What Happens to Your Car in Bankruptcy?
Arizona Car Exemption in Bankruptcy
In Arizona, the equity in your vehicle is exempt up to $5,000. If you are disabled, the exemption is $10,000. This applies to one car or vehicle. A married couple can double the exemption, which means two cars, each exempt up to $5,000 in equity, or one car exempt up to $10,000 in equity. Note that a married couple cannot allocate the exemption differently than that. In other words, you can’t apply $9,000 of exemption to one car and $1,000 to another car. It has to be 50/50.
By equity, we mean the value of the car that exceeds the amount of any loan on the car. So if your car is worth $10,000 and you owe $6,000, you have $4,000 in equity in the car. That $4,000 is protected from the bankruptcy court, meaning the court will not force the sale of your car to pay creditors. However, if the equity in your car significantly exceeds the $5,000 limit, the court may sell it to satisfy creditors.
What Will Happen to Your Car Loan in a Chapter 7 Bankruptcy?
If you have a loan on your car, you likely have a secured creditor. When you bought the car, you would have signed a promissory note, which is the document that says you promise to repay the debt. And the lender would have taken a lien on your car to secure the loan. Typically, this means the lender holds the title until you payoff the loan. If you default on the loan, the lender can repossess the car by exercising its lien rights.
In a Chapter 7 bankruptcy, the debt (promissory note) is wiped out, but the lien is not. Practically speaking, this means that you will need to keep making your car payments if you want to keep your car. Often, the lender will ask you to “reaffirm” the debt after the bankruptcy filing. This means the lender wants you to once again become obligated on the promissory note. Whether or not this makes sense for you to do depends on many factors and requires a unique analysis by a bankruptcy attorney.
What if Your Car is Underwater? Worth Less than What You Owe?
Option 1: Surrender the Car
If your car is really worth a lot less than you owe, you should ask yourself whether it is even worth keeping. After all, the point of bankruptcy is to eliminate debt and move on with your life. Why would you want to keep a car that is so upside down with debt?
In a Chapter 7 bankruptcy, you have the option to surrender the vehicle, essentially a voluntary repossession. And the bankruptcy will protect you from liability for the amount of debt not covered by the value of the vehicle. In some cases, this may be your best option. You will lose the vehicle, but you will also lose the debt associated with it, which is part of the “fresh start.”
Option 2: Redeem the Car
One of the really powerful features of Chapter 7 bankruptcy is the redemption right. This means that you the debtor have the right to “buy” the car from the lender for what it is worth, not what you owe. For example, if you owe $10,000 on your car, but it is only worth $4,000, you have the right to redeem it for $4,000. You get to keep the car and eliminate the excess debt. What a deal. There is one catch: you typically have to come up with the $4,000 in one lump sum. And needless to say, financing will be difficult to come by. But if you have access to the cash, this can be a great way to keep your car and eliminate debt.
Option 3: Reaffirm the Car Loan
Option 3 is usually the one preferred by the lender. Reaffirming the car loan means you will once again be obligated for the loan debt, even after bankruptcy. If you really want to keep the car, it is upside down, and you don’t have the ability to redeem, then this may be your only option.
One positive aspect of a reaffirmation agreement is that it may be an opportunity to renegotiate the terms of the loan with the lender. Since the lender is getting paid, more than in option 1 or 2 above, they may be willing to work with you a little.
Get Strategic Advice About Your Car from a Bankruptcy Lawyer.
Each person’s circumstances are different, let us help you determine the best course of action during a free consultation with our bankruptcy attorney. The good news is you have options. Call us today for an appointment.
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