A fresh calamity?

WHEN the drafters of the new federal bankruptcy law set out to crack down on America’s deadbeats, they probably didn’t have folks like Todd MacCullum in mind.

The Laguna Beach resident hasn’t maxed out his credit cards on lavish purchases. Nor has he made some outrageously irresponsible investment decision. Yet he finds himself caught in the crosshairs of the new regulations, which take effect Oct. 17.

MacCullum’s offense: His home happened to sit in the path of a June 1 landslide.

Now, as he juggles a million-dollar mortgage on a house that will be unlivable for at least a year, paying rent on temporary shelter for his family and working with the city to rebuild the hillside that collapsed onto his residence, MacCullum is left wondering if what he sees as the worst possible outcome of all -- a bankruptcy -- is going to get even worse come October.

“Everybody who has been affected by this is aware of the new law,” MacCullum said. “It is on everybody’s mind.”

Under the new bankruptcy regulations, homeowners will no longer necessarily be able to hand the keys to the bank and move on. Lenders will, in many cases, have the option of coming after them for virtually everything else they’ve got -- income, money in bank accounts and other assets.

Homeowners who have refinanced may have unwittingly put themselves at the greatest risk. State regulations will still offer financial protections for buyers who have their original mortgages.

“There is no doubt this law will make it harder for some people to walk away,” said Gary Painter, a professor at the USC School of Policy, Planning and Development. “It definitely could hurt homeowners.”

Congress changed the law to discourage Americans from piling up debt, filing for bankruptcy and leaving banks holding the bag. But there are no exemptions for a small group that was never the intended target of the legislation: those who have been displaced by extraordinary circumstances.

In extreme cases, homeowners could find themselves fighting to keep the bank from seeking a court order to garnish their wages as a result of something they’d never considered and are not insured against -- such as a landslide, flood or earthquake.

“There are no special exceptions for these people,” said L.A. bankruptcy attorney Howard M. Ehrenberg. “Homeowners who have their finances in order and generally do not think about bankruptcy may find that after this kind of natural disaster they won’t be eligible for relief.”

The reason homeowners who have refinanced are at risk is because state law does not allow banks to go after the assets or income of the holder of an original mortgage following a foreclosure. But borrowers are often asked to waive those protections when they refinance -- and many do so without even knowing it.

“Most people think that if they buy a house in California and lose it, they have no exposure,” said Orange County bankruptcy attorney Marc J. Winthrop. “But there are new wrinkles for people who have refinanced.”

Consider a home that is washed away in a flood and has a $1-million mortgage left on it.

If the borrower has never refinanced, even under the new law he or she could default, and the bank could then seize the property -- but nothing else.

But homeowners who have refinanced and waived the state protections will no longer be able to protect their paychecks, savings or personal property when filing a Chapter 7 bankruptcy. In the past, such a filing could wreak havoc on a person’s credit, but it would keep their assets from being taken.

Chapter 7, which allows discharge of debts and a fresh start, will only be available to families of four living on less than $68,000 per year. Others could find themselves on the hook for the remaining balance of their mortgage.

As Oct. 17 approaches, insurers are urging homeowners to make sure they are adequately covered. But insurance isn’t available for every conceivable disaster -- coverage rarely includes landslides, for example. And only 13% of Californians carry earthquake insurance.

The scenario that played out many times after the 1994 Northridge earthquake will not be an option.

“It’s not like it used to be,” said Pete Moraga, spokesman for the Insurance Information Network of California. “A lot of people who had just purchased homes were able to throw their keys at the mortgage companies and say, ‘You deal with this.’ The new law is such that you can’t automatically walk away anymore.”

But what about relief from the Federal Emergency Management Agency? It won’t help the Laguna Beach slide victims; FEMA said last week that the June landslide wasn’t linked to the winter rains and, as such, rejected the city’s request for emergency aid to repair the hillside.

Moraga warns homeowners not to assume the government will always come around to bail them out. In cases where FEMA does step in, it is usually in the form of low-interest loans that must be repaid, and the loans aren’t always available after an earthquake. In some cases, homes and businesses are destroyed, but the damage is not widespread enough for an area to qualify as a federal disaster area. Such was the case in a recent earthquake off Central California.

Not all protections are lost for homeowners affected by the new law. The law doesn’t go so far as to give lenders carte blanche to take whatever assets they choose. Far from it. Seizing assets will continue to be a complicated, drawn-out legal process.

The procedure must go through a bankruptcy court and can drag on for months. All the while, payments aren’t being made to the lender and the sale of the property is being delayed.

Raymond Eshaghian, president of TMSF Holdings, a residential mortgage lender, predicts banks will continue to try to avoid the bankruptcy process altogether. Getting the borrowers back on their feet and working out a payment plan is always going to be preferable to driving them into poverty.

“Lenders are not in the business of pursuing lawsuits,” Eshaghian said. “There is no money to be made off of that. We are looking for the least amount of trouble.”

Back in Laguna Beach, MacCullum and other landslide victims are trying to hammer out agreements with their lenders that will at least allow them to postpone their mortgage payments several months. But the families have been surprised by how little other help is available to them. “There is a perception out there that we are all wealthy and can afford this disaster,” said MacCullum, who had refinanced and learned only after the landslides that he could lose more than just his house should he declare bankruptcy after Oct. 17.

“Bankruptcy may well become an issue for all of us if things don’t start moving,” he said.

“You will have a bunch of families whose financial future is destroyed.”