Here’s What You Need to Know about the Discharge of Your Debts under Chapter 7

The point of filing bankruptcy is to get relief from your debts. So, when and how DO those debts get “discharged”—legally written off—in a regular Chapter 7 bankruptcy?

 

Here’s what you need to know:

1.      You WILL receive a discharge of your debts, as long as you play by the rules. Under Section 727 of the Bankruptcy Code, the bankruptcy court “shall grant the debtor a discharge” except in relatively unusual circumstances:

  • If you’re not an individual!  Corporations and other kinds of business entities do not receive a discharge of debts, only human beings do.
  • If you’ve received a discharge in an earlier case too recently. You can’t get a new discharge of your debts in a Chapter 7 case if:
    • you already received a discharge of debts in an earlier Chapter 7 case filed no more than 8 years before your present case was filed, or
    • you already received a discharge of debts in an earlier Chapter 13 case filed no more than 6 years before your present case was filed (except under limited conditions).
  • If you hide or destroy assets, conceal or destroy records about your financial condition.
  • If in connection with your Chapter 7 case you make a false oath, a false claim, or withhold information or records about your property or financial affairs.

2.      ALL your debts will be discharged, UNLESS a particular debt fits one of the specific exceptions. Section 523 of the Code lists those “exceptions to discharge.” I’m not going to discuss those exceptions in detail here, but the main ones include:

  • most but not all taxes
  • debts incurred through fraud or misrepresentation, including recent cash advances and “luxury” purchases
  • debts which were not listed on the bankruptcy schedules on time
  • money owed because of embezzlement, larceny, or through other kinds of theft or fraud in a fiduciary relationship
  • child and spousal support
  • claims against you for intentional injury to another person or property
  • most but not all student loans
  • claims against you for causing injury or death to someone by driving while intoxicated (also applies to boating and flying)                                                                                                                   

3.      A discharge from the bankruptcy court stops a creditor from ever attempting to collect on the debt. Under Section 524, the discharge order acts as a court injunction against the creditor from taking any action—through a court procedure or on its own–to “collect, recover, or offset any such debt.” If a creditor violates this injunction by trying to pursue a discharged debt, the bankruptcy court may hold the creditor in contempt of court and, depending on the seriousness of its illegal behavior, can require the creditor to pay sanctions.

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A Combination of Chapter 13 Tools for Saving Your Home, Illustrated

It’s often the combination of tools that come with Chapter 13 that allows you to keep your home. Because Chapter 7 has only some of these tools, sometimes it can’t do nearly as much for your home as Chapter 13 can.

 

Please read my last blog. There I laid out an example to illustrate how much a Chapter 13 case can do—on multiple fronts—to enable you to keep your home. That example also shows why sometimes Chapter 7 is not effective for that purpose. Today I explain how Chapter 13 can pull it off.

To summarize, here is a list of this hypothetical person’s debts:

  • first mortgage arrears: $5,000
  • first mortgage balance: $230,000
  • second mortgage arrears: $3,000
  • second mortgage balance: $50,000
  • past-due real estate taxes: $2,000
  • judgment lien from unpaid medical debt: $8,000
  • 2009 income tax with tax lien recorded against the home: $3,000
  • 2010 and 2011 income tax: $5,000 (no tax lien, yet)
  • credit cards: $18,000

A Chapter 7 “straight bankruptcy” would discharge (write-off) all or most of the credit card balances, as well as the medical bill that turned into the judgment, and likely even get rid of that judgment’s lien on your home title. That would save you about $26,000, and take away the threat to your home from the judgment lien.

But that still leaves both mortgage arrears, the past due real estate taxes, and many thousands of dollars of income tax debts, one holding a tax lien on the home. This debtor can afford to pay a total of $1,500 per month to all creditors, but with a $1,000 first mortgage and $300 second mortgage regular payment, that leaves only a measly $200 per month for the mortgage arrearages and all the taxes. Looks quite hopeless.

And yet, here is how Chapter 13 could be the solution:

1. Stripping second mortgage: In this example the home is now worth $225,000, less than the $230,000 balance on the first mortgage. So there is no equity in the home securing that second mortgage. Under these conditions, Chapter 13 can legally turn that second mortgage balance into an unsecured debt. (This cannot be done under Chapter 7). As a result, the debtor no longer pays the $300 monthly mortgage payment, freeing up that amount to pay other more important creditors. So instead of $200, there’s now $500 per month available to pay the remaining creditors.

2. Plan payment of $500 per month: Paying this $500 per month into a 36-month Chapter 13 payment plan results in a total of $18,000 paid ($500 X 36 = $18,000), or a total of $30,000 in a 60-month plan ($500 X 60 = $30,000). The length of a plan depends on a number of factors. But in this case let’s assume that the plan will run only as long as it takes to pay all secured and priority creditors—here, the first mortgage arrears and all the property and income taxes. That’s $5,000 of arrears, $2,000 of property tax, $8,000 for all the income taxes, or a total of $15,000. Interest needs to be paid on the property tax and on the portion of the income taxes with the tax lien, but Chapter 13 often allows those debts to be paid faster to lessen the amount of interest. The plan payments also need to pay the Chapter 13 trustee– usually a percentage of the amount flowing through the plan–plus whatever portion of the debtor’s own attorney’s fees not paid before the filing of the case. To simplify the calculations, let’s estimate that the total amount that the debtor would need to pay into the plan would be $20,000. At $500 per month, that would amount to 40 months of payments. (In some situations, the unsecured creditors would also need to be paid a certain amount of money or a certain percentage of their debt. In that situation, the $500 payments would need to be paid into the plan that much longer.)

3. Continuous protection from the creditors by the “automatic stay’: During the entire length of the Chapter 13 case—this estimated 40 months–the “automatic stay” would be in effect, preventing any of the creditors—the mortgage lenders, the property tax creditor, or the IRS—from taking any action against the debtor or the debtor’s home. So the first mortgage lender would not be able to start or continue a foreclosure because the monthly payments or the property taxes weren’t current. The property tax creditor itself could not conduct a tax foreclosure. And the IRS could not enforce its tax lien nor could it record a new one for the more recent tax debts.

4. Debt-free: At the end of the 40 months or so, the first mortgage and property taxes would be paid current, all of the income taxes would be paid in full, the tax lien would be released, and all the (remaining) unsecured debts would be discharged, leaving the debtor debt-free.  

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The Power of Chapter 13 to Save Your Home, Brought to Life

A mere list of the many ways that Chapter 13 can help save a home can start sounding dry. So here’s a powerful example that shows off some of its extraordinary advantages.

 

Let’s start by setting the scene. Say you lost your job in early 2010 and, except for temporary, part-time work, you did not find new full-time employment until 3 months ago. It pays less than your old job.

  • While you weren’t working full-time, you used up your savings and then borrowed on your credit cards to try to pay the house payments. That seemed to make sense at the time because you kept getting promising job leads, none of which panned out until you finally got hired for your present job. So you owe $18,000 on the credit cards, with minimum payments totaling $550 per month.
  • After your savings and available credit ran out, you still fell $5,000 behind on your first mortgage and $3,000 behind on your second. They are both starting to send papers sounding like they are going to start foreclosing.
  • Because there wasn’t enough money in your property tax escrow account with your first mortgage lender to pay the recently due annual $2,000 property tax bill, the lender is demanding that you pay that right away. It is threatening to foreclose for this separate reason if you don’t.
  • You had some medical problems soon after losing your earlier job, while you had no medical insurance, resulting in a $7,500 medical bill. That went to a collection agency, turned into a lawsuit, and then recently into an $8,000 judgment lien against your home.
  • Money had been tight even back before you’d lost your job because of cutbacks in hours, so you cut your tax withholding way back, so that you owed $2,000 to the IRS for 2009 income taxes. You couldn’t make the agreed monthly installment payments, and have just found out that that a tax lien has been recorded against your home in the amount of $3,000, after adding in all the accrued penalties and interest.
  • While you were working temporary jobs during 2010 and 2011, you were desperate for every dollar you could bring home, and so didn’t have any taxes withheld. As a result you owe the IRS another $2,500 for each year, or a total of another $5,000 that you have not even filed tax returns for yet.  You’re afraid to because you have no money to pay it and are afraid of more tax liens against your home.
  • Your home was worth $300,000 in 2008, but has lost about 25% of its value by now, so is worth $225,000. You owe $230,000 on the first mortgage, with monthly payments of $1,000, and owe $50,000 on the second mortgage, with monthly payments of $300.
  • With your current reliable income, after paying modest but reasonable living expenses, you have $1,500 available monthly for all creditors, including the two mortgages. That’s only $200 per month beyond the two mortgage payments, a drop in the bucket considering this mountain of debt:
    • credit cards: $18,000
    • first mortgage arrears: $5,000
    • second mortgage arrears: $3,000
    • property tax arrears: $2,000
    • judgment lien: $8,000
    • 2009 income tax with tax lien: $3,000
    • 2010 and 2011 income tax: $5,000

That’s a total debt of $44,000, besides the $230,000 first mortgage and $50,000 second mortgage.

  • Last fact: your two school-age kids live with you, they’ve lived in this home their whole lives, and have gone to the good local public schools for years, with their friends who live in the neighborhood. So more than anything you want to maintain this home and the stability it brings to their lives (and yours!). But it sure seems hopeless.

A Chapter 7 “straight bankruptcy” would help by discharging (writing off) tens of thousands of dollars, but NOT likely help nearly enough for you to be able to keep the home. A Chapter 7 case would likely discharge all or most of the credit card balances, as well as the medical bill that turned into the judgment, and likely even get rid of that judgment’s lien on your home title. That would save you about $26,000, and take away one threat to your home. But with only $200 to spare after paying the current first and second mortgage payments, that $200 is just way too small to even begin to satisfy the mortgage lenders or the IRS, much less both.

So after your Chapter 7 case would be completed, the IRS would attempt to collect the 2009 debt through garnishments of your bank account or wages, and sooner or later you’d have to deal with the 2010 and 2011 taxes, possibly resulting in them at some point turning into tax liens. And sooner or later your home would be foreclosed because you would have no way to catch up on the mortgage arrears.

However, if INSTEAD you filed a Chapter 13 case, under these circumstances you very likely you WOULD be able to keep your home, cure the mortgage arrears, and pay off all the taxes. And all this would happen while you and your home was protected from collection efforts by any of your creditors. How could that possibly be? I’ll show you in my very next blog. Sorry to keep you hanging, but today’s blog is way too long already.

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5 More Kinds of Chapter 13 Medicine for Saving Your Home

Chapter 13 is extraordinary in the number of distinct ways it can solve debt problems endangering your home. Here are five more ways beyond the five of the last blog.


6. Chapter 13 “super-discharge”: You can discharge (legally write off) some debts in a Chapter 13 case that you cannot in a Chapter 7 one. A couple of decades ago there were many more kinds of debts that could be discharged under Chapter 13, but Congress has whittled away at the list steadily. Now there are two left worth mentioning here. First, obligations arising out of divorce decrees dealing with the division of property and of debt (but NOT the part dealing with child/spousal support); and second, obligations involving “willful and malicious injury” to a person or property (but NOT related to driving while intoxicated). Both of these “super-discharged” types of debts are legally complicated, and definitely need to be addressed with the help of an experienced attorney. But in the right circumstances Chapter 13 can discharge one of your most serious debts, the same one that Chapter 7 would leave you owing.

7. Nondischargeable debts such as income taxes, back child/spousal support: Special debts which cannot be discharged in bankruptcy leave you at the mercy of those creditors just a few months after you file a Chapter 7 case. Those creditors—such as the IRS, and your ex-spouse and/or the state or local support enforcement authorities—often have the power to impose tax and support liens on your home, and potentially can even seize and sell your home to pay those liens. In contrast, a Chapter 13 protects you while you pay off those special debts in an organized plan, by preventing those liens from being placed on your home. By the time your Chapter 13 case is finished, those special debts are paid in full, never to threaten your home again.

8. “Statutory liens”: utility, ”mechanic’s”/”materialman’s,” and child support liens: If before filing bankruptcy you already have one of these involuntary liens imposed by law against your home, those liens would very likely survive a Chapter 7 bankruptcy. Because the “automatic stay” that prevents the enforcement of liens expires with the completion of a Chapter 7 case, these creditors would be able to threaten your home at that point. Instead, in a Chapter 13 the “automatic stay” continues throughout the three-to-five year case, again protecting your home while you satisfy the lien.

9. Judgment liens: Unlike the other nine items in this list, judgment liens can be avoided, or removed from your home’s title, in the same circumstances under Chapter 7 as in Chapter 13. A judgment lien can be removed if it “impairs” your homestead exemption, that is, if it encumbers the equity in your home that is protected by that exemption. The reason that I list it here is that this judgment lien avoidance can sometimes be put to extra good use in Chapter 13 when used in combination with one or more of these other 9, in a way which could not happen in Chapter 7. Let’s say for example that your home equity position would allow you to remove a judgment lien, but you are so far behind on your mortgage payments that you would lose your home to a foreclosure after finishing a Chapter 7 case. Your ability to remove that judgment lien from your home title would do you no good if you’re going to have your home foreclosed by your mortgage lender a few months later. It’s the Chapter 13’s ability to give you protected time to cure that mortgage arrears that gives practical value to your power to remove the judgment lien.

10. Preserve non-exempt equity: Home property values have declined so much in the last few years that most people thinking about bankruptcy do not have too much equity in their homes. That is, if there is any equity at all, it’s protected by the applicable homestead exemption, and therefore not at risk if you file a Chapter 7 case. But IF you DO have more value in your home than allowed under your homestead exemption, Chapter 13 can often protect it. You don’t run the risk of a Chapter 7 trustee seizing it to sell and pay the proceeds to your creditors. Instead, under Chapter 13 you can often either keep the home by paying those creditors gradually over the course of the up-to-5-year Chapter 13 case, or can sell the home yourself on your own schedule. Either way, Chapter 13 leaves you much more in control of the situation.

Each one of these ten Chapter 13 powers can solve a big problem so that you can keep your home. But they can have an especially dramatic impact when used in combination. In the next blog I’ll give some examples so that you see how these ten actually work, both separately and in combination.

 

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Save Your Home with 5 Powerful Prescriptions Found in Your Chapter 13 Medicine Cabinet

Chapter 13 is often your best option for holding onto your home. That may be simply because it solves one of your major home debt problems, or instead because it solves a bunch of them all in one package.

 

If you’ve heard that Chapter 13 bankruptcy—the three-to-five year plan for “adjustment of debts”—is a good way to save your home, you’re probably thinking of a particular problem that you heard it solves. But the true beauty of Chapter 13 is in how many different kinds of problems it can handle all at the same time. So even if your home is being attacked from multiple directions, this bankruptcy option can often successfully defend against all those attacks.

But don’t get the false impression that if you are in danger of losing your house, Chapter 13 can necessarily save it. Even with all of the different ways it can help, this type of bankruptcy has its limits. Your situation has to fit for it to work.

I have a list of ten distinct ways that Chapter 13 can save your home, five covered in this blog and then five in the next one. This list of ten will give you a good sense of the multiple powers of Chapter 13, but also some sense of their limits.

1. Stretch out mortgage arrearage payments: This is the one you likely hear about most often: reduce what it costs you each month to catch up on your back mortgage payments by using up to five years to do so. This is in contrast to the much shorter time you’d have to catch up—likely a year or less—on the back payments, and the much, much higher monthly payments you’d have to pay to do so, if you had instead filed a Chapter 7 case.

2. Junior mortgage strip: Through Chapter 13—but not Chapter 7—you can “strip” a second or third mortgage lien off your home title. This often saves you hundreds of dollars monthly that you could instead pay to other more crucial obligations—or to your living expenses. And in the long run it can often save you thousands or tens of thousands of dollars. Very importantly, getting rid of some of the debt on your home can either create equity in your home where you did not have any, or at least make it less underwater than it had been.

3. Flexibility in buying more time for your home: There are all kinds of situations in which you need to buy time for your home, but not just the straightforward one for catching up on the mortgage arrearage. If you need to stop your house from being foreclosed to have time to sell it, or if you want to delay selling your home until two years from now when a child graduates from a local school, or when you qualify for retirement or expect some other definite change in your finances, Chapter 13 can often give you more control of the situation. Instead of being under the protection of the bankruptcy court for only the three months or so of a Chapter 7 case, you can potentially be protected for years under Chapter 13. Mind you we would have to formulate a plan to keep the mortgage creditor happy during this time. But the point is that there may well be creative ways to meet your goals without just being at the mercy of your lender, as you would pretty much be after, or even sometimes during, a Chapter 7 case.

4. Property taxes: When you fall behind on mortgage payments, at the same time you can also fall behind on your property taxes. Not paying a property tax payment on time is usually a separate breach of your contract with your mortgage lender, giving it another reason to foreclose on the property. Chapter 13 provides an excellent way to catch up on those taxes, while at the same time preventing the lender from using your missed tax payment as a reason to foreclose in the meantime. And because interest on property taxes is often higher than other secured debts, in your Chapter 13 Plan you may well be able to save money by paying off this tax debt earlier than other obligations.

5. Income tax liens: While I’m talking about taxes, Chapter 13 is also often the best way to satisfy an income tax lien which has attached to the title of your home. IRS and other possible state tax liens are generally not shielded by a homestead exemption, and have to be paid even if the underlying tax would otherwise have been discharged in bankruptcy. After a Chapter 7 case, you are left to fend against the tax authority on your own, facing the potential seizure of your home, with that used as intense leverage against you. In contrast, in Chapter 13 you are protected from such seizure, and as with property taxes can generally earmark payments towards the tax lien before most other creditors so that it gets paid off. It’s a much less worrisome and sensible way of taking care of this kind of scary debt.

These are the first five powerful ways that Chapter 13 can solve debt problems involving your home. Please come back in a couple days for the other five.

 

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Chapter 13 Should Not (Sometimes) Be Used to Save Your House

Although Chapter 13 is often the go-to prescription for hanging onto a home in financial distress, like most strong medicine it comes with side-effects. The simpler Chapter 7 “straight bankruptcy” may be the better solution for both short-term relief and long-term financial health.

 

Chapter 13, the three-to-five year version of consumer bankruptcy, arms you with a remarkable set of tools for dealing with your mortgage lender and with other creditors related to your home. I’ll talk about them in upcoming blogs.

But you should absolutely not enter into a Chapter 13 case without understanding it thoroughly and considering it very practically. The fact is that a large percentage of them do not make it all the way to completion, often wasting the debtors’ money and delaying for years their final relief from creditors. Chapter 13 is awesome medicine, but only for the right patients in the right circumstances.

So in what circumstances should you very seriously consider Chapter 7 instead of Chapter 13?

1. If you are behind on your mortgage payments, but could realistically catch up on that arrearage within about a year—after writing off the rest of your debts in Chapter 7, and being very disciplined during that one year:  Depending on your lender, your payment history, and similar factors, most mortgage lenders will allow you to enter into a “forbearance agreement” after you file a Chapter 7 case. That agreement allows you to stay in your home and to catch up on your mortgage arrearage by paying a certain amount extra per month. Given the cost savings of a Chapter 7 over a 13, and the benefit of getting to your fresh start in a year instead of three to five years, you should very seriously consider with your attorney whether that one year of extra effort would 1) be doable, and 2) be worth the effort and risk.

2. If your chances of keeping your house through a Chapter 13 case are unrealistic: As powerful as Chapter 13 is, it certainly has its limitations. Think long and hard about whether you will be able to consistently meet the terms of your proposed payment plan. Consider your deeper motivations and fears, and you may find better ways of meeting your and your family’s true needs. With the helpf of your attorney try to ground yourself with brutal honesty about what is realistic in the short term and also two or three years out. Although “desperate times call for desperate measures,” a desperate mind doesn’t tend to make wise choices. Chapter 13 should almost never be a “Hail Mary pass,” a last-ditch long-shot. Be very clear about the consequences of that long-shot not panning out, and you may well realize it’s not worth it.  

So, aim towards a Chapter 7 instead of a Chapter 13 case if you really don’t need the extra length of time and other benefits that Chapter 13 provides. And the same thing if you are trying to hang onto a house that you very likely can’t hang on to even with all the help that Chapter 13 provides.

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Stronger Medicine for Vehicle Loan through Chapter 13

If you are behind on your car or truck loan and a Chapter 7 case will not help you enough, file a Chapter 13 case instead so that you can keep that vehicle.


I laid out your options with vehicle loans under Chapter 7 in my last blog:

1. Surrender the vehicle and discharge (write off) any “deficiency balance”–the often large amount that outside of bankruptcy you would still owe after the creditor sells off your vehicle for less than the loan balance. The vehicle’s gone but so is all your debt.

2. Keep the vehicle and maintain the regular payments if you’re current. Or if you are behind, pay the full amount of back payments so that you are current within a month or two of filing the bankruptcy case. In both of these situations, you will almost certainly be required to sign a “reaffirmation agreement” renewing your full liability on the vehicle loan.

But what if you absolutely must keep your vehicle, and simply won’t be able to scrape up the money to catch up within a month or two after filing?  Some creditors may be somewhat more flexible—giving more time or even putting missed payments “at the end of the loan.” But these situations are relatively rare, and may not help you enough. Then it’s time to consider the Chapter 13 option with your attorney.

Keep the Vehicle through a Cram-Down

If you meet one straightforward condition, Chapter 13 gives you some tough medicine indeed, way beyond just buying you more time to pay the missed payments. Through the so-called cram-down, you get to re-write the loan—disregarding any missed payments. The balance on the loan is reduced to—crammed down to–the fair market value of the vehicle (assuming that’s less than the loan balance). Sometimes the interest rate can be reduced and often the loan term can be extended. The combined effect of all this is usually to reduce the monthly payment amount, often significantly. The amount of total savings depends on the details of your case, but most of the time you get the vehicle free and clear at the end of the Chapter 13 case after paying significantly less than you would have otherwise.

So what’s the condition you have to meet to be able to do this cram-down?  The vehicle loan must have been entered into more than 910 days (about two and a half years) before filing your Chapter 13 case. If your vehicle loan is not at least that old, no cram down.

Keep the Vehicle without a Cram-Down

You may not qualify for a cram-down because your loan is not old enough, or a cram-down could simply not do any good because your vehicle is worth more than the loan balance. But Chapter 13 can still be helpful, by not being obligated to catch up quickly on the back payments. And in the right circumstances, your monthly vehicle loan payments can be reduced, giving you more money for living expenses or to pay other important creditors.

Surrender the Vehicle

To be clear, although Chapter 13 gives you some big advantages if you are keeping your vehicle, if you don’t need that vehicle you can surrender it just as you can in a Chapter 7 case.

The difference is that instead of the “deficiency balance” being discharged without the creditor receiving anything as in the vast majority of Chapter 7 cases, under Chapter 13 that “deficiency balance” is added to the rest of the pool of general unsecured creditors.

What’s the effect of that? In most cases it doesn’t cost you anything, nothing more than what you would have paid to complete your Chapter 13 case without that “deficiency balance” included. Why? Because in most Chapter 13 plans, you are required to pay a certain amount based on your budget, or a certain minimum amount to the unsecured creditors based on assets you are protecting. So in those cases having an extra chunk of unsecured debt merely shifts how the creditors divide up among themselves the same amount of your money.

But there are some uncommon situations in which adding that “deficiency balance” to your unsecured debts would increase the amount you would have to pay into your Chapter 13 plan. Discuss whether any of those apply to you before deciding whether surrendering your vehicle in a Chapter 13 is in your best interest.

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Options with Your Vehicle Loan under Chapter 7

Your car or truck loan may be the most important debt you have. Chapter 7 puts you in the driver seat for dealing with this debt.

As I said in the last blog, when you think about secured debts—those tied to collateral like a vehicle—it helps to look at these kinds of debts as two deals in one. You made a commitment to repay some money lent to you, and then agreed to back up that commitment by giving the creditor certain rights to your collateral.

The first deal—to repay the money—can almost always be discharged (legally erased) in bankruptcy. But the second deal—the rights you gave up in the collateral, here a lien on the vehicle title—is not affected by your bankruptcy. So, you can wipe out the debt, but the creditor remains on the title and can get your vehicle. Your options in Chapter 7, and the creditor’s, are tied to these two realities.

Keep or Surrender?

As long as you file your Chapter 7 case before your vehicle gets repossessed, the ball starts in your court about whether to keep or surrender it.

Surrender the Vehicle

In most situations, if you want to surrender the vehicle, then doing so in a Chapter 7 bankruptcy is the place to do it. That’s because in the vast majority of vehicle loans, you would still owe part of the debt after the surrender—the so-called “deficiency balance”—often a shockingly large amount. That’s because you usually owe more than the vehicle is worth, but also because the contract allows the creditor to charge you all of its costs of repossession and resale. Surrendering your vehicle during your Chapter 7 case allows you to discharge the entire debt and not be on the hook for any of those costs.

To be thorough, there is a theoretical possibility that the vehicle loan creditor could challenge your discharge of the “deficiency balance,” based on fraud or misrepresentation when you entered into the loan. These are rare, and especially so with vehicle loans.

Keep It

Whether or not you are current on the loan payments does not matter if you are surrendering the vehicle. But if you want to keep it, whether you are current, and if not how far behind you are, can make all the difference.

Keep the Vehicle When Current

As you can guess, it’s simplest if you are current. Then you would just keep making the payments on time, and would usually sign a “reaffirmation agreement” to exclude the vehicle loan from the discharge of debts at the end of your Chapter 7 case.

Most conventional vehicle loan creditors insist on you signing a reaffirmation agreement, at the full balance of the loan—it’s a take-it-or-leave-it proposition. If you want to keep the car or truck, you need to “reaffirm” the original debt, even if by this time the debt is larger than the value of the vehicle. This can be dangerous because if you fail to keep up the payments later, you could still end up with a repossession and a hefty remaining balance owed—AFTER having passed up on the opportunity to discharge this debt earlier in your bankruptcy case. So be sure to understand this clearly before reaffirming, especially if the balance is already more than the vehicle is worth.

Some creditors—more likely smaller, local lenders—may be willing to allow you to reaffirm for less than the full balance, so that the creditor avoids taking an even bigger loss if you surrender the vehicle. Talk to your attorney whether this is a possibility in your situation.

Keep the Vehicle When Not Current

If you are not current on the vehicle loan at the time your Chapter 7 case is filed, most of the time you will have to get current quickly to be able to keep the vehicle—usually within a month or two. That’s in part because for a “reaffirmation agreement” to be enforceable, it must be filed at the bankruptcy court before the discharge order is entered. Since that happens usually about three months after the case is filed, the creditor needs to decide quickly whether you will be able to catch up on the payments and reaffirm the debt.

Again, certain vehicle creditors may be more flexible, perhaps letting you skip some earlier missed payments, or giving you more time to cure the arrearage. Your attorney will know whether these may apply to your creditor.

Stronger Medicine through Chapter 13

But what if you are behind on your payments more than you can catch up within a month or two after filing? If you have decided that you really need to keep the car or truck, discuss the Chapter 13 option with your attorney. Depending on various factors, you may not only have more time to pay the arrearage, you may also reduce your monthly payments, the interest rate, and the total amount to be paid on the debt. The next blog will get into this Chapter 13 option.

 

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Debts with Collateral–THE Fixation of Many Bankruptcies

Your vehicle loan, home mortgage, account at the appliance or electronics store, and maybe a debt that’s resulted in a judgment lien—these debts with collateral are the ones that grab the most attention during a bankruptcy case. And that includes the attention of the creditors, very interested in “their” collateral.

 

General unsecured debts, which I talked about in the last two blogs, are pleasantly boring in most bankruptcy cases. In a Chapter 7 case, they are generally discharged (legally written off) without any opposition by the creditors, who usually get nothing. And in a Chapter 13 case, general unsecured debts are often just paid whatever money is left over after the secured and priority debts, and trustee and attorney fees, are paid. Nice and boring. That’s because the creditors don’t have much to fight about.

But with secured debts—debts with collateral—both sides have something to fight about—the collateral. The creditors know that the vehicle or house or other collateral is the only thing backing up the debt you owe to them, so they can get quite pushy about protecting that collateral.

The next few blogs will be about how you use either Chapter 7 or Chapter 13 to deal with the most important kinds of secured debts. Today we start with a few basic points that apply to just about all secured debts.

Two Deals in One

It helps to look at any secured debt as two interrelated agreements between you and the creditor. First, the creditor agreed to give you money or credit in return for your promise to repay it on certain terms. Second, you received rights to—and usually title in—the collateral, with you in return agreeing that the creditor can take that collateral if you don’t comply with your first agreement to repay the money.

Generally, bankruptcy will absolve you of that first agreement—your promise to pay—but the creditors’ rights to collateral survive bankruptcy (except in certain rare situations we will highlight later). Your ability to discharge the debt gives you some options, and can sometimes give you a certain amount of leverage. But the creditors’ rights about the collateral give them certain options and leverage, too. You’ll see how this tug-of-war plays out with vehicle and home loans, and few other important secured debts.

Value of Collateral

In that tug-of-war between your power to discharge the debt and a creditor’s rights to the collateral, how much the collateral is worth as compared to the amount of the debt becomes very important. If the collateral is worth a lot more than the amount of the debt, the creditor is said to be well-secured. It has a much better chance of having the debt be paid in full. You’ll really want to pay off the relatively small debt to get the relatively expensive collateral free and clear of that debt. Or if you didn’t make the payments the creditor will get the collateral and sell it for at least as much as the debt.

If the collateral is worth less than the amount of the debt, the creditor is said to be undersecured. It is much less likely to have this debt paid in full. You’ll be less likely to pay a debt only to get collateral worth less than what you’re paying. And if you surrender the collateral the creditor will sell it for less than the debt amount.

Depreciation of Collateral, and Interest

With the value of the collateral being such an important consideration, the loss of value through depreciation is something that creditors care about, a concern which the bankruptcy court respects. Also, in most situations secured creditors are entitled to interest. So, you’ll see that in fights with secured creditors, this issue about the combined amount of monthly depreciation and interest often comes into play.

Insurance

Virtually every agreement with a secured creditor—certainly those involving vehicles and homes—requires that you carry insurance on the collateral. If the collateral is damaged or destroyed, this insurance usually pays the debt on the collateral before it pays you anything. And, if you fail to get the required insurance—or sometimes even if you simply don’t inform the creditor about having the insurance—the creditor itself is entitled to buy “force-placed” insurance to protect only its interest in the collateral, AND charge you the often outrageously high premium.

 

With these points in mind, the next blog will tell you your options with your vehicle loan under Chapter 7.

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What Happens to Your “General Unsecured Debts” in Chapter 13?

In most Chapter 7 “straight bankruptcies,” most debts are legally written off, especially debts that are not secured by any collateral and don’t belong to any of the special “priority” categories of debt. But how about in a Chapter 13 payment plan? What determines whether these creditors get paid, and if so how much?

The beauty of Chapter 13 is that it is both flexible and structured. Flexibility allows Chapter 13 to help people with wildly different circumstances. Structure—the set of rules governing Chapter 13—is important because clear rules balancing the rights of debtors and creditors reduces disputes between them. There is only so much money to go around to the creditors, so less fighting means less precious money spent on attorneys and more available for satisfying the creditors. And then getting on with life.

How much the general unsecured debts get paid in any Chapter 13 case is a reflection of these two themes working together. These are illustrated through the following rules, and their impact on the payout to these creditors.

1. Creditors which are legally the same are treated the same. So, all general unsecured creditors get paid the same percent of their debt through a Chapter 13 plan.

2. For any creditor—including a general unsecured one—to share in the distribution of payments, it has to file a proof of claim on time with the bankruptcy court. A general unsecured creditor which fails to file this simple document stating the amount and nature of the debt will receive nothing through the plan, and the debt will be discharged at the end of the case if it completed successfully.

3. The failure of one or more creditors to file its proof of claim usually, but not always, means that there will be more money available for the other creditors. Two exceptions: a “0% plan,” in which the general unsecured creditors are receiving nothing; or a “100% plan,” in which these creditors are being paid the entire amount of their debts.

4. “0% plans” are those in which all of the money paid by the debtor through the Chapter 13 trustee is earmarked to pay secured creditors, “priority” creditors (such as taxes and child/spousal support), and/or trustee and attorney fees. Some bankruptcy courts frown on “0% plans,” especially in certain situations, such as when there does not seem to be good reason to be in a Chapter 13 case instead of a usually much less expensive Chapter 7.

5. “100% plans” are those in which all of the general unsecured creditors’ debts are paid in full through the trustee. These happen primarily for two reasons. The debtors:

a. are required to make payments based on their budget, which provides enough money over the course of the case to pay off their debts in full; or

b. own more non-exempt assets which they are protecting through their Chapter 13 case than they have debts, which requires them to pay off their debts in full.

6. A major consideration for how much the general unsecured creditors receive is how long the debtors are required to pay into their Chapter 13 case. Generally, if debtors’ pre-filing income is less than the published “median income” for their applicable state and family size, then they pay for 3 years into their plan. If their income is more than that amount, they must pay for 5 years instead. The length of the case obviously affects how much is paid in, and so usually affects how much the general unsecured creditors receive.

7. Payments to general unsecured creditors can be affected by changes which occur during the case—income increases or decreases adjusting the plan payment amount, unexpected tax refunds and employee bonuses paid over to the trustee, and even additional allowed debtors’ attorney fees reducing what is available to the creditors.

8. Once the general unsecured creditors receive whatever the Chapter 13 plan provides for them (and the rest of the plan requirements are met), the remaining balances are legally discharged. The result is that all general unsecured creditors receive the same pro rata share, and that’s the end of the story for them. The exception is the relatively rare creditor which succeeds during the case in convincing the court that its debt should not be discharged at all. This only applies to situations involving a debtor’s fraud or other similar significant wrongdoing, and only if the creditor raises the issue by a very strict deadline just a few months into the case. This creditor still shares in the distribution of payments to all the general unsecured creditors. But at the end of the case, there is no discharge of its remaining debt, which the creditor can then pursue against the debtor.

Clearly, a lot of considerations go into how much the general unsecured creditors will be paid in any Chapter 13 case. There are many interacting rules to be applied to the unique financial and human factors of each case.

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