What Happens to My Car Loan in Bankruptcy?
For people considering bankruptcy, one of the first questions is whether they will lose their car. Obviously, transportation is critical to earning a living and most people cannot go without reliable transportation. Likewise, it is often difficult to obtain another vehicle immediately after filing bankruptcy due to cash restraints and reasonable financing rates are likely not available for a car loan in bankruptcy.
Arizona bankruptcy exemptions protect $6,000 in equity in a vehicle from the claims of creditors. Equity is the fair market value of the motor vehicle minus the debt to the secured creditor. For those with more than $6,000 equity in their vehicle, a Chapter 7 debtor would have to buy the vehicle back from the Chapter 7 trustee to settle up, or a person could file a Chapter 13 bankruptcy to keep all non-exempt property.
Fortunately, most people are able to keep their vehicles in bankruptcy. For most people, their vehicle loan exceeds the fair market value of the car itself so there is no equity. But what happens to the car loan in bankruptcy? Borrowers generally have three options with respect to car loans in a Chapter 7 bankruptcy – reaffirm the debt, redeem the car or surrender it.
Reaffirm My Car Loan in Bankruptcy
Bankruptcy will discharge personal liability on the car loan. But the car loan is still secured by the vehicle and the lender can repossess the vehicle if not paid (after receiving relief from the automatic stay in bankruptcy). If a debtor continues to make monthly payments on the car loan in bankruptcy, the lender will rarely ever seek to repossess the vehicle although there are a few exceptions. The debtor can elect to reaffirm the debt which requires court approval and a judge to sign off on it. Reaffirming personal liability on a vehicle loan can mean that a debtor can be personally liable in the future if they default on the loan. For this reason, most bankruptcy judges require the lender to offer a concession to the debtor before they will approve a reaffirmation agreement. If no concessions are offered, the judge will usually neither deny or approve the reaffirmation agreement but instead vacate the hearing. The judge will explain that the lender rarely ever seeks to repossess the vehicle. But in the event the lender seeks to repossess due to the failure to reaffirm, the debtor can simply request another hearing and the bankruptcy judge will reaffirm the debt at that time.
The bankruptcy code gives Chapter 7 bankruptcy debtors the option of paying off their car in a lump sum payment. Debtors only have to pay the fair market value of the vehicle. There are companies that seek to finance these redemptions but it is not common that the redemption financing is approved. Borrowers may also be able to get funds from other sources, such as friends or family, to pay off the car for its fair market value. If the vehicle debt greatly exceeds the fair market value of the vehicle, redeeming the vehicle is a good option.
Borrowers often find that the vehicle loan is too expensive and not feasible and can return or surrender the vehicle. This gives borrowers the ability to downsize and find a cheaper means of transportation. The debtor will not be liable for any deficiency. Surrendering the vehicle means delivering the car and the keys back to the dealership or finance company.
Auto Loans in Chapter 13
Borrowers can repay car loan debt as part of a Chapter 13 repayment plan. But the total amount paid depends on the age of the car loan. If the car loan is less than 910 days old, the borrower must pay the full value of the car loan. However, the interest rate on the loan can be reduced to a fair value which is generally around five to six percent interest. For car loans older than 910 days, a debtor can cram down the loan balance to the fair market value of the vehicle and can also reduce the interest rate on the secured amount.
For debtors who are behind on their vehicle loan payments, arrears can be repaid through a Chapter 13 plan to avoid a repossession that would likely occur in a Chapter 7.
The laws regarding car loans in bankruptcy can be complex. To fully understand your options with a car loan in bankruptcy, consult a qualified bankruptcy attorney to discuss and evaluate your options.