually receive the paperwork so you may not know about the lawsuit.
Also, the account only reports on your credit report for 7 years from the date of the last payment so you may believe the debt is not valid. Not even the judgment is on your credit report, so there is no good way of knowing about the debt.
It is common for people to discard collection notices because they look like spam mail and email, and in rare cases, the first time you receive anything is when the creditor garnishes your wages or levies your bank account.
The most common way people find out about Zombie Debt is when you apply for mortgage financing and are denied because of the judgment lien. Why call it zombie debt? Because Zombie Judgments chase you into the future, it is relentless, the balances feel irrational, unfair, and shouldn’t be allowed to exist, but the truth is you have to deal with them.
Dealing with Old judgments
There are many options for dealing with old judgments, but you should consult with an attorney. There may be options for contesting the judgment and only a lawyer can assess your case to determine if this is feasible. Even if you do have a good defense, you still may not win, no matter what – it will be an uphill battle.
You may need to try to settle the debt. Generally, the judgment creditor or their third- party collection company will not settle for pennies on the dollar because these judgments will accrue an insane amount of interest. This is legal and the only way to change it is to change the laws.
The third option is bankruptcy. There are a lot of reasons to file for bankruptcy – zombie debt is a great reason. Bankruptcy is an excellent tool for resolving these unknown liabilities and ending the madness once and for all.
Zombie Debt – Second Mortgages
The origin of the zombie second is legally complex. After the 2008 housing crash, many people lost their homes. Some people were able to retain their homes through loan modification or filing for Chapter 7 bankruptcy.
Loan Modification & Second Mortgages
Many, if not most, loan modifications only resolved the first mortgage, not the second. This means people who had a second mortgage stopped paying on it, a decade or so ago, and yet the lien is still out there, valid and waiting.
Most homeowners who bought at the peak of the housing market in 2006ish, and were able to keep there home through loan modification, owed so much more on the mortgages than what the property was worth after the housing crash. These homeowners are just now starting to recover the lost equity. Some are now able to refinance or sell their home for a profit. However, there is the zombie second to contend with because it is a valid lien against the property. The second lien must be resolved to refinance or must be paid when the property is sold.
What about the statute of limitations?
In Arizona, this is a complicated legal question but to grossly oversimplify there are multiple statutes of limitations that need to be evaluated. The second mortgage is a contract, subject to a six-year SOL, but the lien itself is valid for 10 years after the date of maturity aka final payment is due.
For example, a 15-year HELOC that was taken out in 2006, would mature in 2021 and still be valid until 2031, but only certain portions of the outstanding debt are legally enforceable against the borrower because of the 6-year contract SOL. This is not legal advice; this is merely an over-simplification of two vast and esoteric bodies of law- contract law and real estate law.
Bonus tidbit! Most of these issues have not been litigated yet because the maturity of these second mortgages has not come to fruition . . . yet. So how can you find out what is owed? You need a lawyer to do the analysis and then haggle with the mortgage servicer. There are options for dealing with zombie seconds, more on that later.
Bankruptcy & Second Mortgages
Many people filed bankruptcy to avoid foreclosure after the housing crash. However, back in 2008 – 2013 the laws regarding lien stripping in Chapter 7 bankruptcy were not well understood by anyone, not even the legal community. This means people who filed bankruptcy during that time, but retained their property, believed the second mortgage or home equity line of credit was discharged in bankruptcy – but that is only partially true.
The mortgage is not on the credit report because personal liability for the debt was discharged. However, the lien is still valid and continues to exist. Most of these homeowners will not find out about the second mortgage problem until they try to refinance or sell the property. Zombie Debt chases you into the future.
Do you owe the mortgage debt?
The real issue with dealing with zombie seconds post-bankruptcy is wrapping your mind around liability. There is another body of law to add to the analysis, the US Bankruptcy Code. In the case of a zombie second, to oversimplify, there are two types of liability: personal liability that results from the note to obtain the mortgage (aka you signed a contract) and “in-rem” liability because the property is collateral for the loan. Filing for bankruptcy only resolved personal liability, the house is still collateral for the second mortgage.
The pressing legal question is, what are the options the second mortgage has to enforce collection of the outstanding balance? Here are just a few questions to answer:
- Can the loan servicer foreclose? Does that violate the Bankruptcy Code or does the bankruptcy have to re-opened after all this time?
- Can the loan servicer sue? Does that violate the Bankruptcy Code because the homeowner has no personal liability for the debt?
- Can the loan servicer call and send notices demanding payment without violating the Bankruptcy Code?
- Can the loan servicer ask you to enter into a loan modification which is basically demanding you to reaffirm the debt after you discharged it in bankruptcy?
Zombie Debt like this is a fascinating legal conundrum. There are no easy answers to these questions because litigation is necessary to resolve these issues.
Options for resolving Zombie Seconds
Despite the lingering legal issues, there are a few approaches to resolving a zombie second mortgage.
The fastest and most efficient approach is to have an attorney request a lien release. If it works, then that is the end of the problem. Lien released, liability resolved, proceed with selling or refinancing.
There is also negotiating a settlement, engage a lawyer to do this. This is not just about cutting a check. You also have to resolve liability, release liens, and avoid reaffirmation of the debt. Negotiating a settlement requires a lot of complicated legal analysis and will take time. Also, these are esoteric areas of law. The loan servicer’s representatives are not lawyers. Explaining why a deal needs to work a certain way is an important, time consuming, and frustrating process. However, you save money, resolve the issue and you can move forward with selling or refinancing.
There are many other options, but they depend on your unique situation. Lien Releases and Settlement Negotiation are the most common options to evaluate before moving on to other options.
Zombie Debt is real and it is best to deal with it.