Bankruptcy

Scandinavian Home Mortgage Lien Stripping

By Jason Kilborn

It seems increasingly likely that we'll see a reform of U.S. law to allow home mortgage loans to be stripped down (or crammed down, if you prefer) to the value of the home. I was surprised to learn recently that this issue had been debated in Scandinavia, and Nordic experience confirms that the factual predicate for such relief is present in the U.S. today.

In European consumer insolvency systems, secured debt is generally set entirely apart from the relief system. Debtors have two choices--pay secured debts as contracted (if, indeed, the debtor is allowed to make such payments within the confines of the plan for paying unsecured debts) or lose the collateral. When Danish reformers set out to amend their first-on-the-continent consumer insolvency system (adopted in 1984), the reform commission made what appeared to me to be a comparatively radical proposal--to allow the debtor to strip down home mortgage debt to the value of the home (as determined by court-appointed valuation experts). While Scandinavian reform commission proposals usually fly through government and then legislative approval, the mortgage stripping provision was removed immediately by the Justice Ministry from the bill that would become the Danish consumer bankruptcy reform of 2005 (yes, they had a 2005 reform, too!). Representatives of judges and lawyers supported the proposal, but finance and mortgage credit representatives strongly opposed it (surprise!), objecting that this measure failed to take sufficient account of lenders' interests and concentrated on them the risk of price deflation based on macro-economic forces beyond anyone's control. The Justice Ministry hesitated to embrace this proposal without a closer empirical examination of the problem (!), so the provision was removed in light of the fundamental position of secured creditors and the proper balance between debtors and creditors that lies at the base of the consumer insolvency system.

Oh, well, I thought--not surprising given that Nordic housing prices had not suffered the free-fall that we had expeienced in the U.S. Then I learned that Norway apparently has had a mortgage lien stripping provision in its consumer bankruptcy law for over a decade. This fascinating discussion among several Nordic lawyers notes the exceptional Norwegian provision and explains that it was adopted on the grounds of a dramatic fall in home prices in the early 1990s along with the fact that about 90% of Norwegian households own their own home. The Danish commentator observes that the corresponding figures in Denmark, especially for those who find themselves in the consumer insolvency system, are much smaller.

It seems to me that the U.S. is much more like Norway in this regard--we've suffered a dramatic decline in house prices, and a significant portion of households own their homes (I seem to recall that the Consumer Bankruptcy Project revealed that about 50% of consumer debtors in the U.S. bankruptcy system own their homes). The time appears ripe for the U.S. to reject the Danish bankers' position and join Norway in forcing a rational write-down of mortgage debt in bankruptcy. Even if it's not a U.S. innovation, it will be a welcome development.

Full post as published by Credit Slips on February 17, 2009 (boomark / email).