Reaffirmation of Vehicle Loans in Chapter 7 Bankruptcy Cases

Individuals filing for Chapter 7 are generally concerned about keeping their vehicle, and for good reason: they need a vehicle to get to and from work. It is important to understand the risks associated with entering into a reaffirmation agreement and the effect on your bankruptcy discharge.

What is a Reaffirmation Agreement?

When you reaffirm a vehicle loan, you are entering into a new contract that replaces the original loan agreement and obligates you to remain personally liable for the debt. You will remain personally liable for the debt and for any deficiency balance should you default. A deficiency balance is the amount of the debt remaining after the repossession and sale of the vehicle at an auction.

Consider the following example. John Smith files a Chapter 7 bankruptcy. When Mr. Smith files his case he owns a car with an outstanding loan balance of $12,000. Mr. Smith wants to keep his vehicle, so he reaffirms the debt in his bankruptcy and continues making the monthly payments. Six months after his bankruptcy has concluded, Mr. Smith is laid off and is unable to keep up with the payments. The lender repossesses the car and sells it at auction for $5,000. Assuming the bankruptcy court approved Mr. Smith’s reaffirmation agreement, he will still be personally liable for any amounts still owing on the loan after the lender applies the sale proceeds to the loan balance. The lender can sue Mr. Smith for the deficiency balance and seek to garnish his wages and take other collection actions, despite Mr. Smith’s bankruptcy.

Should I Reaffirm My Vehicle Loan?

The answer to this question is “it depends." Currently, debtors are required to sign reaffirmation agreements for personal property that is collateral for a debt that the debtor does not want to redeem.

Here are some factors to consider when deciding to sign a reaffirmation agreement on a car:

1. Do you owe more on your car than it is worth?

If so, you should consider letting the car go. If the car is in an accident and is a total loss, your insurance may only pay the value of the car, leaving you owing the difference to the lender. You will still be liable for this deficiency.

2. Can you afford the monthly payments?

You really need to be honest with yourself. You are likely in bankruptcy because your expenses are greater than your income. If you feel there is a chance in the future that you will not be able to afford the payments, you should consider letting the car go and finding a cheaper alternative.

3. How long will it take to pay off the remainder of the loan?

The number of payments remaining on the loan will factor into your decision. For example, if your car will be paid off in six months, it may be a good idea to reaffirm the vehicle, as the payments will have a positive effect on your credit score. If there are still five years remaining on the contract, you should consider surrendering the vehicle. A lot can happen in five years.

4. Is there a cross collateral agreement with the lender?

Cross collateral agreements link all your debts with a particular creditor to the underlying collateral. For example, it is common to have a credit card and car loan with the same credit union. A cross collateral agreement will tie the credit card to the car. If you pay off the car and still owe on the credit card, the credit union will not release the lien on the vehicle until you pay off the credit card.

Does My Attorney Have to Sign the Reaffirmation Agreement?

You attorney must sign the reaffirmation agreement to avoid a hearing. However, some attorneys refuse to sign the agreements to protect the debtor. Depending on the circumstances of the case, it is generally in the debtor’s best interest for the attorney to not sign the agreement. How does this protect you? If the attorney does not sign the agreement, the court will hold a hearing to determine if the reaffirmation agreement is in your best interest. If your judge does not approve the reaffirmation agreement it does not mean you will lose your vehicle: you keep your vehicle if you keep the payments current and keep it insured. More importantly, the lender cannot sue you for a deficiency if you later default. The only downside is that the payments you make post-bankruptcy are not reflected on your credit report.

Bankruptcy court tend to deny most reaffirmation agreements as they are not in the debtor’s best interest. The process is a bit counterintuitive, but a denial of the reaffirmation agreement allows you to keep your vehicle provided you keep your payments current and also protects you from any deficiency liability should you default after your bankruptcy.

Can I Change My Mind After Signing the Reaffirmation Agreement?

You can cancel (rescind) the reaffirmation agreement as long as you notify the creditor before (1) the court grants your discharge, or (2) 60 days after the reaffirmation agreement is filed with the court—whichever occurs later.

Summary

The reaffirmation process is counterintuitive. Reaffirmation is for the benefit of the creditor and an approved reaffirmation agreement means the debt is not discharged in your bankruptcy. Deficiency balances on vehicles can be very large, and debtors should be cautious about giving up a portion of their discharge. A debtor can keep their vehicle by keeping the payments current and the vehicle insured even if the bankruptcy court denies the reaffirmation agreement. Debtors should consider all the risks associated with a reaffirmation and consult with an attorney before deciding to enter into a reaffirmation agreement.