A customer applied to refinance her mortgage. She told us that she filed for bankruptcy in 2009. Before her bankruptcy, she had a second mortgage on her home. The customer does not remember what happened with her second mortgage following her bankruptcy, but she is not currently making any payments on it, and no second mortgage appears on her credit report. Consequently, we think this debt may have been discharged in the bankruptcy. However, we did obtain a financing statement from the second mortgage lender, which states that there is an outstanding loan in the amount of $28,000 secured by a lien on the property (again, she is not making any payments on this loan, and it does not appear in the credit report). We plan to consider the lien as part of our underwriting, but can we also consider the $28,000 debt?

Mar 20, 2017

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Generally speaking, a lender may consider that a debt was discharged in bankruptcy when underwriting a new loan, provided the debt was discharged within the time period in which it is allowed to appear on a credit report.

A consumer’s bankruptcy information — including certain details about discharged debts — may appear on a credit report for seven to ten years after the bankruptcy adjudication (whether the period is seven or ten years can involve a complicated analysis beyond the scope of this answer). Generally speaking, future creditors may consider this information during the permissible reporting period. Provided that the debt could have been included in the credit report within the permissible reporting period, we believe that your bank could consider the unpaid debt that was discharged in bankruptcy in its underwriting.

However, your question does not include sufficient facts to determine whether the debt antedating your loan decision would be within the permissible credit reporting period (details such as the type of bankruptcy petition that was filed (Chapter 7 or 13), the date of the bankruptcy adjudication, and possibly other relevant details, such as whether, in the event there was a Chapter 13 filing, all of the repayment obligations had been met). Some or all of these facts could be relevant when determining whether the debt antedating your loan decision is within the permissible credit reporting period. It is our understanding from subsequent conversations with you that your customer is unlikely to be able to provide this information.

If you cannot verify these details, we believe it would be prudent to disregard the unpaid debt when underwriting the loan (although you still may consider the debt’s underlying lien). Moreover, since the unpaid debt does not appear on the credit report, it likely either was discharged in the bankruptcy proceeding or was charged off by the lender; in either case, the consumer’s present obligation on the debt is $0. Consequently, even if you were to consider the unpaid debt, you only would be considering that the consumer had a prior unpaid debt — not that the unpaid debt was $28,000.

We also note generally that if a consumer identifies a debt obligation that does not show up on their credit report, Regulation Z permits the lender to accept the consumer’s statement about the existence and amount of the debt obligation without further verification. However, this general rule does not take into account the above discussion regarding whether the unpaid debt antedates the loan decision within the permissible time period for including its consideration in your underwriting.

Finally, we note that application of the bankruptcy laws frequently requires a complex analysis. If you do wish to consider the full $28,000 debt in your underwriting, we strongly recommend that you consult legal counsel specializing in federal bankruptcy law.

For resources related to our guidance, please see:

Fair Credit Reporting Act, 15 USC 1681c(a)(1) (“(a) Except as authorized under subsection (b), no consumer reporting agency may make any consumer report containing any of the following items of information: (1) Cases under . . . the Bankruptcy Act that, from the date of entry of the order for relief or the date of adjudication, as the case may be, antedate the report by more than 10 years.”)

Fair Credit Reporting Act, 15 USC 1681c(a)(4) (“(a) Except as authorized under subsection (b), no consumer reporting agency may make any consumer report containing any of the following items of information: . . . (4) Accounts placed for collection or charged to profit and loss which antedate the report by more than seven years.”)

In re Kuehn, 563 F.3d 289, 291 (7th Cir. 2009) (“The Fair Credit Reporting Act permits bankruptcy filings to appear on consumer reports for 10 years from the date of discharge. See 15 U.S.C. § 1681c. It follows that within 10 years from the date of discharge a prospective creditor may consider discharged debts in determining creditworthiness.”)

Childress v. Experian Info. Sols., Inc., 790 F.3d 745, 746–47 (7th Cir. 2015) (“The Fair Credit Reporting Act requires that reporting agencies purge bankruptcy records ten years after the filing date, but the major credit-reporting agencies purge them after seven years instead.”)

Hupfauer v. Citibank, N.A., 16 C 475, 2016 WL 4506798, at *5 (N.D. Ill. Aug. 19, 2016) (“Section 1681c of the FCRA allows bankruptcy cases to be reported for 10 years and allows accounts that are delinquent or that have been placed for collection to be reported for seven years . . . . Experian points to a report published by the Federal Trade Commission (“FTC”) interpreting these provisions and reaffirming that the reporting of a delinquent account, “even if discharged in bankruptcy, may be reported separately for the applicable seven year period, while the existence of the bankruptcy filing may be reported for ten years.”)

CFPB Small Entity Compliance Guide, Ability-to-Repay and Qualified Mortgage Rule, pg. 25 (“If the consumer lists a debt obligation that does not show up on the credit report, you may accept the consumer’s statement about the existence and amount of the obligation without further verification.”)