Timing of Non-Vehicle Collateral Cramdown
Nov. 16, 2020
Cramdown is most familiarly known as a tool to decrease monthly payments on vehicle loans. But you can also cram down debt on other collateral.
We’re in a series of blog posts on the best timing for your filing of your bankruptcy case. Last week we got into timing the cramdown of a vehicle loan. Cramdown is a legal tool for reducing monthly payments on a debt secured by collateral. It also usually enables you to pay less on the debt overall, and eventually own the collateral free and clear.
This doesn’t just work on vehicle loans. You can cram down debts secured by purchased furniture, appliances, or just about anything else you buy on time.
The rules are similar for such non-vehicle collateral as they are for vehicles. But the timing is different.
A Creditor with A Security Interest
If you bought something on credit, you can’t just file bankruptcy, write off the debt, and keep what you bought. That is, you can’t if the creditor legally kept a right to what you bought. That right is called a security interest. That’s what allows a creditor to repossess what you bought if you don’t pay the debt that’s tied to it.
Talk with your bankruptcy lawyer whether or not a creditor has a security interest in what you bought. Each situation is different. Two transactions that look very similar can be completely different. If the creditor did not jump through the right hoops, it may not have a security interest, and you may not need to pay anything.
But assuming the creditor does have a security interest in what you bought, you have to pay to keep it. Outside bankruptcy, of course you have to pay the entire debt to keep what you bought.
Advantages and Disadvantages under Chapter 7
This situation is a little better in a Chapter 7 “straight bankruptcy” case. You have the option of surrendering the collateral and then almost always you’d owe nothing. That’s because whatever you’d owe would be discharged—legally written off permanently—a few months after your filing. You’d satisfy the creditor’s security interest by surrendering the collateral. Then you’d take care of the remaining debt by discharging it through your Chapter 7 case.
But if you want to keep the collateral, you usually have to pay the whole debt. The creditor requires you to “reaffirm” the secured loan as part of your Chapter 7 case. That means you agree to fully pay that debt. This generally means keeping the same monthly payment amount, same interest rate, and all other contract terms. Also, if you’re behind on payments you may need to bring them current quickly. This can include late fees and other charges. Hard to do when money is very tight.
Sometimes a creditor will be flexible with the loan terms in the Chapter 7 reaffirmation process. This happens more often with non-vehicle collateral. That’s because such creditors have less leverage than they’d have with a vehicle. People generally really want to hang onto their vehicle; less so with furniture and such. Plus there’s usually less money involved, and more hassle for the creditor to repossess the collateral. Non-vehicle collateral also tends to depreciate faster. So sometimes this kind of creditor is willing to negotiate about the monthly payment, interest rate, and the total amount paid. Again, talk with your bankruptcy lawyer about your specific situation.
The bottom line: under Chapter 7 if the creditor wants you to pay the full amount, you don’t have much choice. Your only real leverage: to threaten to surrender the collateral and pay nothing.
Advantages of Chapter 13 Cramdown
In contrast, a Chapter 13 non-vehicle collateral cramdown can be much better because you have tons more power and leverage. You effectively can force the renegotiation of the debt, usually on very favorable terms.
Cramdown usually reduces the total amount you pay on that debt, often significantly. The amount you pay is largely based on the value of the collateral. Again, collateral like furniture and appliances tend to depreciate quickly. This reduces the total you would pay.
That alone often enables you to reduce the monthly payments. That’s because it’s a reduced amount paid over the same length of time. Then in many situations you are also able to stretch the payments over a longer term. So you’re paying a reduced amount over a longer time, really reducing the monthly payment. And If the contractual interest rate is high, you can often reduce it. This also nudges down the monthly payment.
Finally, if you’re behind on payments you usually don’t need to catch up. And you often pay little or none of any accrued late fees and other contractual charges.
You get these benefits, IF you qualify for cramdown.
Qualifying for Cramdown
First, as with vehicle loans, non-vehicle collateral loan cramdown is only available under Chapter 13 “adjustment of debts.” It is a tool not available in a Chapter 7 case.
Second, cramdown is available on a broad category of collateral. The law says cramdown applies to “collateral [which] consists of any other thing of value” other than a “motor vehicle.” U.S. Bankruptcy Code, Section 1325(a)(hanging paragraph after (9)). So the collateral can essentially be anything of value other than a vehicle.
Third, cramdown makes the most sense when the collateral is worth less than you owe on it. That is by far the most common situation. That’s because collateral often depreciates faster than you pay down the debt.
In the unusual situation where collateral is worth more than the debt, cramdown is either not helpful or of more limited benefit. The total amount paid on the debt would not be less. There’s no cramming down of the debt amount to the value of the collateral. But if the number of months of payout can be increased, the monthly payment amount could be reduced. This happens if the length of the 3-to-5-year payment plan is longer the remaining length of the loan contract.
The Timing Qualification
The final qualification is the timing one. The loan must be more than 1-year old when you file your Chapter 13 case.
What happens if you file your Chapter 13 case before your loan is a year old? You can’t do a cramdown on that debt. You’re stuck with the regular payments, interest rate, and full balance to pay. You generally want to qualify for cramdown if you can.
However, there are usually other timing considerations involved in choosing when to file bankruptcy. Some may be more important and/or may involve more money than this one consideration. Use the knowledge and experience of your bankruptcy lawyer to understand the different considerations and to file your case at the best time.