When is it better to reaffirm your secured debt—such as a vehicle loan—in a Chapter 7 case or instead cram it down under Chapter 13?
The last 4 weeks of blog posts have been about options for keeping collateral through Chapter 7 and Chapter 13. Mostly these options have involved reaffirming a secured debt in Chapter 7 or cramming it down in Chapter 13. Here is a handy summary and guide.
Reaffirmation in Chapter 7
You can only reaffirm a debt in a “straight bankruptcy” Chapter 7 case. Here’s what you need to know about reaffirmation:
- By reaffirming a debt you legally exclude it from the discharge (write-off) of your debts that bankruptcy otherwise provides you. This means that you are volunteering to continue owing that particular debt. In return you can keep the collateral (such as a vehicle), and start rebuilding your credit.
- For many debts secured by collateral, if you want to keep the collateral you have to reaffirm the debt. But sometimes you can just continue making payments and not going through a formal reaffirmation. It depends on the creditor. Talk with your bankruptcy lawyer.
- Reaffirmations are risky because you are stuck with the debt if your circumstances change. This can especially be problem if you can’t make the payments, the collateral is repossessed, and you still owe the remaining “deficiency balance.”
- With most vehicle loan reaffirmations you have to accept ALL the terms of the loan. In particular you can’t lower the payments or the total amount you owe. But sometimes, more often with smaller creditors, the payment terms can be changed. Find out from your bankruptcy lawyer about your creditor’s policies.
- If you’re behind on your payments often you have to catch up quickly if you want to keep the collateral. This is especially true with vehicle loans. By quickly we mean bringing the account current within about 2 months of filing the Chapter 7 case.
- The reason there’s often not much flexibility in the timing is because reaffirmation agreements must be signed and filed at the bankruptcy court before the discharge of debts. The discharge happens about 3 months after you file your case.
- If you don’t have a bankruptcy lawyer, or if he or she doesn’t sign the reaffirmation agreement, you must attend a reaffirmation hearing. At this hearing the bankruptcy judge asks you questions about the reaffirmation and decides whether to approve it. Avoid this by being on the same page with your lawyer so both of you sign the reaffirmation agreement.
- You can change your mind about and cancel—or rescind—a reaffirmation agreement after filing it at court. But the rescission must be within a very short time—within 60 days of the reaffirmation’s filing or before the entry of the discharge order, whichever is later.
Cramdown in Chapter 13
You can only cram down a debt in an “adjustment of debts” Chapter 13 case. Here’s what you need to know about cramdown:
- Cramdown can often reduce your monthly payment and the total amount you pay on a secured debt. With a vehicle loan, under the right circumstances you can significantly reduce both the monthly payment and the total paid.
- Cramdown only makes sense if the collateral is worth less than you owe on the debt. The more that the collateral is worth less than the debt amount the more cramdown could help. That’s because you pay the full amount of that portion of the debt equal to the value of the collateral. On a loan with a $15,000 balance secured by a truck worth $9,000, you would definitely pay $9,000 of that loan.
- The remaining unsecured portion you would usually only pay to the extent you could afford to do so. It would be lumped in with the rest of your “general unsecured debts.” In the above example, the remaining $6,000 unsecured portion would be lumped in with your credit cards, medical bills, etc. Often you pay only a small percent of these unsecured debts, and sometimes 0%.
- Because you usually pay only a certain set amount of your “general unsecured debts,” adding the unsecured portion of your secured debt to those debts usually does not increase the dollar amount you pay on this group of debts. So that usually does not increase the total you have to pay during your 3-to-5-year payment plan. In the example, assume you owe $50,000 in other “general unsecured debts.” Adding the $6,000 unsecured portion would make it $56,000. But if your plan had you paying only $3,000 towards this pool, whether the total in that pool was $50,000 or $56,000 would increase the $3,000 you’d pay.
- At the end of your Chapter 13 case the unpaid portion of your “general unsecured debts” are discharged. This means the debts are permanently written off. That includes the unsecured portion of the crammed down vehicle or other secured debt.
- With cramdown, you don’t need to catch up on any unpaid payments.
- You can’t do a cramdown on most vehicle loans until the loan is more than 910 days old. That’s about two and half years old. Before that you could get more time to catch up on any late payments. But you don’t get the advantage of paying only the secured portion of the vehicle debt.
- Similarly you can’t do a cramdown on debts secured by other than vehicles until the debt is more than a year old.
- These two timing thresholds (910 days and 1-year) do not apply if the collateral was not purchased with the debt. So if you already owned the collateral but then offered it to secured a subsequent loan, there are no 910-day and 1-year timing thresholds. You can do a cramdown at any time.
- Similarly, these two timing thresholds don’t apply if the vehicle or other collateral was not acquired for “personal use.” So purchases for business or other possibly uses can be crammed down without waiting for these time periods to pass.
- A creditor has much more leverage over you when its debt is legally secured against something you own that you want to keep. So make sure that a debt you believe is secured actually is. Creditors occasionally mess up on the procedures to create a secured debt, which can be complicated. Your lawyer can determine whether your creditor took the necessary steps to create an enforceable “perfected security interest” on your asset.
- Besides your creditor, you also need to consider the interests of the bankruptcy trustee if you have equity in the collateral. Usually that equity is protected by “exemptions.” Your lawyer will determine if anything you own is covered by the available exemptions. If not both Chapter 7 and 13 have ways of protecting a non-exempt asset.