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2.18.3 Interest Charge Abuses

Several problems related to interest charges can arise, most often in chapter 13 cases in which the debtor is proposing to cure a mortgage default.354 A common problem arises when servicers itemize or otherwise include in the proof of claim for the cure amount a figure for interest on arrears355 that will accrue postpetition under the plan. In jurisdictions in which the trustee automatically calculates and pays that interest, some debtors end up paying double.

In order to prevent this problem, the Code requires that claims for not yet matured interest be disallowed.356 An objection to claim may be necessary. Although many trustees are conscientious about not double-paying interest, debtor’s counsel cannot rely on the trustee to catch this error.

Another interest charge abuse can involve the filing of a secured proof of claim for the entire amount of precomputed interest (for a loan on which the balance is calculated to include precomputed interest for the entire term of the loan under state law). That practice, which includes in the balance interest not yet earned, can undermine plans that propose to modify the secured claim and pay it on an amortization schedule different from that contained in the contract,357 and it can distort the amount of interest on arrears to which that creditor is entitled.

Even if the credit contract allows precomputed interest, the filing of a claim including such interest should be challenged in bankruptcy as inconsistent with 11 U.S.C. §§ 1325(a)(5) and 502(b)(2). At a minimum, the debtor is entitled to have appropriate interest rebates calculated. In some transactions creditors may argue that these calculations must be made under the Rule of 78, but depending upon the contract and state or federal law, these arguments can often be defeated, as the Rule of 78 may be abrogated by statute or applicable only in the event of prepayment or other specified event.358 If interest on arrears is permitted, the debtor and the trustee will also need to carefully calculate the appropriate interest-on-arrears payment so that only the arrears generate interest.

Footnotes

  • 354 {345} See National Consumer Law Center, Home Foreclosures § 9.4 (2019), updated at www.nclc.org.

  • 355 {346} This interest is required to be paid based on Rake v. Wade, 508 U.S. 464, 113 S. Ct. 2187, 124 L. Ed. 2d 424 (1993). The requirement of payment of interest on arrears is not applicable to secured claims related to mortgages that were consummated after October 22, 1994, unless the parties’ agreement requires that payment. 11 U.S.C. § 1322(e).

  • 356 {347} 11 U.S.C. § 502(b)(2).

  • 357 {348} See National Consumer Law Center, Home Foreclosures § 9.6 (2019), updated at www.nclc.org (discussion of modification of secured claims).

  • 358 {349} In re McMurray, 218 B.R. 867 (Bankr. E.D. Tenn. 1998) (rule of 78 was only authorized, and was not required, when debtor prepaid loan). See National Consumer Law Center, Consumer Credit Regulation § 5.8 (3d ed. 2020), updated at www.nclc.org/library (discussion of the rule and the limited situations in which it continues to be legal).