Restructure Your Vehicle Loan

Are you “underwater” on your vehicle? Is it worth a lot less than what you owe on it? If so, then in a bankruptcy case you have the right to require the car lender to give you the title if you pay them what the car is worth instead of what you owe. This is why...

Once you have filed a bankruptcy case, a lender generally cannot sue you for any unpaid vehicle debt. Instead, if you refuse to make the payments the lender can repossess the vehicle. (If the bankruptcy case is still pending when the lender wants to repossess, it would have to get permission from the bankruptcy court first). After repossessing, the lender would then sell the repossessed vehicle at an auction and would recover only what the vehicle is worth. The unpaid portion of the loan would be discharged by the bankruptcy case. So, if you file bankruptcy and exercise your right to surrender the vehicle to a lender, the lender gets only the value of the vehicle and no more. 

The bankruptcy laws permit you to keep the vehicle as long as the lender gets the same amount that it would have received if you had surrendered the vehicle. So, if you pay the lender the value of the vehicle, the lender has to give you the title. This treatment of a car loan is called “cramdown” in a Chapter 13 case or “redemption” in a Chapter 7 case. There are two different names because the procedure is a little different in each case. 

To redeem a vehicle in Chapter 7, you have to pay the lender the value of the vehicle in one lump sum. Most people are unable to do that, so redemptions are relatively rare. However, some companies offer redemption financing. After you have filed a bankruptcy case, the redemption financing company may offer you a loan at a very high interest rate to provide the funds you need to make the lump sum payment to the previous vehicle lender. Then you have a new vehicle loan for a smaller amount – the value of the vehicle rather than the previous payoff – but probably at a much higher interest rate. The economics of this type of arrangement can make sense depending on the condition of the vehicle and the amount by which it is underwater. 

A Chapter 13 cramdown is much more common than redemption. In a cramdown, the lender is not entitled to receive the payment in one lump sum. Instead, the payment is made through the bankruptcy trustee’s office during the life of the bankruptcy case. The lender is also entitled to receive interest on the payment during the life of the bankruptcy case, but, the interest rate is relatively low. However, there is a restriction on a cramdown that is not present for a redemption: generally, to cramdown a car loan, the loan has to be at least 2½ years old. So, for example, if you had a car that was worth $8,000, and had 3 years left on a 6-year $390/mo car loan, that car payment could be reduced in a Chapter 13 case to $260/mo for 3 years. Of course, it probably wouldn’t make sense for most people to file bankruptcy simply for that $130/mo savings. However, for someone who is going to file a bankruptcy case anyway, this vehicle cramdown might offer additional help with a tight budget.