The Basics: Collateral Other Than Your Home or Vehicle
If you owe a debt secured by your personal property—furniture, appliances, computers—here’s what bankruptcy can do with these debts.
1. The first thing is to make sure that the creditor truly has a valid security interest in—a right to repossess—the personal property that you understand is the collateral. The laws creating a legally enforceable security interest often vary depending on the type of collateral and from state to state. So tell your attorney about any possible secured debts. If you have any pertinent paperwork about them, bring it to him or her.
2. Also be aware that a creditor may have a security interest in some of your personal property that you are not aware of. There are two sets of possibilities. The first are “purchase money” contracts, in which you may have financed the purchase of the personal property and given the creditor a security interest in that property at that time. Examples are department, appliance, and electronic store credit cards; “90-day-same as cash”-type purchases of furniture and such; and “rent-to-own” purchases disguised as leases. “Non-purchase money” contracts are those in which you borrow money and provide personal property you already own as collateral. Small loan finance companies and sometimes payday lenders are creditors to look out for this.
3. If the creditor does not have a legally valid security interest, then it has no right to the personal property. Instead the debt is an unsecured debt. The personal property is free and clear and you should report it in your bankruptcy documents as such. Check with your attorney about whether it is exempt and thus protected from the bankruptcy trustee.
4. If the creditor does have a valid security interest, then the discharge you receive near the end of either a Chapter 7 or Chapter 13 case would legally write off the debt. But the security interest the creditor has in the collateral would survive. The creditor would have a right to repossess the collateral after the bankruptcy was finished, or earlier if it gets permission from the bankruptcy court after filing a motion for relief from stay. You have a number of options for dealing with the security interest during the bankruptcy case.
5. Sometimes, when the collateral is not worth much in resale value, the creditor may not assert its right to the collateral even if you pay nothing to the creditor. It’s making the business judgment that its cost involved in either repossessing the collateral or in arranging for payment for it is more than the collateral would generate. Your attorney will usually have a feel for which creditors would not assert their rights over collateral like this.
6. To a limited extent bankruptcy allows you to “avoid the fixing of a lien”—to undo an otherwise valid nonpurchase-money security interest—on certain specific collateral under certain conditions. Check with your attorney about the details of this. When done successfully, you can keep the collateral without paying anything for it.
7. Assuming there is a valid security interest in collateral that the creditor is asserting, you can always—under either Chapter 7 or 13—just surrender that collateral to the creditor, get credited for whatever sale proceeds come of it, and discharge the remaining debt (or the portion that your Chapter 13 case is not paying).
8. If you want to keep the collateral, under Chapter 7 you can redeem it—pay its fair market value in a lump sum. After paying the redemption amount you would owe nothing more.
9. Otherwise, you could reaffirm the debt under Chapter 7—agree to remain liable on the debt, pay it off over time, in return for a right to keep the collateral. You generally have to reaffirm the entire debt, but sometimes a creditor will accept less than the full balance if the collateral is clearly not worth as much as is owed on it.
10. But you may not want to reaffirm the debt because that leaves you liable even if you can’t make the payments later or you change your mind about keeping the collateral. So sometimes you may be able to just make payments on the debt and stay current, without reaffirming, potentially taking away the creditor’s right to repossess as long as you stay current. When you pay off the debt, the collateral is yours free and clear. If you ever stop paying, the creditor can then repossess (if it bothers to at that point), but can’t chase you for any of the debt since that would have been discharged.
11. You could pay the debt in full under Chapter 13, in monthly payments through your court-approved plan. Assuming the collateral is something that you reasonably need, you would be permitted to pay the debt in full even if your unsecured creditors are receiving much less or even nothing. But if the collateral is not something you need, the trustee could object, potentially requiring you to surrender the collateral so that this money goes to other creditors instead.
12. If the secured debt is more than a year old and the collateral is worth less than what you owe, then you can keep the collateral without paying all of the debt on it by doing a “cramdown” under Chapter 13. This allows you to favorably re-write the loan. You can reduce the secured portion of the debt to the collateral’s fair market value, usually reduce the interest rate, sometimes stretch out the payments over a longer term, and often significantly reduce the monthly payments. You end up owning the collateral free and clear, often for lots less than would have been otherwise.