The decision to file for bankruptcy often depends on what type of debt an individual is seeking relief from. Whether a debt will be discharged in bankruptcy will depend on what form of bankruptcy is filed (Chapter 7 or Chapter 13) as well as whether the debt is secured or unsecured.
Understanding the differences between these kinds of debts will help a person choose whether to file for bankruptcy (as opposed to an alternative option), and it may also affect the timing of when they file.
This kind of debt gets its name by being “secured” with some form of collateral, usually the very property that is being purchased with the loan. Most people are familiar with this form of debt appearing in home mortgages and car loans. When a creditor offers a secured loan on a home, they attach that home to the debt as collateral. If the debtor stops making payments on the loan, the creditor is within their rights to repossess the home and sell it to regain their loss. This happens through a foreclosure proceeding.
Likewise, a car loan that is secured by the vehicle will give a creditor the right to repossess the car if the debtor ever falls behind on their payments. As one can imagine, these types of loans are favored by creditors because it gives them the option of selling the collateral property if the borrower is unable to make payment. As such, it’s common to see these loans offered at lower interest rates and to a wider section of the population than unsecured debt.
This is the opposite of secured debt. Unsecured debt is exactly what it sounds like, debt that is not secured by a piece of collateral. When a borrower falls behind on this type of debt, the creditor’s options are limited to collection attemps or lawsuits, both of which can be costly endeavors. For these reasons, unsecured debt is generally offered at a higher interest rate or in lower amounts than what is typically offered in the form of a secured loan.
Most debts are unsecured, and some common examples include:
- Credit card debt
- Student loans
- Medical bills
- Personal loans
While these are typically some of the most common forms of debt that lead a person to file for bankruptcy, it’s important to note that not all unsecured debt will be discharged. Depending on the kind of bankruptcy petition filed and the nature of the debt itself, certain debts are deemed non-dischargeable. It’s vital for a person considering filing to understand how each of these debts are handled in the different bankruptcy proceedings.
Chapter 7 and Secured Debt
When a person files for Chapter 7 bankruptcy they will be relieved of liability for their secured debts. However, this does not mean that they will get to keep the property that has secured the loan in the first place. Although the automatic stay will halt any foreclosure proceedings at the time of filing a bankruptcy petition, a creditor is still within their rights to resume this action once the bankruptcy process is complete.
Anyone filing for Chapter 7 that does want to keep their home will need to first determine how much equity they currently have in the home. If there is enough equity in the home to pay off their other debts, it’s possible that they will be disqualified from filing for Chapter 7 and their case may be converted to Chapter 13. However, with the right amount of equity, and with the borrower being current on their payments at the time of filing, they may choose to “reaffirm” this debt.
A reaffirmation is an agreement between the debtor and the creditor stating that the debtor will remain liable for the remainder owed on this specific property, despite this debt being otherwise eligible to be discharged in bankruptcy. In exchange for this acknowledgment by the debtor, the creditor agrees that it will not repossess or sell the property so long as the debtor continues to pay the debt.
If such an agreement can be reached, and the debtor is able to continue making timely payments, they will be able to keep the property after the conclusion of the bankruptcy proceedings. If the debtor falls behind on payments after the reaffirmation, the creditor will again be permitted to repossess the property to recover their loss.
Chapter 7 and Unsecured Debt
Aside from those debts that have been deemed non-dischargeable by the federal bankruptcy code, most unsecured debt can be completely wiped out through a Chapter 7 bankruptcy. In fact, this is the primary reason many people file for Chapter 7 to begin with.
It is very important to note that only unsecured debts that are named in the bankruptcy petition will be eligible for discharge. This is because creditors need to be given notice of an impending bankruptcy and given an opportunity to object to their debt being a part of the proceeding. It’s best to consult with an experienced attorney who will be able to ensure that all of the forms and paperwork required to successfully complete the bankruptcy proceeding are accurately and fully filled out to avoid objections of this nature.
Chapter 13 and Secured Debt
Chapter 13 bankruptcy differs from Chapter 7 in that rather than liquidating one’s assets to pay off creditors, a person filing for Chapter 13 will need to put together a repayment plan to be approved by the courts. This plan will need to set out a course for the debtor to repay their debts over the next three to five years.
In order for this plan to be accepted by the courts, it will need to show that all secured debts will be paid in full, or in the case of something like a home mortgage, paid according to the original schedule of the loan. The maximum amount of secured debt permitted in a Chapter 13 bankruptcy proceeding is currently $1,184,200.
There are some advantages to choosing to file for Chapter 13 when dealing with a high amount of secured debt. Although the debt itself will not be wiped out, a person facing foreclosure will be given time to catch up on their payments and prevent repossession of the property. For this to succeed, the person filing for bankruptcy will need to show enough income to cover their payments throughout the course of the repayment plan.
Chapter 13 and Unsecured Debt
Chapter 13 is designed to allow a person time to repay all of their debts, whether secured or unsecured. However, it is possible to pay a lesser amount on certain unsecured debts and have the remaining amount that is owed discharged at the completion of the Chapter 13 repayment plan.
Only debts that are not considered “priority debts” will be eligible for this reduced payment. Priority debts are always non-dischargeable and include debts like child support and certain income tax obligations. If an individual’s Chapter 13 repayment plan can account for fully repaying all secured debts as well as all priority debts, depending on their finances a court may approve a lesser repayment on the remaining unsecured debts, which can include important items like credit card charges and medical bills.
This determination will be based on a person’s “disposable” income, which is calculated by subtracting all necessary expenses from their income and seeing what is left over. If there is enough disposable income to cover all debts, secured and unsecured, then the courts will require this repayment. If disposable income falls short of paying all unsecured debts, but still covers all secured and priority debts, then it’s possible the court will still approve the repayment plan.
Figuring out one’s income and knowing what expenses can be deducted in calculating disposable income requires in-depth knowledge of the law and bankruptcy procedures. Compiling this information incorrectly can result in delays or even dismissal of the bankruptcy case.
The best way to develop a strategy that will allow for the most amount of debt to be discharged while retaining the highest amount of disposable income is to consult with an experienced attorney that understands the rules and the process. At Rosenblum Law our attorneys are ready to help, call us today.
Lenders will usually charge a “prepayment penalty” to anyone looking to pay off a loan early. Depending on a person’s specific financial situation, this still may make sense when compared to the amount of interest they might have to pay while sticking to the original repayment schedule.
No. A creditor holding an unsecured debt from credit card charges cannot go after your home as it was never attached to the debt as collateral. However, it should be noted that a creditor who obtains a judgment against someone for not paying a debt will be able to go after some of the debtor’s property by employing a bailiff to seize the items.
There is no specific danger to getting an unsecured loan. In fact, in some ways they are “safer” for the borrower because they don’t pose the risk of losing some piece of property that has been attached to the loan as collateral. However, since these loans aren’t as appealing to creditors, they typically come with higher interest rates and worse terms compared to a secured loan.
The creditor will be able to sue you and obtain a money judgment. They can then attempt to collect on this judgment through various means including wage garnishments and bank levies.
New Jersey has a statute of limitations on debt collections of six years. If a creditor has not yet initiated a lawsuit to recover the debt within this timeframe, they will be barred from doing so and forced to write off the debt.