January 18, 2018

What happens to my secured debts (such as car loan or house loan) when I file bankruptcy?

Often, when clients come into our office to have a consultation regarding filing bankruptcy there are many questions pertaining to the discharge-ability of certain debts.  Unsecured debts are easy.  They just get discharged in a Chapter 7.  But secured debts are more complicated.  With secured debt, the creditor has the right to take back the collateral (ex. the car in a car loan is collateral, and the house in a house loan is collateral).

The spiel we give our clients to best illustrate the relationship between the debtor, the creditor, and the collateral goes something like this. “When you buy a car, the bank gives you a loan to buy the car and attaches a lien (aka security interest) to the car. The lien allows the bank to recoup some of their money should the loan go into default, and you declare bankruptcy. So, the bank essentially has a hook into you personally to repay the loan, and the bank has a hook into the car also.  When you get a Chapter 7 bankruptcy discharge, the hook into you is snipped and gone, but the bank’s hook into the collateral remains.  This means you are no longer personally liable on the debt, BUT if you want to keep the car or the house, you will have to keep making the payments.

Reaffirmation Agreements (More Info Here) – You will have the option to sign a reaffirmation agreement with your bank and put yourself back on the hook for the debt that was discharged thereby keeping the relationship between the debtor, the creditor, and the collateral. But, why would you want to make yourself liable for a debt that was just discharged?

You wouldn’t, in most instances, need to sign a reaffirmation agreement. If you stopped payment on the debt, the creditor would merely repossess the vehicle, which can be a good thing for the debtor in certain situations (i.e. the debtor can no longer afford the vehicle.)  In our experience however, the creditor usually will not repossess a vehicle merely because the debtor is no longer on the hook for the debt, unless the debtor fails to keep making payments on the loan. This means that in spite of not signing the reaffirmation agreement the debtor will usually be able to keep the collateral by continuing to make payments.  You should discuss this matter with your local bankruptcy attorney.

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