Keeping a car in Chapter 7 bankruptcy is a top priority for almost all filers. Your ability to do so will depend on:
Learn more about property in bankruptcy.
A Chapter 7 bankruptcy isn’t intended to deprive you of all of your property. Bankruptcy laws, called exemptions, let you keep a certain amount of your property to make a fresh start. Almost all people need a car to get to work, and most states have a motor vehicle exemption that will let you keep a modest vehicle.
Each state has a set of exemptions, and the protections vary widely. Some states even allow a filer to choose between the state and federal bankruptcy exemption system. A filer can use whichever system will work best. While you keep exempt property, what will happen to your nonexempt property—property not protected by an exemption—will depend on the chapter you file. In Chapter 7, the trustee sells your nonexempt property for the benefit of your creditors. If your property is exempt, the Chapter 7 bankruptcy trustee can’t take it. Learn more about your property and exemptions.
Whether you’ll be able to keep your car will depend on the exemption amount allowed by your state, as well as the amount of equity in it. For instance, if you own a car worth $5,000 and your state’s motor vehicle exemption is $7,000, the vehicle will be fully protected.
If you have a car loan, the exemption amount only needs to protect the amount of equity you have in it—not the entire value. So if you have a car worth $15,000, but you owe $10,000, then you only have $5,000 of equity in the vehicle. You’ll be able to protect it if your car exemption is $5,000 or higher.
In Chapter 7 bankruptcy, here’s what the Chapter 7 bankruptcy trustee appointed to your case will do if you can’t protect all of the vehicle’s equity:
Your creditors will receive the remainder after the trustee deducts sales costs and fees. The trustee won’t sell the car if, after deducting these costs, nothing remained for creditors. This process is known as abandoning the property.
Example 1. Suppose you own a car outright worth $5,000, so your equity is $5,000. Your state allows a $6,000 car exemption. You can fully protect the equity and keep your vehicle.
Example 2. Suppose again that you own a car with $5,000 in equity. However, your state only allows a $2,000 car exemption and doesn’t have a wildcard exemption. The bankruptcy trustee will take your car and sell it. From the sales proceeds, the trustee will pay you your $2,000 exemption amount. The trustee will deduct the amount remaining after subtracting sales costs and the trustee fee.
Many states have a “wildcard” exemption that you can use towards any property. If the motor vehicle exemption is not enough to cover your car equity, you might be able to protect the entire amount using a wildcard exemption.
The trustee won’t sell your car unless there’s enough equity to pay off the car loan balance, give you the exemption amount, and still have funds for creditors after paying fees and costs. Even if there isn’t enough money in the car to justify selling it, you’ll face another hurdle—you’ll need to be current on payments. Here’s why.
Most people don’t have the cash to buy a car outright. In exchange for the loan, the lender takes an ownership interest in the vehicle using a lien. The vehicle becomes collateral for the loan. If you don’t pay according to the contract terms, the lender has the right to recover the car.
Filing for bankruptcy doesn’t remove a car lien. If your payments aren’t current when you file, the lender can make a motion asking the bankruptcy court to allow repossession or wait to get the vehicle until the automatic stay gets lifted when the Chapter 7 case ends. In some cases, you might be able to work out a deal with the lender when reaffirming the loan (more below), but you can’t depend on it. Chapter 7 doesn’t have a mechanism to help you get caught up on a payment. Unlike Chapter 7, Chapter 13 allows you to make up missed payments over time so you can keep the vehicle.
Example1. Suppose you have a car worth $5,000 but you still owe $6,000 on your auto loan. Because you owe more than it’s worth and the lender gets paid first, the trustee won’t take the car. You’ll be able to keep it as long as your payments are current.
Example 2. Suppose your car is worth $10,000. You owe $4,000 on your car loan, and you’re behind four payments. You’ll need a motor vehicle or wildcard exemption of at least $6,000 to protect the equity and prevent the trustee from selling it. But the lender can still take the car back because of the late payments. In this case, you might want to consider Chapter 13. It can help you catch up on payments over time and can keep the car. It’s likely the better option.
Do you want to pay less than what you owe? Find out about redeeming a car for its actual value in Chapter 7.
If you can’t exempt all of the car equity, you still might be able to keep it. If little remains for creditors after deducting the sales costs and the trustee’s fee, the trustee will likely abandon (decide not to sell) the car.
Also, some trustees will let you pay to keep your car. For instance, the trustee might agree to give you a few months to pay for the equity minus sales costs. Debtors usually use the income earned after the bankruptcy or get a loan from friends or family.
In addition to making your regular car payments, your lender could require you to “reaffirm” your car loan. Even though the car lender’s security interest in the vehicle is unaffected by your bankruptcy, a Chapter 7 discharge eliminates your liability to pay the contract price. If the lender repossesses the car and doesn’t get enough at auction to cover the outstanding balance (deficiency), the lender can’t sue you for it.
The downsides to not signing a reaffirmation are that your payments won’t show up on your credit report, and the lender can take the car back for any reason—even if you’re current on the payments.