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Archive for the ‘secured debt’ tag

A Creditor Challenge to the Automatic Stay

February 19th, 2018 at 8:00 am

Filing bankruptcy stops creditors’ collections against you immediately. But sometimes a creditor tries to get permission to collect anyway. 

 

In our last 10 blog posts we’ve been talking about the “automatic stay.” It is one of the most important and immediate benefits of bankruptcy. The automatic stay stops most kinds of creditor attempts to collect their debts against you, your income, and your assets.

We’ve been looking at the relatively few special situations where the automatic stay protection does not apply. (Examples have included certain family court debts and proceedings, and some tax procedures.)

Today we focus in on how creditors can react to bankruptcy’s automatic stay. Creditors can sometimes challenge whether the automatic stay remains in effect or not, or whether conditions apply to its protection.

Creditor Challenges to the Automatic Stay

When you think of “relief” in bankruptcy what comes to mind is relief from your creditors. At the heart of the bankruptcy petition are the words, “I request relief.” (See page 6 just above the signature line of Official Form 101.)

But the meaning of “relief” when used in this phrase, “relief from the automatic stay,” the meaning is very different. This phrase refers a creditor’s “relief” from the protection that the automatic stay gives you. A creditor challenges your right to that protection by asking the bankruptcy court for “relief from the automatic stay” (or simply “relief from stay”).  

This might also be referred to as a creditor’s motion to lift the automatic stay injunction.

Most Creditors Don’t Ask for Relief from Stay

Creditors get relief from stay only if they qualify under certain circumstances laid out in the law. (See Section 362(d) of the U.S. Bankruptcy Code about creditor requests for “relief from the stay.”)

So don’t be concerned that all or many of your creditors will try to take this protection away from you.

Most Chapter 7 “straight bankruptcy” cases are completed without ANY creditor trying to do so. They do happen but often don’t change the outcome.

These challenges are more common in a Chapter 13 “adjustment of debts.” That’s because these kinds of case last much longer, and often involve changes to the payment terms of secured debts, resulting in more opportunities for negotiations and legal wrangling. Still this usually only involves one or two creditors. And even in Chapter 13 there are many cases with no such challenges.

Secured Creditors Requesting Relief from Stay

Most creditors which ask for relief from stay do so to get permission to take back collateral. Or often their goal is to put conditions on the automatic stay to encourage you to keep making payments on the collateral-secured debt. Here’s an example.

  • You file a Chapter 7 case when you are 2 payments behind on a vehicle loan. You want to keep this vehicle and have said so in your bankruptcy paperwork. Because of your payment history the lender files a motion for relief from the automatic stay. It wants to push you to catch up on those late payments quickly. It also wants court permission to repossess the vehicle if you don’t make those payments or fall behind later. The lender and you and your bankruptcy lawyer enter into negotiations. If necessary the issue goes to the bankruptcy judge for a decision. Usually the result is a negotiated agreement on the terms for catching up and keeping current on the payments. If you don’t comply you would likely quickly lose the automatic stay protection and lose your vehicle. If you comply you keep your vehicle.

Other Creditors Requesting Relief from Stay

Much less common, but sometimes a creditor without a secured debt has reason to ask for relief from stay. Here’s an example.

  • You file a Chapter 13 case right after being served with an eviction lawsuit by your residential landlord. The automatic stay stops the eviction. Your Chapter 13 payment plan shows how you will catch up on the unpaid rent payments and keep current thereafter. The landlord wants to proceed with the eviction. Most likely the automatic stay will continue in effect and stop the eviction as long as your payment plan does show how you’ll comply with the rental agreement, and then you in fact do what your plan says you will.  

 

Treatment of Different Types of Creditors in Chapter 13

July 26th, 2017 at 7:00 am

The laws about the treatment of different types of creditors can often be used in your favor to pay who you want or need to pay. 


Your Chapter 13 payment plan has to treat debts that are legally the same type of debts essentially the same way. But your plan can and must treat different types of debts quite differently. The laws related to this can be used to your advantage in many, many ways. Today we begin showing how this works with each of the three major types of debts.

Secured Debts

A secured debt is one which is legally tied to something you own. The secured creditor has rights against that property you own. Those rights usually include to repossess or foreclose on the property if you don’t pay the debt.

For example, your home mortgage(s), unpaid property taxes, judgments with liens on your home, income tax liens can all be debts secured against your home. And your vehicle loan is secured against your vehicle.

Debts may be secured because you directly agreed to make them secured, like a vehicle loan. But debts can also be secured involuntarily by certain creditors in certain circumstances. An involuntary example is an income tax lien on your home.

Secured creditors have rights against whatever property of yours secures their debt. That gives them leverage in a Chapter 13 case if you want to keep that property. You usually have to pay part or all of the debt to keep the property.

If you want to keep the property securing the debt, and it’s something reasonably necessary for you to keep (like your primary vehicle or your home), that creditor leverage actually helps you. It usually allows you to favor that creditor over most of your other creditors.  This means that you can pay your secured debt ahead of or instead of most other debts.

For example, you would usually be allowed to catch up on a vehicle loan in your Chapter 13 plan ahead of paying your unsecured credit cards. Often as a result your vehicle loan gets paid in full while your credit cards get only partially paid. Sometimes the credit cards (and other such unsecured debts) get nothing at all.

Priority Debts

Priority debts are simply those which the law has determine are worthy of more favored treatment over other debts. Each type of priority debt has a particular reason for being treated specially.

Some of the most common and important priority debts for consumers are child and spousal support and recent income taxes. Support obligations are treated as special because of the hardship nonpayment tends to cause. Taxes are treated as special because their nonpayment hurts everyone.

In a Chapter 13 payment plan, you must pay priority debts in full before paying other unsecured creditors anything. As with secured debts, you usually want and need to pay your priority debts. You may well have decided to file a Chapter 13 case because you are protected while paying your priority debt(s).

As with secured debts, being required to pay your priority debt(s) ahead of other unsecured debts means those other debts get less, and sometimes nothing. You are essentially paying the priority debts to the detriment of your other debts.

General Unsecured Debts

This third type includes everything else. These are debts that have no rights to anything you own, and are not on the list of priority debts.

A Chapter 13 plan may pay general unsecured debts anything from 0% of what you owe them to 100%, depending on the circumstances. How much you pay your general unsecured debts depends on many factors. Broadly speaking, these debts get paid whatever is left over after you pay the secured and priority debts.

Limited Flexibility 

In Chapter 13 you and your bankruptcy lawyer have to follow a detailed set of rules about treatment of creditors. But those rules come with a certain amount of flexibility. The rules give structure to a Chapter 13 plan. The flexibility can help make it work to fit your unique personal circumstances.

We’ll show specific ways that these somewhat flexible rules can help you in our next few blog posts.

 

Statutory Liens in Chapter 7

January 18th, 2017 at 8:00 am

Statutory liens survive bankruptcy. Chapter 7 may still be able to help in various ways and be your best solution.  

 

In our last blog post we introduced statutory liens as a less common but still potentially important kind of lien. A statutory lien on your home is one that is usually imposed on your home without court action. It’s imposed when you meet certain conditions specified in a written law—a statute. The most common examples are income tax liens, contractor and mechanic’s liens, and homeowners’ association liens.

The most important practical concern about statutory liens is that they cannot be removed from your home in bankruptcy like judgment liens often can. Nevertheless, bankruptcy can often help solve your financial problems if you have a statutory lien. Today we show how that can happen under Chapter 7 “straight bankruptcy,” tomorrow in a Chapter 13 “adjustment of debts.”

Chapter 7 Discharge of Personal Liability

Although Chapter 7 does not remove a statutory lien, it may take away your personal liability on the underlying debt. Bankruptcy may “discharge” the debt. This is an important and possibly confusing distinction.

There’s the debt—your personal liability to pay the money owed. And then there’s the lien on your home imposed because you didn’t pay the debt.

Some debts that result in statutory liens can be discharged and some cannot. It depends on the type of debt and often the circumstances of each case.

With income taxes, you can discharge the tax debt if it meets certain conditions, usually based on its age. But you can’t discharge more recent income taxes.

You can usually discharge debts underlying contractor/mechanic’s liens for work done on or materials supplied for your home. But sometimes the contractor or supplier might try to challenge the discharge based on allegation of fraud or misrepresentation.

Bankruptcy may discharge homeowners’ association fees and assessments, but they continue to be assessed as long as you own the property, even after you file your Chapter 7 case. They present special issue which we’ll address in a separate upcoming blog post.

The Benefit of Discharge

If you can discharge the debt underlying your statutory lien, that may give you major advantages.

First, if you are surrendering your home, the lien stays on the home but your debt goes away.

Let’s say you put a huge amount of money into trying to fix up a fixer-upper home. That resulted in major bills to a couple subcontractors and suppliers. The house has turned into a major liability and you’re throwing in the towel, surrendering it to your mortgage lender.  You would likely be able to discharge those debts to the subcontractors and suppliers. The contractor/mechanic’s liens would stay with the surrendered house, and be out of your life.

Second, sometimes you can keep the home and the lien goes away, eventually.

Let’s say you owe an income tax that is old enough that it qualifies for discharge. But the IRS or state has recorded a tax lien. Also assume that your home is seriously underwater—the first mortgage is lots more than the home is worth. There is effectively no equity for the tax lien to attach to. After your Chapter 7 case discharges the underlying tax debt the tax lien survives. But the IRS/state may recognize that its lien has no equity backing it up. It may do nothing until the lien expires. The home may increase in value sufficiently in the meantime to give them more leverage. They may even try to enforce their lien in spite of the tax debt being gone. So be sure to talk with your bankruptcy lawyer directly about this.  

The Big Indirect Benefit of Chapter 7

You may not be willing to give up your home to get away from the statutory lien. You may not be able to discharge the underlying debt. Or either way you may need to pay to get rid of the lien regardless. That’s where the indirect benefit of Chapter 7 comes in. Sometimes it’s worth filing a Chapter 7 case to get rid of all or most of your other debts so that afterwards you can concentrate all your financial energy on one debt. It may make sense to file bankruptcy on your other debts so that you can pay the one with the statutory lien on your home. That may be best solution for your overall situation.

 

“Adequate Protection”

October 17th, 2016 at 7:00 am

To keep possession of your property that is collateral on a secured debt, you need to give the creditor “adequate protection.”

 

The Balancing of the Interests of Creditors and Debtors

Bankruptcy law attempts to balance the interests of debtors and creditors. That’s true as to how the law deals with debtors’ and creditors’ opposing interests as to the collateral on secured debts.

For example, once you file bankruptcy what does the law require you to do in order to keep your vehicle if you are behind on its payments and the creditor wants to repossess it? Or if you are many months behind on your home mortgage, how long do you have to catch up?

The “Automatic Stay” and “Adequate Protection”

In the balancing of the interests of debtors and creditors in these situations, both get certain kinds of protections. One major type of protection debtors receive is the “automatic stay.” That’s the part of bankruptcy law which stops a creditor from repossessing or foreclosing any collateral. It kicks in the moment you file a bankruptcy case. (See Section 362(a) of the U.S. Bankruptcy Code.)

“Adequate protection” relates to what you must do to be able to keep your vehicle or other property long-term. It’s the creditor that’s entitled to “adequate protection.” The term refers to conditions you must meet to keep the automatic stay in effect. To keep protecting your property through the automatic stay, you must provide “adequate protection” to the creditor. (See Section 361 of the U.S. Bankruptcy Code.)

These two protections are designed to balance out each other.

Why the Creditor is Entitled to “Adequate Protection”

One of the main principles of bankruptcy law is that debtors and creditors deserve to have their property rights respected. When it comes to secured debts, the original contract gave you a conditional right to possession of the collateral. You could keep possession as long as you made payments when due and kept up the insurance.

But that contract gives the creditor the right to repossess or foreclose if you don’t make payments on time. If you prevent the creditor from taking possession of the collateral by filing bankruptcy, you still have to satisfy its property rights. You do so by providing the creditor “adequate protection.”

What “Adequate Protection” Requires

The Bankruptcy Code says that “adequate protection… of an interest of [a creditor] in property” is “provided by… mak[ing]…  periodic cash payments to [the creditor] to the extent that the [automatic] stay… results in a decrease in the value of such [creditor’s] interest in such property.” Section 361(a).

What this means is that to maintain the automatic stay and keep collateral you just need to:

  • pay the creditor periodic (usually monthly) payments
  • in an amount large enough to at least offset any reduction of the creditor’s interest in the property while you keep the property

Payments to Offset the Decrease in the Value of Creditor’s Interest in the Property

This simply means that the payments need to be large enough to make up for depreciation of the collateral while you continue in possession of it.

For example, a vehicle loses value through the passage of time and you using the vehicle. Let’s assume that a $10,000 used vehicle is expected to depreciate by $1,200 to $8,800 in one year. That’s $100 per month. To provide adequate protection you would have to pay the creditor at least $100 per month.

Besides depreciation, owning and driving a vehicle creates a risk that it could be damaged or destroyed in an accident. There is also a risk it could be stolen. The creditor is entitled to protection from these potentially sudden decreases in the value of its collateral. So besides the $100 per month, adequate protection requires you to maintain insurance on the vehicle.

Adequate Protection Is Just One Requirement

Maintaining your adequate protection obligation to the creditor allows you to tread water. But most likely you don’t want to stay still but rather get ahead! You want to pay off your vehicle loan under a Chapter 7 “reaffirmation.” Or maybe you can get clean title to the vehicle for less in a Chapter 13 “cramdown.”

Meeting the adequate protection requirement enables you to keep the automatic stay protection intact.  But there’s a lot more to dealing favorably with your secured debts in bankruptcy. Our next few blog posts will get into terms pertaining to secured debts, such as “reaffirmation” and “cramdown,” and lots more.

 

Example of How Chapter 13 Handles a Creditor with a Disputed Lien

September 2nd, 2016 at 7:00 am

Here’s a scenario showing how Chapter 13 solves problems that Chapter 7 doesn’t solve in dealing with a creditor’s disputed lien. 


Our last blog post got into what happens when you don’t think a creditor has a legally enforceable lien in something you own. We explored some practical problems if you addressed this situation in a Chapter 7 case. Essentially, the creditor has a lot of leverage to make you pay the debt, even with a questionable lien. We showed how Chapter 13 elegantly takes that leverage away, minimizing what you pay on that debt.

That last blog post begged for an example how this all works. We’re giving you that here today.

Our Example

Imagine that a year ago you bought one of those laptop computers that fold into a tablet for $500.  You got it an electronics store where you had an account, and put the whole purchase price on that account. The previous balance had been $750 from the purchase of a variety of items over the previous couple years. Then during the 6 months after buying the computer you bought other minor items totaling $250. After making minimum monthly payments for most of the last year you now owe $1,300 on the account.

For unrelated reasons you now have serious debt problems and need bankruptcy relief.

The Questionable Lien

So you meet with a competent bankruptcy lawyer who carefully reviews your situation with you.  You are left with the conclusion that both a Chapter 7 “straight bankruptcy” and a Chapter 13 “adjustment of debts” would greatly help, and you are trying to decide which way to go.

After this first meeting the lawyer reviews your paperwork from the electronics store. He or she informs you that the store arguably does not have a lien on anything you bought there. That includes your only significant purchase there, the laptop/tablet. The paperwork shows that the store likely intended to create a lien in the items purchased but did not seem to follow the legally required steps to do so.  In other words, the store would likely assert that it has a right to repossess the laptop/tablet, but there’s a good chance your lawyer could persuade a court that it does not have that right.

What Would Happen under Chapter 7

Your lawyer informs you that this situation causes some practical problems under Chapter 7. The store could try to enforce a lien against the laptop/tablet and whatever else you purchased. Your bankruptcy documents would have asserted that no valid lien attaches to this debt. But the store could instead demand that you pay the $1,300 debt to be allowed to keep what you bought.

Your lawyer would counter by arguing on your behalf that:

  • The store did not have a valid lien on anything that you had purchased.
  • Even if there was a lien, the only item sensibly worth repossessing and reselling was the laptop/tablet.  
  • But even that had greatly depreciated in value because electronics become quickly obsolete and are hard to resell.

So with your prior permission your lawyer would offer a compromise: you’d pay $100 to keep the computer. That’s sensible because the store would not likely get any more for it, especially after accounting for its resale costs.

But the store may dig in its heels. It may sensibly figure that the computer is worth a lot more than $100 to you.  Over the last year you may indeed have gotten really comfortable with it and now greatly rely on it. So the store could threaten to ask for a bankruptcy court determination that the lien is valid and, if successful, would repossess the computer, unless you agreed to pay the entire debt of $1,300 in monthly payments.

Your lawyer would inform you that you have a better than even chance of persuading the court there’s no valid lien. But the litigation to get there would cost you at least $1,000. So, because you really do need the laptop/tablet, you’d agree to settle the dispute by making monthly payments totaling some compromise amount, say $750.

The Chapter 13 Solution

But paying $750 is not a very satisfying result if the store really doesn’t have a legal right to anything you bought. So, to avoid the above scenario, on your lawyer’s advice you decide to file a Chapter 13 case instead.  You had other unrelated reasons to do so, but this store debt helped swing your decision in that direction.

So, you and your bankruptcy lawyer list the store’s debt as unsecured in Schedule F. Your Chapter 13 payment plan treats the debt accordingly.

One of two things then happens.

If the Store Objects

The store may object to it being treated as an unsecured creditor. If it does, and does so before the “confirmation hearing” (which is about two months after you file your case), there’s a streamlined court procedure for determining whether or not the store has a valid lien in what you purchased.

If the bankruptcy judge determines there’s no lien, the debt is treated as an unsecured debt just as you’d proposed.

This means that you pay only as much of the $1,300 balance as you can afford to pay during the length of the case. That’s after reasonable living expenses plus after first paying other debts that legally have higher priority. Often you would pay only pennies on the dollar; sometimes you would pay nothing of that $1,300. Then after you finish your Chapter 13 case the court permanently writes off whatever you haven’t paid.

This all assumes that the store files a proof of claim on time. If it doesn’t do so within a deadline about 4 months after your case is filed, it’s paid nothing. Then the entire debt is written off at the end of your case.

But what if early in the case the court instead determines that the store DOES have a valid lien? Then you’d have to pay a portion of that $1,300 as a secured debt in your Chapter 13 plan. That portion is determined by the fair market value of whatever the lien attaches to. Here the only item of meaningful value is the laptop/tablet. Although there would likely be some dickering about the appropriate dollar value, the store would not likely be able to establish that it’s worth more than about $150. So you would pay that amount over time in your plan. The rest of the debt—$1,150—would be treated as an unsecured debt, as discussed above.

If the Store Doesn’t Object

It’s not unusual for a creditor in the position of the store to simply not object to be treated as unsecured. Why would such a creditor just stay silent?

Because it knows that it has so much less leverage under Chapter 13 than under Chapter 7. It knows that you and your lawyer have a relatively inexpensive way to establish that its lien isn’t valid. It knows that even if it has a lien, its debt’s secured portion is going to be small. Depending on the case, even without objecting the store knows it will be paid something as an unsecured creditor (as long as it files a timely proof of claim). So any additional money the store would get by objecting would not likely justify its costs in doing so.

If the store doesn’t object by the time of the “confirmation hearing,” its debt is treated as unsecured. If it also doesn’t file a proof of claim by the deadline (about 4 months after filing), you pay it nothing in the Chapter 13 case. And the entire debt is permanently written off.

If the store doesn’t object but it does file a proof of claim for the $1,300 debt, the entire debt will be treated as unsecured. So you pay only what you can afford during the case (if any), and the rest is permanently written off.

Conclusion

Chapter 13 gives you so much more leverage in this situation than under Chapter 7. For a bunch of practical reasons the debt would more likely be treated as an unsecured one. If the lien is found to be valid you will much more likely be able to pay a relatively modest amount to keep your property. So, especially in a situation in which you are paying a small portion or nothing of your unsecured debts, Chapter 13 may well be the way to go if you have a disputed lien.

 

Surrendering a Vehicle in a Chapter 13 Case

August 22nd, 2016 at 7:00 am

Chapter 13 gives you powerful ways to hold onto a vehicle, but it also lets you give up that vehicle without paying its debt.  


Our last several blog posts have been about situations in which secured debts can be turned into unsecured debts. They’ve all been about how this can happen in a Chapter 7 “straight bankruptcy.” But how about in a Chapter 13 “adjustment of debts” case?

Today we’ll start a series of blog post about secured debts turning into unsecured ones under Chapter 13.  We start with surrendering a vehicle, how that’s done, and why that might be better, or at least usually no worse, in a Chapter 13 case.

Avoiding a “Deficiency Balance” through Bankruptcy Discharge

You have a major advantage in surrendering your vehicle to the vehicle lender when filing bankruptcy. That advantage is that you get to legally and permanently write off—“discharge”—whatever balance you owe—the “deficiency balance.” Without a bankruptcy discharge you would have to pay that “deficiency balance” after giving up your vehicle.

The “deficiency balance” is the amount you owe on your vehicle loan after your lender credits to your account the proceeds of the sale of your surrendered vehicle and debits the costs of that sale. This “deficiency balance” is usually much more than you expect. That’s because your lender tends to sell the vehicle at an auto auction for much less than you’d expect. And the expenses of the sale pile up more than you’d expect—auction fees, storage fees, extra late charges, etc.

The end result is that even when you think your vehicle is worth about what you owe, you could still end owing thousands of dollars of a “deficiency balance” after surrendering your vehicle.

Disadvantages under Chapter 13

If you give your vehicle up to your lender in a Chapter 7 case, the “deficiency balance” will be discharged quickly—usually only about 3 months after you file your case. In contrast, in a Chapter 13 case the discharge only happens at the end of the payment plan. That’s almost always between 3 to 5 YEARS after you file the case. The vehicle lender can’t try to collect the debt in the meantime. But during this time while this debt is in limbo at the very least you delay getting a fresh start on your credit record.

Also, the discharge of the “deficiency balance” doesn’t occur AT ALL unless you successfully complete the Chapter 13 payment plan. For countless reasons debtors do not successfully complete a certain percentage of Chapter 13 cases. So there’s this risk to contend with.

Lastly, in a Chapter 13 case most of the time you pay the “general unsecured” debts a certain percentage of the total owed. A “deficiency balance” would be one of your “general unsecured” debts. Why pay something on that debt when you don’t pay anything in a Chapter 7 case?

If You Need Chapter 13 for Other Reasons

In spite of these seeming disadvantages, Chapter 13 would still be better for you in many circumstances.

First, you may have major reasons to file a Chapter 13 case nothing to do with your vehicle loan. It may enable you to save your home. It may give you the best way to deal with a huge amount of income taxes you owe. There are many other potential reasons to file a Chapter 13 case. Dealing with your vehicle debt may be a minor issue in the big picture.

Big Timing Advantages

Second, Chapter 13 gives you a great timing advantage that Chapter 7 simply can’t give you. It lets you try to keep your vehicle and then decide to surrender it later. Down the line you may not be able to afford to pay for the vehicle after all. Months or even a couple years after filing your case your income may go down or expenses may go up. The vehicle may turn into a “lemon,” or need too many expensive repairs. It may get into an accident. You may no longer need the vehicle as much or may be able to get a less expensive one.

Pretty much at any point in your 3-to-5-year Chapter 13 case you can decide to surrender your vehicle. At that point any “deficiency balance” becomes part of your “general unsecured” debts. It gets discharged at the end of your case.

The longer you wait more the more likely the “deficiency balance” will be less, because you will have paid off more of the vehicle debt. Still it’s a significant advantage to be able to hedge your bets somewhat by being able to surrender later.

Usually You Don’t Pay Anything More under Chapter 13 Because of the “Deficiency Balance”

We raised the question above, why pay anything on the “deficiency balance” under Chapter 13 when you can pay nothing under Chapter 7? One answer is that in practical terms you usually don’t pay anything more in your Chapter 13 case if you owe a “deficiency balance.”

How can that be when usually a Chapter 13 case pays at least some percentage of the “general unsecured” debts?

First, in SOME cases the debtor pays NONE of the “general unsecured” debts, 0% of the amount due.

Second, in MOST cases the debtor ends up paying a fixed amount into the pool of “general unsecured” debts. That fixed amount is a based on how much the debtor can afford to pay all of his or her debts during the period of time the case lasts. Some of the money usually goes first to other legally more important debts. The amount left over is divided pro rata among all the “general unsecured” debts, including the “deficiency balance.” The existence of the “deficiency balance” does not change the amount the debtor pays towards the “general unsecured” debts. It only changes who gets paid how much within that pool.

Conclusion

For all these reasons, it makes sense to surrender a vehicle to its lender in a Chapter 13 case.


When a Creditor Does Not Have an Enforceable Lien

August 19th, 2016 at 7:00 am

For a debt to be secured, the creditor has to go through the right legal steps. Otherwise you don’t have to pay the debt.

 

Expressing Your Intentions with Your Secured Debts

When you file a Chapter 7 “straight bankruptcy” case you list all your debts on the bankruptcy court documents. You separately list secured and unsecured ones. A secured debts is one in which the creditor has a lien on an asset you own. For example, a vehicle loan is a secured debt in which the lender is a lienholder on your vehicle’s title.

As to each of your secured debts, you inform the creditor whether you intend to keep the asset or not. If you intend to keep it, you also state what you intend to do with the debt. For example, with a vehicle loan, if you state that you intend to keep the vehicle you would likely also state that you intend to “reaffirm” the debt—that is, pay the debt under its usual terms in order to be able to keep the vehicle.

These disclosures are done through the “Chapter 7 Individual Debtor’s Statement of Intention” form. Your lawyer will help you complete it; after you sign it copies are mailed to your creditors and it’s filed at the bankruptcy court.

What It Takes for a Debt to Be Legally Secured

Creditors must take certain legal steps to create a legally enforceable lien in something you purchase or in something you already owed. Those legal steps are determined by state laws, which tend to be similar from state to state. But they can differ a lot in the details.

Those legal steps vary a lot among different kinds of collateral. Let’s go back to our example of a lender’s lien on a vehicle. The paperwork and procedure to create a lien on a vehicle title is completely different from the paperwork and procedure that your home mortgage lender used to create a lien on your home. And those are completely different from how a furniture store creates a lien on what you buy there.

If a Creditor Doesn’t Go Through the Legal Steps

It’s usually the creditor’s job to do what is necessary to create a lien on what you are buying or on what you are providing as collateral. After all, the creditor is the one who wants the extra leverage against you. You’ll more likely pay a debt it it’s backed up by a lien on something you need or want. And if you don’t pay, the creditor will at least be able to repossess or foreclose on the collateral to get back some of the money it lent.

For countless reasons creditors don’t always go through the legally necessary steps. If not, what happens to that debt in a Chapter 7 case?  

Debts Unexpectedly Not Secured

As mentioned above, there are different procedures for creating liens for different kinds of collateral. Those procedures differ in sometimes crucial details from state to state, and those state laws change over time. Notwithstanding these challenges, you’d think creditors would keep on top of this given how important it would be for them. But they don’t always know the laws as well as you’d think. Or even if their official procedures are appropriate, their employees don’t always follow those procedures perfectly. Creditors can mess up.

As a result when you file a bankruptcy case it’s smart to find out whether debts that you think are secured really are. The difference can be huge. Simply put, it can make the difference between having to pay a debt in full vs. paying nothing at all.

We’ll illustrate this with an example.

The Example

Assume that you bought your stove, refrigerator, clothes washer and drier at a local appliance store 18 months ago.  You and your family had moved into a rental home which didn’t have these appliances. You bought them all on credit for $3,000, financed on a contract through the store. You thought you remember hearing or reading somewhere that the store had a right to repossess what you bought if you didn’t pay off the contract. That would’ve meant that the store had a legally enforceable lien on the appliances to secure the debt you owed.

You didn’t have to make payments on the contract for the first 3 months (“90 days same as cash”). Then a high interest rate kicked in, and you made most of the relatively small payments. But then you didn’t pay the last couple payments, and now still owe $2,600.

You and your spouse have now filed a Chapter 7 bankruptcy case to get a fresh financial start.

Your family really needs these appliances. You have no spare cash with which to replace them, and no credit with which to do so. So you figure you’ll have to keep paying on the high interest contract until it’s paid off. With the low payments and high interest you’d probably end up paying close to $4,000 more on appliances that currently likely have a fair market value of no more than a combined $1,500. But you figure you really don’t have a choice.

The Store Contract Didn’t Actually Create a Secured Debt

However, your bankruptcy lawyer looks through the purchase contract and finds out that the store did not create a lien in the appliances. To create a lien, the contract needed to clearly state that it was doing so. But it did not. As a result, the debt is not legally secured by those appliances or by anything else you own. It’s an unsecured debt, one that can almost certainly be discharged—legally written off—without paying for the appliances.

So, instead of having to pay anything more on the appliances, much less the $4,000 or so that you thought you would, you pay nothing. And the appliances are yours to keep free and clear.

 

Secured Debt Treated Like Unsecured Debt after Collateral Surrender

August 12th, 2016 at 7:00 am

A secured debt effectively turns into an unsecured debt if you surrender the collateral, which may make sense to do more than you think.

 
“General Unsecured” Debts and Secured Debts

Our last blog posts described the huge difference in the treatment of “general unsecured” and secured debts in bankruptcy. “General unsecured” debts are discharged—legally and permanently written off. But with secured debts, the lien that the creditor has in something you own is not usually affected in bankruptcy. The lien continues in effect, giving the creditor continued rights to your asset after the bankruptcy case is completed, including usually the right to repossess or foreclose. So if you want to keep that asset, usually you have to pay the debt.

However, last time we listed 3 situations in which bankruptcy effectively turns a secured debt into an unsecured one. We focus on the first of those situations today.

Surrendering the Asset

Simply giving the asset in which a creditor has a lien to that creditor essentially turns the debt into an unsecured one. As far as you’re concerned the debt’s no longer secured. The creditor no longer has a lien in anything you own, and so has no leverage over you.

You can now discharge the debt and pay nothing on it.

When to Surrender the Asset to the Creditor

There are more circumstances than you might think when your best option is to give the asset to the creditor.

1. You can’t afford the payments.

It’s worth taking a very honest look at how much filing bankruptcy is going to help your monthly cash flow. You may absolutely need bankruptcy relief to deal with unbearable debt pressures. And the minute you file your case, you most likely will be able to stop paying a lot of monthly debts. That may free up money so you can then comfortably pay your vehicle loan or home mortgage payment.

But be careful. Especially if you’ve not been paying many of your debts for a while, filing bankruptcy may not free up as much disposable income as you think. Pay close attention when your bankruptcy lawyer helps you put together a formal budget. (See Schedule I & Schedule J.) Be very honest with yourself about whether you will really be able to afford to make the secured debt payments. If it’s iffy, seriously consider whether surrendering the vehicle or home and owing nothing might be your better choice.

2. You are behind on the payments and filing a Chapter 13 case is not worthwhile.

If you’ve fallen behind on your vehicle loan or home mortgage, you usually have very little time to catch up in a Chapter 7 “straight bankruptcy” case. Chapter 13 “adjustment of debts” gives you much more time, often as much as 5 years. But consider carefully whether keeping the vehicle or home is worth the downsides of a Chapter 13 case.

For various reasons Chapter 13 cases have a much lower successful completion rate than Chapter 7 ones. You can struggle to fulfill the obligations of your Chapter 13 payment plan for several years, only to end up not succeeding. At that point you may have to surrender your home or vehicle after all. And/or you may need to convert your case into a Chapter 7 one, after a lot of wasted effort. In the meantime you’ve made little or no progress on improving your credit score. More importantly, you’ve delayed the emotional fresh financial start that you really need.

So use the strong medicine of Chapter 13 to cure your financial ills. But avoid it when it’s likely to instead bring you these kinds of adverse side effects.

3. Even if you are not behind or can catch up fast, it’s just not economically worth keeping the asset.

There’s more to life than economic calculations. Sometimes there are valid intangible reasons making it worth fighting hard to keep a vehicle or a home even if it has no equity. Your vehicle may well be worth much more to you than some generic “blue book” dollar amount. The stability of a home, either for yourself, your marriage, or your kids, can have huge genuine value.

On the other hand be very careful about putting too much weight on these kinds of intangibles. A sensible rule of thumb to think about is whether you can honestly and dispassionately consider the option of surrender. If you refuse to even consider other alternatives, that’s a warning sign that you maybe you’re not being realistic. If it’s very clearly a financially bad idea to sink more money and time into something, you need to at least seriously consider other options.  

4. It’s risky down the line to keep the asset, so take advantage of your right to discharge the debt now.

Especially with vehicles, you often have a virtual once-in –a-lifetime opportunity to get out of a bad loan when you file a Chapter 7 bankruptcy case. Almost always you have to “reaffirm” the debt if you want to keep the vehicle. That means that you legally exclude the vehicle loan from the discharge of your other debts. You have to choose one or the other: surrender the vehicle and discharge the debt, or keep it and not discharge the debt.

If you keep the vehicle and reaffirm the loan, and then months or even years later you can’t make the payments and the vehicle is repossessed, you could easily end up owing a lot of money. You’d have no vehicle and you’d owe the money. Months or years after your Chapter 7 case you’d be in financial trouble again. So carefully consider whether you will be able to keep up payments on a secured debt in the long run. Think about whether it’s wiser to surrender the vehicle/home (or other collateral) and get a fuller fresh start now.  


Secured Debts Treated Like Unsecured Debts in Chapter 7

August 10th, 2016 at 7:00 am

A secured debt can be handled like an unsecured debt if you surrender the collateral, “avoid” a judgment lien, or just keep the collateral.

 

The “Discharge” of “General Unsecured” Debts

In our last few blog posts we have shown how “general unsecured” debts are handled under Chapter 7 “straight bankruptcy” and Chapter 13 “adjustment of debts.” Most of the time those debts are simply discharged—legally written off—under Chapter 7. They are also discharged at the successful completion of a Chapter 13 case, usually but not always after partial payment.

Secured Debts

Debts that are secured by a lien on something you own are usually treated quite differently. The debt itself may well be discharged in the bankruptcy case just like an unsecured debt. But you also have a lien to contend with.

A lien is a creditor’s “interest in [your] property to secure payment of a debt.” (See Section 101(37) of the Bankruptcy Code.)  A lien is not discharged in bankruptcy. It’s a property right that you have to deal with separately from the debt itself.

This actually makes common sense. If you finance the purchase of a vehicle, the lender is naturally a lienholder on the vehicle’s title. When you file a bankruptcy case, you can discharge the balance owed on the vehicle loan. But the lender will still have a lien on the vehicle, and so can repossess it if you don’t pay. Usually you have to agree to pay the balance in order to keep the vehicle.

As you can see secured debts are very different than unsecured ones.

But there are a few narrow exceptions, when you can act to turn a secured debt into an unsecured one. As we said in the introductory sentence, a secured debt can be handled like an unsecured debt if you

1.  surrender the collateral,

2.  “avoid” a judgment lien, or

3.  sometimes, just keep the collateral.

1. Surrender the Collateral

Whether you have a vehicle loan, a home mortgage, or a store credit card with liens on everything you purchased, you can effectively turn the debt into an unsecured one by giving the collateral to the creditor.

Admittedly that’s not helpful if want to keep the collateral. But there are many situations where surrendering the collateral is well worth the benefit of not paying the debt.

With vehicle loans you would often owe a substantial amount of money even after surrendering the vehicle outside bankruptcy. Surrendering the vehicle in bankruptcy lets you get out of a bad deal without having to pay a small fortune.

We’ll talk about this more and give a couple practical examples in our next blog post.

2. “Avoid” the Judgment Lien

If you own a home just about any unsecured creditor can turn the debt into one secured by the home. Suing you and getting a judgment against you in most states gives the creditor a judgment lien on your home.

Bankruptcy can in many cases empower you to “avoid”—permanently get rid of—a judgment lien on your home. This “avoidance” can be done under either Chapter 7 or 13. It requires the right combination of several numbers—the amounts of the judgment lien, the equity in your home, and your allowed homestead exemption.

We’ll dig into when this works and give examples a couple blog posts from now.

3. Keep the Collateral Without Paying

Sometimes a secured creditor just doesn’t care enough about the collateral to bother making you surrender it. Or sometimes it’s not clear whether the creditor even has a valid lien. It may not want to risk repossessing something that it does not have the legal right to repossess.

In these situations the best option may simply be to file bankruptcy and act as if the debt is unsecured. That is, don’t pay it and see whether the creditor asserts any rights in the collateral.

This option comes with some risks, which we’ll explain and make clear with some examples in an upcoming blog post.

 

Prevent a Creditor with an Unsecured Debt from Turning it into a Secured Debt

June 29th, 2016 at 7:00 am

Because of Chapter 13’s much more powerful automatic stay, its ability to prevent judgment liens and tax liens is extremely valuable.  

 

Our last blog post described ways that the “automatic stay”—your protection from creditors’ collection actions—is so much more powerful in a Chapter 13 “adjustment of debts” case than in a Chapter 7 “straight bankruptcy.”

One way that this Chapter 13 protection from creditors is better is simply that it lasts much, much longer than under Chapter 7. This benefit is also related to today’s topic, how Chapter 13 can permanently stop unsecured creditors from turning their debts into secured ones. This is an underappreciated advantage of filing a Chapter 13 case.  

Prevent Creditors from Turning Unsecured Debts into Secured Ones

Creditors with secured debts generally have much more leverage than those with unsecured debts. In a Chapter 7 case most unsecured debts get “discharged”—legally written off—without any payment required. In a Chapter 13 case unsecured debts are only paid if and to the extent there is any money left over during the course of the payment plan after paying secured creditors and special “priority” debts (such as unpaid child support and recent income taxes).

Creditors with unsecured debts have a variety of ways of turning those into debts secured against your assets. Two examples are judgment liens and income tax liens, which we’ll discuss more in a moment.

Those liens, as well as other kinds, can turn a debt that can simply be discharged into one that has to be paid in full or in part. Or even if it was a debt that could not have been discharged (such as unpaid child support or recent income taxes), once the creditor has a lien the debt is more dangerous for you, even if you file a bankruptcy afterwards.

Filing bankruptcy—either Chapter 7 or 13—prevents a creditor from converting its unsecured debt into a secured one. The same law—the “automatic stay”—that stops other forms of collection action against you immediately upon the filing of a bankruptcy case, also stops creditors from creating liens against your assets. The U.S. Bankruptcy Code states that filing a bankruptcy “petition… operates as a stay… of–… (5) any act to create… against property of the debtor any lien” that secures a debt existing at the time the petition is filed. (See Section 362(a)(5) of the Bankruptcy Code.)

Preventing Judgment Liens

Any creditor with an unsecured debt you owe can sue you if you do not pay the debt according to its terms. Most of the time such a lawsuit turns into a judgment against you on the debt. State laws determine how the creditor can then collect on the judgment against you. But usually the judgment either automatically becomes a lien against some of your assets or the creditor can take additional steps to create a lien, such as a lien against your home for the amount of the judgment.

As soon as there is a lien, a debt which could otherwise be discharged as an unsecured debt may have to be paid in full or in part in order to get a release of the judgment lien on your real estate or other assets.

Filing either a Chapter 7 or 13 case on a debt that has not yet turned into a judgment will prevent that from happening. Even if a lawsuit has been filed the judgment can be prevented if the bankruptcy is filed quickly enough.

If the debt is the kind that can be discharged in a Chapter 7 case—which includes most unsecured debts—then that will take care of the debt. At the end of the case the debt is discharged and then the creditor has no more debt to sue you for and create a judgment lien on your assets.

But what if the debt is one that is not discharged in the 3 or 4 months that a Chapter 7 case takes to process? If you are accused of having gotten the debt through fraud or misrepresentation there is a good chance the debt would not be discharged in a Chapter 7 case, for example. If the creditor takes appropriate action during the case the debt would not be discharged and the creditor can turn that debt into a judgment and put a lien on your assets.

In a Chapter 13 case you can make arrangements to pay such a fraud/misrepresentation based debt during the course of the 3-to-5-year payment plan. The “automatic stay” prevents the creditor from converting the unsecured debt into a secured one (as long as the creditor does not get extraordinary permission to the contrary from the bankruptcy judge).

Preventing Income Tax Liens

Income tax debts either meet the conditions for being dischargeable in bankruptcy or they don’t meet those conditions. These conditions mostly turn on whether enough time has passed since the tax return at issue was legally due and since the tax return was in fact submitted to the IRS or state tax agency. If the tax meets the conditions for discharge, the tax is simply discharged in a Chapter 7 case, essentially like any other dischargeable debt.

But if the IRS/state records a tax lien before you file a bankruptcy case that turns the unsecured tax into a secured one. Depending on what the tax lien attaches to, you may have to pay the tax in part or in full to get the tax lien released from your assets. So it’s very important to file bankruptcy—either Chapter 7 or 13—before the tax lien is recorded.

But what if the tax is one that does not meet the conditions for discharge? Filing a Chapter 7 case will stop the tax lien for only the 3-4 months that the “automatic stay” is in effect. The IRS/state can record a tax lien on such a tax as soon as your case is closed.

However, if you file a Chapter 13 case instead the IRS/state will be prevented from recording at tax lien throughout the 3-to-5-year period that a case usually lasts. During that period you would pay that tax, on your own schedule and at the same time that you deal with your other important debts. After paying off the tax, without the threat of a recorded tax lien, and completing the case, there would be no more tax debt on which a tax lien could be recorded.

 

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