Secured Debt in Bankruptcy: No Free Lunch

Secured Debt in Bankruptcy

If you are considering filing for bankruptcy your first questions will likely revolve around how the process will affect your property. Will I be able to keep my car? Will I be able to stay in my home? A rudimentary understanding of the difference between unsecured and secured debts is very helpful if you want to take the most information away from a meeting with a bankruptcy attorney.

As a general rule, unsecured debt is wiped out by filing bankruptcy, whereas previous obligations to pay secured debts will remain if you retain the property that serves as collateral for the loan. In other words, bankruptcy does not relieve you of the obligation to pay secured debt if you wish to retain the underlying property. If you own a home or car and wish to keep the property, you may be able to do so as long as you continue to make monthly payments (and can afford to do so) and the property is exempt. Bankruptcy has numerous advantages, however, filing does not relieve you of your obligation to pay the mortgage. It is important to understand how the process impacts different types of debt.

Secured debt, such as a car or home loan, is characterized by the lender’s interest in an underlying piece of property. When entering into a secured debt, you not only agree to make payments on a loan, you agree further that your lender may take an asset from you in the event payments are not made. The lender is “secured” because in the event you default, they can take your property from you and sell it in satisfaction of the loan. In most cases, you have personally guaranteed the difference and the lender will be able to pursue any deficiency in the sale price from you personally as well. Secured debts are not wiped out in bankruptcy unless you agree to surrender or give back the property that serves as collateral for the loan. If you want to keep your car or home, you will be required to make the monthly payments after bankruptcy. In some cases, these payments may be able to be modified through a chapter 13 plan.

Unsecured debt, such as credit card debt is a different animal altogether. In contrast to its more handsome secured brother, unsecured debt suffers from an inferiority complex, always worrying about people skipping out at the last minute. Unsecured lenders have no immediate remedy in the event a borrower doesn’t pay and charge a higher rate of interest for the additional risk. For example, credit card companies have no recourse immediately after a borrower goes into default. In the vast majority of cases, there is no security agreement protecting the bank’s position. They have lent you the money under risky terms and they know it, hence the lovely 28% interest.

When a borrower defaults on an unsecured debt, the lender’s first goal will be to become secured. How do they accomplish this? By suing you, obtaining a judgment and going after your property or attempting to garnish your wages. Filing a bankruptcy will usually eliminate these judgments and stop wage garnishments. Medical bills are another common form of unsecured debt which in most cases will be eliminated by filing bankruptcy.

The important thing to remember is if you want to keep a home or car through bankruptcy, it may be possible, BUT be prepared to continue to make the monthly payments or the lender can take back the property.