Second Mortgage vs. Home Equity Line of Credit (HELOC): How Each Is Treated in Bankruptcy

If you’ve borrowed against your home—whether through a second mortgage or a home equity line of credit (HELOC)—you may be feeling added financial pressure as debts pile up. For many California homeowners struggling to stay current, the threat of foreclosure or lawsuits can become very real, especially if the value of the home has dropped or equity has disappeared. In these situations, bankruptcy may offer a path forward. But how second mortgages and HELOCs are treated in bankruptcy can be confusing—and the distinctions matter.

The Los Angeles second mortgage settlement lawyers at Wadhwani & Shanfeld, we help homeowners throughout California make sense of how secured debts affect their financial options. Whether you’re considering Chapter 7 or Chapter 13 bankruptcy, understanding how these two types of loans work—and how the law treats them—can help you protect your home and plan for a stronger future.

Understanding the Basics: Second Mortgages vs. HELOCs

A second mortgage is a type of loan where you borrow a lump sum secured by the equity in your home. You repay it with fixed monthly payments over a set period of time, much like your original mortgage. It’s called a “second” mortgage because it is junior to your first mortgage in priority—if you default, the first mortgage is paid before the second.

A HELOC, or home equity line of credit, is more flexible. Instead of a lump sum, you’re approved for a line of credit—similar to a credit card—secured by your home’s equity. You can draw from it as needed, repay, and borrow again during the “draw period,” usually 5 to 10 years. After that, it converts into a repayment phase with monthly payments.

Despite their differences in structure, both are secured debts backed by your home. That means the lender has the right to foreclose if you default—though the way they behave in a bankruptcy case can vary, particularly if your home is underwater or you’re filing under Chapter 13.

How Bankruptcy Treats Secured Debts

When you file for bankruptcy, your debts are categorized as either secured or unsecured. Secured debts, like mortgages, are tied to a specific asset—your home. If you want to keep that asset, you must generally stay current on the secured debt or catch up through a payment plan.

But there’s an important exception under Chapter 13 bankruptcy that can dramatically change how second mortgages and HELOCs are handled.

Chapter 13 Bankruptcy: Stripping a Junior Lien

If your home is worth less than the balance owed on your first mortgage, the second mortgage or HELOC may be considered completely unsecured under Chapter 13. That’s because there is no actual equity supporting the junior loan. When this happens, you may be able to strip the lien, treating it like credit card debt or medical bills.

Here’s how it works:

• You file for Chapter 13 bankruptcy and submit a repayment plan.
• You petition the court to classify the second mortgage or HELOC as unsecured because the home’s value does not cover it.
• If the court agrees, the junior lien is stripped and included with your other unsecured debts in the repayment plan.
• At the end of the plan (usually three to five years), any remaining balance on the stripped loan is discharged, and the lien is removed from your property.

This is a powerful tool that can save you tens or even hundreds of thousands of dollars—but it’s only available in Chapter 13, not Chapter 7.

Chapter 7 Bankruptcy: Secured Debts Remain

In Chapter 7 bankruptcy, you can eliminate personal liability on a second mortgage or HELOC, but you cannot strip the lien from the property. That means the lender still has a secured interest in your home. If you stop paying, the lender can eventually foreclose, even if the bankruptcy discharged your personal obligation to repay.

This is a key difference between the two chapters:

• Chapter 7 may offer temporary relief, but the lien stays attached to your home.
• Chapter 13 may allow you to remove the lien entirely—if your home’s value supports it.

If you’re behind on payments and trying to keep your home, Chapter 13 often provides the more complete and long-term solution, especially if you have significant second mortgage or HELOC debt.

Protections and Pitfalls for California Homeowners

Thanks to California’s strong homestead exemption laws, homeowners now enjoy substantial protection for their home equity in bankruptcy—up to $678,391, depending on the county. That means many people can file for bankruptcy without fear of losing their home, even if it’s worth significantly more than they owe.

But it’s critical to understand that exemptions don’t eliminate mortgages. Even if your home is protected from liquidation, you still need to address your secured debts. That’s why bankruptcy planning—especially when dealing with multiple liens—is so important.

A second mortgage and a HELOC may be similar in terms of bankruptcy treatment, but they can behave differently depending on their terms. For example:

• A HELOC might remain open and continue to accrue interest during your bankruptcy unless it’s explicitly addressed.
• A second mortgage may be fixed and easier to value, making it more straightforward to strip in Chapter 13.

Knowing which type of loan you have, and what your home is worth, is essential to making informed decisions.

Contact Wadhwani & Shanfeld

If you’re struggling with a second mortgage or a HELOC and wondering how bankruptcy might help, Wadhwani & Shanfeld can guide you through your options. Our experienced bankruptcy attorneys have helped thousands of Californians stop foreclosure, strip liens, and restructure debt through Chapter 13 and Chapter 7 filings. Don’t let confusing loan terms or fear of losing your home stop you from taking action. Contact us today for a free consultation and find out how to protect your home and take control of your financial future.

Sources:

bankrate.com/home-equity/heloc-and-bankruptcy

abi.org/feed-item/the-worrisome-truth-about-silent-second-mortgages