Do you owe a debt that you think is secured by things like your furniture, appliances, electronics? How does bankruptcy deals with these?
1. Is it really secured?
The first thing is to make sure that the debt you think is secured by collateral really is. Does the creditor really have a legal right to repossess the personal property that you think is the collateral? The laws about this vary depending on the type of collateral and from state to state. Tell your bankruptcy lawyer about any possible secured debts, and bring any paperwork you might have about them.
2. Is something unexpectedly the collateral on a debt?
A creditor might have a legal interest in some of your personal property that you are not aware of. Did you finance the purchase of something and unknowingly give the creditor a “security interest” in what you bought? This may apply to store credit cards, “90-day-same-as-cash” purchases, and “rent-to-own” purchases disguised as leases. Or did you borrow money and somehow give the creditor a right to something you already own as collateral? Small loan companies and payday lenders are among the creditors who do this.
3. What’s the effect if a debt is NOT secured?
If the creditor does not have a legally valid right to the intended collateral, the debt is an unsecured debt. The personal property is free and clear and the creditor has no right to take it from you. You’d likely be able to “discharge”—write off the debt in bankruptcy—without paying anything. It’s not unusual for a creditor to fail to take the right steps to legally attach the collateral to the debt. Check with your lawyer about whether this may have happened to any of your seemingly secured debts.
4. What’s the effect if a debt IS secured?
If the creditor does have a legally enforceable security interest, then the discharge you receive near the end of either a Chapter 7 or Chapter 13 case would still likely legally write off the debt. But the security interest—the creditor right to the collateral—would survive. The creditor would have a right to repossess the collateral after the bankruptcy was finished. The creditor might even get permission from the bankruptcy court to repossess during your case. The rest of these questions go through your options for dealing with secured debts through bankruptcy.
5. What if a secured debt is not treated as secured?
Sometimes, when the collateral is not worth much, the creditor may not want the collateral back even if you pay nothing. The creditor decides that its costs in repossessing the collateral would be more than what the collateral would generate. Your lawyer will have a feel for which debts this would likely apply to.
6. Can you ever change a secured debt into an unsecured one?
Under certain circumstances bankruptcy allows you to “avoid” a lien or a security interest. This undoes an otherwise valid right of a creditor on certain specific kinds of collateral. Check with your lawyer for details. When applicable, you can keep the collateral without paying anything for it.
7. What if I’m willing to surrender the collateral to the creditor?
If a creditor does have a right to repossess, you can always just surrender the collateral to the creditor. Then under Chapter 7 you discharge the remaining debt. Or under Chapter 13 you discharge the portion you’re not paying.
8. What’s redemption of collateral?
If you want to keep the collateral under Chapter 7 you can redeem it. This requires paying its fair market value in a lump sum. After paying the redemption amount you would owe nothing more, with any remaining amount discharged. If you don’t have any way to gather the money needed to redeem, you may be able to borrow it in a redemption loan. This may make sense because you’d be replacing a larger debt with a smaller one, and keeping the collateral.
9. What’s reaffirmation of a secured debt?
A more common option is to reaffirm the debt under Chapter 7. You enter into a new agreement to remain liable on the debt and pay it off over time. You exclude it from the discharge of your other debts. In return you can keep the collateral. This also gives you a running start on re-establishing your credit. You often have to reaffirm the whole debt, but not always. Especially if the collateral is worth much less than the debt, it makes sense for the creditor get paid a part of its debt, more than if it repossessed the collateral.
10. What are the risks in reaffirmation?
You need to be cautious about reaffirming a debt. If you reaffirm a debt you would remain liable even if you couldn’t make the payments later or changed your mind about keeping the collateral. So sometimes it’s better to just make payments on the debt as long as you want to, without reaffirming. The creditor may not have a contractual right to repossess as long as you stay current. And then 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 the creditor can’t pursue you for any of the remaining debt since it would have been discharged.
11. How do you keep collateral in a Chapter 13 “adjustment of debts” case?
You could pay the debt in full under Chapter 13, in monthly payments through your court-approved plan. This may make sense if the value of the collateral is more than the amount of its debt. If the collateral is something that you reasonably need, you could pay the debt in full before your unsecured creditors would receive anything. But if the collateral is not something you genuinely need, the trustee or a creditor could object. You might have to surrender the collateral so that the money instead goes to other debts.
12. Can you “cram down” a debt secured by something you own other than a vehicle?
You may be able to keep the collateral without paying all of its debt through a Chapter 13 “cramdown.” The debt usually needs to be more than a year old (less than with a vehicle), with the collateral worth less than what you owe. Cramdown 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 otherwise.