If your vehicle is worth less than you owe on it, under Chapter 7 you can keep it by “redeeming” it—paying its present value in full.
If you want to keep your vehicle in a Chapter 7 “straight bankruptcy,” your main options are “reaffirmation” and “redemption.”
Reaffirmation is much more common. It involves entering into a formal agreement to repay the loan as if you had not filed bankruptcy. You’re recommitting to pay the loan, “reaffirming” that you want to pay it. We covered reaffirmation a couple blog posts ago.
Redemption is much less common, especially in certain areas of the country. But in the right circumstances it can save you lots of money.
What is Redemption?
In a couple respects redemption is the opposite of reaffirmation.
Instead of-promising to pay the vehicle loan in spite of your bankruptcy, with redemption you are getting rid of that loan.
Instead of agreeing to pay the full amount of the loan, with redemption you pay only the current fair market value of the vehicle.
Instead of paying the debt in regular payments, with redemption you must pay off the vehicle’s value “in full at time of redemption.” That means that you have to come up with that full amount in one lump sum just a month or two after filing your Chapter 7 case. See the one-sentence Section 722 of the Bankruptcy Code about redemption.
Paying Off the Redemption Amount
Even if a vehicle is worth much less than its loan balance, that’s likely still a lot of money for a person to come up with in the middle of bankruptcy. Where does that money come from? Here are three ideas:
1. Consider some creative ways to come up with the necessary cash out of your own assets. You generally should protect any retirement money you may have, and especially not use it to pay for a depreciating asset. But if your vehicle is worth much less than you owe, using this source might possibly be worthwhile. Generally, be creative. Don’t immediately assume you don’t have any way to find the money.
2. Consider asking relatives or friends to lend (or give!) you the money you need for redemption. Explain to them that this will allow you to hang onto your necessary transportation for much less money. The friend or relative can become the lienholder on the vehicle (replacing your original lender). This provides more assurance that you’ll pay the loan.
3. Get a redemption loan from a bank, credit union, or other financial resources. Some are set up to do this specialized kind of financing. Because there will be little or no equity cushion with this type of loan, you will likely pay a high interest rate. So you and your bankruptcy lawyer need to carefully review the terms. Calculate whether the decreased loan balance significantly reduces how much you pay overall in spite of a likely higher interest rate. Under the right circumstances you may reduce your monthly payment or the term of payments, or possibly both.
Depending on the difference between your loan balance and the vehicle’s value, redemption can save you a lot of money. Wiping out the entire balance and paying only what the vehicle is worth may save you thousands of dollars.
Reaffirmation usually involves paying off the vehicle loan on its original terms. That makes more sense when the vehicle is worth as much or more than the loan balance. Redemption, in contrast, makes all the more sense when the vehicle’s value is less than the loan balance.