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Filing for bankruptcy is a serious decision that can damage your credit for as long as a decade, depending on the type of bankruptcy. But if you're drowning in debt you can't pay, it can serve as a last resort to help you hit reset on your finances.
What happens to your car during bankruptcy depends on factors such as what type of bankruptcy you file, if your vehicle is financed, if you're up to date on payments and how much equity you have in your vehicle. Here's what you need to know.
Can You File Bankruptcy and Keep Your Car?
First, there are two main types of bankruptcy: Chapter 7, which can liquidate some of your assets to repay creditors, and Chapter 13, which reorganizes your finances to repay some or all of your debts while allowing you to keep more assets.
Several factors determine if you can keep your vehicle through the bankruptcy process. Since your vehicle is considered an asset, and potentially a valuable one, it's something creditors may pursue when looking to collect debt. Your vehicle may, however, be counted under an exemption that protects it from repossession.
In general, the following is considered to determine if you'll be able to keep your car:
- The type of bankruptcy you're filing
- Whether you own, lease or are still financing the vehicle
- The value of the vehicle
- If you're current on loan payments or can afford to continue them
- What exemptions apply where you live
Can I Keep My Car if I File Chapter 7 Bankruptcy?
It's possible, but it depends on a few things. Filing for Chapter 7 bankruptcy can clear some unsecured debts, but it may also require selling or giving up some assets to pay debts. Vehicles are often exempt if they're necessary for you to maintain a job and household, though exactly what and how much is exempt will vary by state.
If you file for Chapter 7 bankruptcy, refer to your state bankruptcy statutes for exemption rules. If your state allows an exemption for all of a car's equity, or your state's exemptions cover you fully, you can keep the vehicle as long as you're current on loan payments or if you own the car outright.
You can calculate your vehicle's equity by subtracting your current loan balance from the car's value. Vehicles depreciate fairly quickly, so you may not have much equity unless your loan term is almost over. If you own the car outright, its fair market value is its equity.
If the equity in your car exceeds the exemption limit, a few different things can happen.
- Your bankruptcy trustee can sell your vehicle, give you the exempted amount and repay creditors with the remainder. They might give you the option to pay off the nonexempt equity at a discount to keep the car.
- If you're behind on car loan payments, the lender can repossess the car since being delinquent nullifies exemption protections. But you may be able to keep the car reaffirming or redeeming the loan; more on that below.
- You could surrender your vehicle to the lender, removing your responsibility from the auto loan after bankruptcy. However, this leaves you without a vehicle and will have credit consequences similar to repossession.
Learn more >> What Is Chapter 7 Bankruptcy?
Can I Keep My Car if I File Chapter 13 Bankruptcy?
It's possible to keep your car if you file Chapter 13 bankruptcy as well, and you are also subject to your state's exemption limits. But rather than liquidating nonexempt assets to repay creditors like with Chapter 7, you'll enter a debt repayment plan. Your property isn't sold off; instead, your finances are reorganized and you'll begin a formal repayment period of three to five years.
Once that period ends, some remaining debts can be discharged—meaning you don't have to pay them anymore. Not all debts can be discharged, however. Credit card and medical debt can be discharged, for example, but mortgages and student loans cannot.
Your debts go into several different categories that determine how much of each has to be repaid. You can keep property with secured debts, like vehicles, as long as you catch up on loan payments and then remain current. The amount you owe on your car loan may be reduced in the Chapter 13 bankruptcy process if you owe more on it than its current value.
Keep in mind that if you can't catch up on your auto loan or afford payments anymore, the lender can repossess it, or you can get out of payments by surrendering the car back to the lender. However, these come with negative credit consequences.
If you own your car outright, and its value comes in under your state's exemption limits, you'll be able to keep it. If it exceeds exemption limits, you can keep it if you're able to pay for the remaining nonexempt equity as part of your bankruptcy payment plan.
Learn more >> What Is Chapter 13 Bankruptcy?
What Happens to Your Car Loan When You File Bankruptcy?
What happens to your car is one thing, but if it's financed, what about the loan itself? It depends on a few factors.
In a Chapter 7 bankruptcy, if your car is financed, you can surrender it (return it) to the lender. The loan is discharged, so you have no more car loan, but also no more car.
If you file Chapter 7 and are current on payments, you can keep the car if your equity is protected under state law. If your equity isn't protected and/or you're behind on payments, you can lose the car. In cases where you're keeping a car with a loan on it, make sure you continue to make payments; the lender can still assert its lien rights if you get behind on payments and you could lose your car.
In Chapter 13, you also have the option to surrender a financed vehicle back to the lender, which frees you from the loan. On the other hand, if you pay off your car loan while you're in your Chapter 13 repayment period, you'll own it free and clear.
How to Declare Bankruptcy and Keep Your Car
While it's not always possible to keep your car after declaring bankruptcy, there are several ways to make it happen.
For Chapter 7, to keep your car, it must be protected by state bankruptcy exemptions. Additionally, your loan payments must be current and you need proof you can afford the car payments following your bankruptcy.
For Chapter 13, to keep the car, it must either be protected by exemptions, or you must have the ability to pay creditors for the equity that's not exempt. You don't have to be current on car loans, but you must make on-time monthly payments and catch up on past-due payments. You also have to be able to meet your other payments required by the repayment plan.
If your car is financed, you could have two other options that can help you keep your car in bankruptcy:
- Redemption: In this process, you pay the lender a lump sum of the car's value (not your loan balance) to keep it. After doing so, you own the car free and clear. If you owe much more than the car is worth, this may be a smart option (if you have enough cash on hand to cover the lump-sum payment).
- Reaffirmation: If you want to keep your car and are certain you can afford payments, another option is to reaffirm it with your lender. This entails signing a new contract that often has the same terms as your prior car loan, and it ensures the car won't be repossessed so long as you keep paying on time.
How Does Bankruptcy Affect Credit?
Both Chapter 7 and Chapter 13 bankruptcy can severely damage your credit for many years to come, so filing shouldn't be taken lightly.
Chapter 7 bankruptcy stays on credit reports for 10 years, while Chapter 13 bankruptcy sticks around for seven years. This means even nearly a decade after filing, potential creditors, lenders, landlords, utility companies and others legally allowed to view your credit will be able to see the bankruptcy on your report. Having bankruptcy in your history can cause you to be denied for new applications, such as for loans or credit cards. If a lender or creditor does approve you, you may face high interest rates or fees.
Note that different choices made in bankruptcy can impact your credit in varying ways. For example, both voluntarily surrendering your car and getting your car repossessed both hurt your credit, but a surrender can be less damaging.
Once you file for bankruptcy, it's wise to start monitoring your credit regularly so you can see how it's impacting your credit and catch any errors or fraud that could harm your credit. During and after the bankruptcy process, it's wise to make efforts to rebuild your credit. If you pay all of your bills on time, avoid overspending and use future credit accounts responsibly, you can slowly nudge your credit score back up.
Learn more >> How Does Filing Bankruptcy Affect Your Credit?
