Keeping Collateral Under Chapter 13, to Potentially Surrender It Later

Law Office of Robert L. Firth June 22, 2015

What if you want to keep your home or vehicle, but might not be able to do so later? If important enough, Chapter 13 may be worth it to you.

The Straightforward Surrender

If you’ve decided to surrender your home, vehicle, or any other collateral that you no longer need or want to pay for, filing a Chapter 7 “straight bankruptcy” is usually the simplest way to go.

With a home, your debts with liens on the home’s title are either discharged (legally written off) in the bankruptcy case—such as 2nd mortgages, judgments, utilities—or else are paid off by the mortgage lender after its gets back the real estate—such as property taxes and homeowner association dues.

With your vehicle loan, the “deficiency balance”—the often-large amount you would usually owe after the creditor would sell the vehicle and apply the sale proceeds to the loan balance—is discharged under Chapter 7. You give up the collateral but you are quickly freed of the debt as well.

The Delayed Surrender

But what if you want to keep your home or vehicle, and think that there’s a good chance that upcoming changed circumstances may well change your mind? For example, what if you have concerns about how long your current job will last and fear that you won’t be able to afford to pay for your home if you lose your job?

Under Chapter 7 if you were behind on your home mortgage you would usually have to catch up on the back payments within a matter of a few months. Same thing with a vehicle loan, except you would likely have only a month or two to catch up.

In contrast, under Chapter 13 you generally would have as much as three to five years to catch up on back mortgage payments. Same thing with vehicle loans, except that in some situations you wouldn’t need to catch up at all on missed payments at all, AND could reduce your monthly payments, as well as reduce the total you’d pay on the loan before owning the vehicle free and clear.

So with both home and vehicle loans, because under Chapter 13 the catch-up payments are spread out longer or eliminated, you would very likely pay less on the loans during the first several months of a Chapter 13 case. So, if you’d lose your job a year later, resulting in your inability to maintain the necessary payments and your eventual surrender of the home or vehicle, you would have paid less (in catch-up payments) to hold on to the home/vehicle during that period. Also, if and when your circumstances change (such as losing your job) you have some options: your Chapter 13 payment plan could be amended to deal with the changed circumstances, you may qualify for an early “hardship discharge” of your debts, or you could convert your case into a Chapter 7 one. You have some ongoing flexibility under Chapter 13.

That Flexibility Comes at A Price

One downside is that Chapter 13 costs more in fees than a Chapter 7 case, often double or triple, or more. The attorney fees are much higher because of the significantly more effort involved in putting together the payment plan and getting it approved by the court. Plus the attorney works for you over a period of years instead just of a few months. In addition, the Chapter 13 trustee receives a percentage of what you pay to the creditors. So what you may save by paying less in mortgage or vehicle payments may be at least partially offset by these higher fees.

Also, after the surrender of the home or vehicle you may decide to stay in the Chapter 13 case if you would have other reasons for doing so, such as to pay income taxes or catch up on back child support while under bankruptcy protection. If you do stay in your Chapter 13 case, under some circumstances you may be required to pay a portion of the debt remaining on the surrendered home or vehicle (instead of simply getting that debt discharged under Chapter 7). That obligation to pay part of the debt(s) would often NOT increase the total amount you would pay into your Chapter 13 case (because you may simply pay the other creditors that much less).

And maybe most importantly, Chapter 13 is a much more complicated and lengthy solution compared to the streamlined and quick Chapter 7. It’s seldom worthwhile to go through all the effort of putting together and getting court-approval of a Chapter 13 plan if you are not going to finish the case successfully.

In the right circumstances, filing a Chapter 13 case can give you some flexibility. But you and your attorney need to carefully consider whether the downsides are worth the potential benefits.