What If Your Mortgage Were Invalid?

The foreclosure fiasco has led to speculation that a lot of foreclosures were illegal and invalid. So a bunch of people might have been wrongly ousted from their homes, and maybe even a few who were current on their loans. But forget about invalid foreclosures. A couple of law school professors suggest that millions of mortgages themselves might be invalid due to securitization and the legalities of the mortgage recording system.

Illegal Foreclosures, Invalid Mortgages?

Let’s go down the line with this then and see where homeowners might get off – perhaps literally. If your mortgage is invalid, a couple of things are true. First, it can’t be foreclosed. So you can’t be tossed out of your home via foreclosure. Second, you could, in theory, sell the home and convey clear title. This assumes of course that not only is the mortgage invalid, there’s no dispute over this.

The problem though is the mortgage debt. It’s still there, and you still owe it. And if you sold the home in all certainty you’re not just obligated to continue monthly principal and interest payments, but you must immediately pay the entire principal balance. The standard mortgage debt usually has a due on sale clause. So the sale accelerates your repayment obligation. Ouch.

Here’s where it gets a little bit interesting though. You’ve ditched the mortgage, which is the security interest in the property. The lender is now just an unsecured creditor. Can you ditch the debt too, and keep the home? A handful of states, including Florida and Texas, have unlimited homestead exemptions. So in these states, if you file for bankruptcy your home is off limits to unsecured creditors. But the exemption does not apply to debts incurred to buy the homestead. Of course that’s a mortgage loan. It’s hard to see how invalidating the mortgage changes the mortgage debt into something the exemption could trump. But would that exemption apply to refi or home equity debt? You might want to ask a good bankruptcy attorney.

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