Many people would find it nearly impossible to carry on regular daily activities without a car. They rely on their vehicles to get to work, do the grocery shopping, go to doctor appointments, take the kids to school or daycare, and generally attend to necessities. And some large cities like Birmingham have relatively limited public transit systems. Some neighborhoods are better covered than others, and many public transit lines don’t run at night. In some areas, there is little or no public transportation available.
With that in mind, we are never surprised when people considering bankruptcy ask whether they will be able to keep their cars if they file Chapter 7. While most people who file for Chapter 7 bankruptcy are able to keep their cars, trucks or other vehicles, the situation is slightly different for each bankruptcy filer.
How a motor vehicle is treated in a Chapter 7 bankruptcy case depends in large part on two factors: the equity in the vehicle, and whether the vehicle serves as security for a loan.
Vehicle Equity as an Asset in Bankruptcy
Chapter 7 bankruptcy is sometimes known as liquidation bankruptcy, because in a Chapter 7 case the bankruptcy trustee can take non-exempt property and sell it for the benefit of creditors. That sounds a little scary to many people considering bankruptcy, but in fact most people who file for Chapter 7 don’t lose any property. That’s because the law provides a set of exemptions–a list of property that creditors can’t touch, even in bankruptcy. These exemptions differ from state to state.
Some states provide a specific exemption for a motor vehicle. None of the three states where we handle consumer bankruptcy cases–Alabama, Mississippi, and Tennessee–offer a specific automobile exemption. However, all three make some provision for protecting a vehicle.
In both Mississippi and Tennessee, a motor vehicle is one type of property that can be protected under the $10,000 aggregate personal property exemption. That means that a bankruptcy filer who doesn’t need the personal property exemption for any other property can protect up to $10,000 in value in a vehicle. However, that number declines as the exemption is applied to other property. So, a bankruptcy filer in Mississippi or Tennessee who uses $3,000 of the personal property exemption to protect other property can at most apply $7,000 to an automobile.
Keep in mind, though, that the important number for exemption purposes is not the value of the automobile. Instead, it is the equity in the vehicle. For instance, if a vehicle is valued at $20,000 but there is an outstanding balance of $16,000 on the secured loan, the owner has $4,000 in equity. That $4,000 is all the bankruptcy filer will need to exempt. In addition, chapter 7 trustees will also look at the cost of selling the vehicle. So even if a small amount of non-exempt equity may exist, the trustee will not liquidate a vehicle if the cost outweighs the benefit.
In Alabama, the exemption works similarly. However, instead of $10,000, the Alabama maximum total exemption for this category is $7,750.
Cars Serving as Security for a Loan
The other issue many people seeking to keep vehicles in a Chapter 7 bankruptcy case must address is any outstanding loan balance. If the car serves as security for a loan, the bankruptcy petitioner obviously can’t just discharge the outstanding debt and keep the car for free. There are generally three options available to a person who enters Chapter 7 bankruptcy with a secured automobile.
First, the bankruptcy filer may choose to surrender the vehicle. Even those who need a car to get around sometimes choose this option. Some reasons people surrender vehicles in Chapter 7 bankruptcy include:
- Knowing or fearing that they will be unable to keep up payments after the bankruptcy, and
- Opting to get out from under a loan when the remaining balance is greater than the value of the car
When a vehicle is surrendered in bankruptcy, the outstanding loan balance becomes unsecured, and so can be discharged in bankruptcy.
Depending on finances, keeping the car and continuing to pay on the loan may also be an option. There are two ways this can happen. One is to simply continue to make payments. However, this option isn’t always available. Some lenders will not allow a bankruptcy filer to keep the car and continue to make payments without a formal agreement. Others may continue to accept payments but stop sending statements and reporting to credit reporting agencies.
The more formal way to continue paying down the loan and keep the car is reaffirmation. Reaffirmation is essentially a refreshing of the contract with the lender. For a bankruptcy petitioner who wishes to keep a car and plans to continue making payments, this may seem like no big deal. It’s just an agreement to follow the plan. But reaffirmation can be risky. It’s an agreement that the debt won’t be discharged in bankruptcy. That means if new issues arise after bankruptcy and the borrower can’t keep up payments, the car can be repossessed. But, any deficiency balance will remain, potentially leading to a lawsuit, judgment, and even wage garnishment.
Reaffirmation can also be a challenge because it sometimes must be approved by the court. That means either that the bankruptcy attorney must represent to the court that he or she has assessed the situation and believes the debtor can afford to continue to make payments on the vehicle, or that the petitioner must appear at a hearing and convince the judge that the agreement is realistic.
The third option is to redeem the vehicle. That simply means to purchase the vehicle outright from the lender, possibly for less than the outstanding balance of the loan. The amount required to redeem the vehicle is “the amount of the allowed secured claim.” In practice, that means the lower of the outstanding loan balance or the value of the car. Redemption is not common. People filing for Chapter 7 bankruptcy generally do not have enough available cash to make a significant lump-sum payment to their automobile lender.
An Experienced Attorney Can Help
In short, the best solution differs depending on the value of the car, available cash, the amount of the outstanding loan, the need to use the personal exemption or wildcard exemption for other purposes, and other factors. The best way to explore the specific options available in your case is to speak with an experienced local bankruptcy attorney. At Bond & Botes, we have been helping people get out of debt in Alabama, Mississippi, and Tennessee for decades. We offer free consultations to help you determine whether bankruptcy might be the right option for you. You can schedule yours right now by calling 877-581-3396 or filling out the contact form on this page.
Brad Botes is a principal of each of the Bond & Botes Law Offices throughout Alabama, Mississippi, and Tennessee. He holds a Bachelor of Science from the University of North Alabama, and a Juris Doctorate from Cumberland School of Law at Samford University. He and his team of bankruptcy lawyers have spent over 30 years guiding people through financial challenges. Read his full bio here.