Reaffirming vs Redeeming Auto Loans in Chapter 7 Bankruptcy[yoast-breadcrumb]
Reaffirming vs Redeeming Auto Loans in Chapter 7 Bankruptcy
Filing for Chapter 7 bankruptcy can provide much-needed relief from overwhelming debt, but it also means making some tough choices about your assets – especially big purchases like cars and homes. Many folks filing Chapter 7 want to know if they can keep their vehicles without continuing to pay the loans. There are two options: reaffirming the loan or redeeming the vehicle.
This article will explain the key differences between reaffirming and redeeming an auto loan in Chapter 7 bankruptcy, including the pros and cons of each approach. We’ll also look at some real-world examples to help you understand how these options could play out.
What Happens to Your Car Loan in Chapter 7 Bankruptcy?
First, it’s important to understand what happens to your debts when you file for Chapter 7 bankruptcy. This type of bankruptcy eliminates many of your unsecured debts like credit cards, medical bills, personal loans etc. These debts get discharged, meaning you are no longer legally obligated to pay them back.
However, certain debts are not discharged in Chapter 7, including auto loans and mortgages. So even after your bankruptcy case is over, you would still owe money on these secured debts. The lender can repossess your home or car if you stop making payments.
For many folks, especially those who need a vehicle to get to work, surrendering their car is not an option. So they look into either reaffirming or redeeming the auto loan in order to keep the vehicle after bankruptcy.
What is Reaffirming an Auto Loan?
Reaffirming an auto loan means agreeing to continue paying the debt under the original loan terms, even after the bankruptcy discharge. Essentially, you make a new contract with the lender to keep paying the monthly auto loan payments and stay current on the loan.
There are a few steps involved in reaffirming a car loan in Chapter 7 bankruptcy:
- You must negotiate the reaffirmation agreement directly with the lender.
- The agreement must be filed with the bankruptcy court.
- In some cases, the court may hold a hearing to approve the reaffirmation.
- If approved, the reaffirmation agreement takes effect after your discharge.
Then, it’s as if your bankruptcy never happened as far as the car loan goes – you continue making the monthly payments just like before. The loan remains on your credit report and the lender can still repossess the vehicle if you default on the reaffirmed debt.
Pros of Reaffirming an Auto Loan
There are some potential advantages to reaffirming a car loan in Chapter 7 bankruptcy:
- You get to keep the vehicle and avoid repossession.
- Making on-time payments helps rebuild your credit score.
- You keep the original loan terms like interest rate and payment amounts.
- Some lenders may agree to modify the loan terms as part of the reaffirmation.
Cons of Reaffirming an Auto Loan
There are also some downsides to be aware of with reaffirming a car loan:
- You remain personally liable for the debt.
- The lender can still repossess the vehicle if you default.
- You lose the “fresh start” benefit for this debt.
- If loan terms are unfavorable, you remain stuck with them.
What is Redeeming a Car Loan?
Redeeming a car loan in Chapter 7 bankruptcy means paying the lender a lump sum to keep the vehicle. This single payment clears your obligation to the lender and lets you keep the car free and clear after bankruptcy.
To redeem a vehicle in Chapter 7, you pay the lender its current fair market value, rather than the remaining loan balance. For example, say you owe $15,000 on your car loan, but the vehicle’s value is only $10,000. You could pay the $10,000 to redeem the car, and the lender must accept that amount as payment in full.
The steps involved in redeeming a car loan include:
- Get the vehicle appraised to determine current market value.
- File a motion with the court explaining intent to redeem.
- Pay the lump sum to the lender after court approval.
- Receive clear title to the vehicle after payment.
Pros of Redeeming an Auto Loan
Here are some potential benefits of redeeming your car in Chapter 7 bankruptcy:
- You keep the car with no more loan payments.
- Vehicle has clear title with no lien.
- You get out from “underwater” on the loan balance.
- No risk of repossession after bankruptcy.
Cons of Redeeming an Auto Loan
There are also some drawbacks to be aware of with redemption:
- You must come up with a lump sum payment.
- No improvement to your credit score.
- Any missed payments remain on your credit history.
- You lose any bargaining power with the lender.
How to Decide: Reaffirm or Redeem?
How do you decide whether to reaffirm or redeem your auto loan in Chapter 7 bankruptcy? Here are some key factors to consider:
- Your current finances – Can you afford the ongoing monthly payments if you reaffirm? Do you have funds available to redeem the vehicle?
- Loan balance vs. vehicle value – Is your loan seriously underwater? Redemption may save you thousands.
- Interest rate on loan – A high rate makes redemption more attractive.
- Your credit goals – Reaffirming and making payments can help rebuild your credit score.
- Risk of default – Redeeming eliminates risk of repossession if you later struggle to make payments.
It’s also important to negotiate with your lender before deciding. They may agree to modify the loan terms, making reaffirmation more feasible. Be sure to consult your bankruptcy attorney as well – they can help weigh the pros and cons for your unique situation.
Examples of Reaffirming vs Redeeming Auto Loans
Looking at some real-world examples can help clarify when each option might make sense:
When Reaffirmation Works
Sarah’s Story: Sarah owed $8,000 on her car loan at 6% interest when she filed Chapter 7 bankruptcy. The vehicle’s current value was $6,000. Her lender agreed to modify the loan as part of a reaffirmation agreement, reducing the interest rate to 3%. With more affordable payments, Sarah decided reaffirming made sense.
When Redemption is Better
Mark’s Story: Mark owed $15,000 on his truck, but it was now worth only about $10,000. His loan had a high 10% interest rate. Mark had $12,000 in savings, so he was able to pay the $10,000 redemption amount. He decided it was worth it to free himself from this underwater loan.
When Walking Away is the Answer
Jessica’s Story: Jessica still owed $20,000 on her luxury car, but it was now worth only $14,000. She couldn’t afford the payments but also didn’t have the lump sum to redeem it. Neither keeping it or walking away made financial sense. So she decided to surrender the car back to the lender.
Other Options for Keeping Your Car in Chapter 7
Reaffirming or redeeming are the two main options for keeping your vehicle after Chapter 7 bankruptcy. But there are a couple other possibilities worth mentioning:
- Ride-through – In some cases, you may be able to simply keep making payments and retain possession of the vehicle without signing a reaffirmation agreement. Requirements vary by state.
- Chapter 13 bankruptcy – This type of bankruptcy allows you to catch up on missed payments through a repayment plan over 3-5 years.
Most people want to avoid voluntary repossession if possible, since it can hurt your credit score and leave you without transportation. But as Jessica’s story illustrates, surrendering the vehicle is sometimes the smartest financial decision.
Consult an Attorney for Your Specific Situation
The choice between reaffirming or redeeming an auto loan in Chapter 7 bankruptcy depends on your unique financial situation. It’s smart to speak with a qualified bankruptcy attorney to understand all your options.
An attorney can help negotiate with your lender, evaluate the pros and cons, and guide you towards the best decision for your needs. This can give you peace of mind that you are keeping your vehicle in the most affordable way possible.
With the right information and legal help, you can successfully keep your car while getting the fresh start that bankruptcy provides. Carefully weighing reaffirmation against redemption allows you to make an informed choice.