Minnesota Law Review

Note, Cramming Down the Housing Crisis: Amending 11 U.S.C. § 1322(b) to Protect Homeowners and Create a Sustainable Bankruptcy System

The U.S. bankruptcy system has served as a safety net for millions of Americans for the last 110 years, but it failed to rescue homeowners in the ongoing recession. Amid fiery allegations and accusations, economists and bankruptcy judges debate the controversial modification of loans, a process called cram-down. Cram-down is a feature of bankruptcy law that allows a debtor to pay a creditor the value of the collateral instead of the full value of the loan. Under current law, judges can modify mortgages on vacation or second homes. Oddly, the Bankruptcy Code creates an exception for mortgages secured solely by the debtor’s primary residence. For millions of distressed homeowners who own only one home, this exception forces them to pay their mortgages in full despite sharply declining home values. Proponents of cram-down urge Congress to eliminate this exception, while opponents warn that changing the current law could exacerbate the housing crisis.

Although keeping the current law is undesirable, cramming down all undersecured mortgages is too risky because it can reduce the availability of credit and obstruct homeownership. Accordingly, Congress needs a unique two-part strategy that can adequately relieve distressed Chapter 13 debtors while creating a sustainable bankruptcy system. To accomplish these goals, Congress should immediately pass a temporary cram-down measure. It should afterward implement a permanent system that entrusts bankruptcy judges with discretion to modify loans in a manner consistent with jurisdictional Chapter 13 needs and practices. Based on the established means test of the 2005 Amendments, the temporary measure should provide relief quickly to homeowners who qualify for Chapter 13 protection, particularly victims of predatory lending. The relief measure should sunset, however, to account for long-term, unintended consequences of cram-down. The permanent system will differ in that, while judges can continue to modify loans, they must treat cram-down as a last resort and carefully pursue an objective inquiry. If designed and monitored carefully, cram-down can be a win-win proposition.

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