Upside Down on Car Loan – Chapter 13 Cram Down Provisions and Chapter 7 Redemption

Customers often find themselves in need of debt relief due to a bad car loan payment.

Contemporary society demands owning and maintaining a car which sometimes develops into a devastating financial burden. Lenders are quick to finance vehicles knowing that borrowers prioritize moving cars over most other financial obligations. Even borrowers with bad credit are hooked up to auto financing packages at high interest rates to compensate lenders eager for the extra risk.

Financial difficulties often arise from car financing. Happy Car Buyer Drive New From Lot Almost 100% Financed. As the saying goes, almost immediately after that, a new car depreciates several thousand dollars before it even hits the highway.

Motoring costs $4,000.00 to $6,000.00 per year including auto loan payments, liability and collision insurance, repairs and maintenance, and gasoline.

Havoc begins when an unexpected out-of-warranty car repair, or car accident, unexpectedly and dramatically causes the car’s value to drop below the loan balance owed to the bank. Or, perhaps more innocuously, at a new car swap where enthusiastic car salespeople and lenders agree to take your old car in a trade-in, and throw the remaining balance of your old car loan (for a slightly higher payment) on the back end of the new car loan you make the car buyer. The new car is pretty much “upside down” when buying a new car.

These situations leave the borrower in the bin as large portions of the income are set aside to cover the unsecured car debt obligation which is useless in defraying the modest costs of the necessities of family life.

Under certain circumstances, relief from these devastating financial predicaments can be obtained by filing for bankruptcy.


Under Chapter 13 of the US Bankruptcy Code, debtors are allowed to “lower” the unsecured portion of their auto loans to the fair market value of the vehicle that is securing the loan. This requires the debtors to repay only the secured portion of the auto loan, but the unsecured balance is treated as an unsecured general creditor providing significant interest to the debtor, allowing the debtor to repay only a small portion of the unsecured portion of that auto loan debt that is owed.

For example, suppose our debtor owns a car worth $10,000.00 and there is a car loan with a payment balance of $20,000.00. In this scenario, the loan is only partially secured. The auto lender is only secured up to the value of the car or $10,000.00. The remaining balance of $10,000.00 on the loan is unsecured. In this case, bankruptcy law gives the debtor the right to cut off the unsecured portion of the car loan and treat that portion of the loan as unsecured. Therefore, if the unsecured general creditors only receive 20% dividends, the auto lender will receive only $2,000.00 on the unsecured portion of the auto loan.

These situations become thorny between the debtor and the lender because disagreements often arise over the correct value of the car. Your bankruptcy attorney will need to negotiate an assessment settlement before confirming the debtor’s Chapter 13 plan.

The assessment is directed by the provisions of the United States Bankruptcy Code, specifically 11 US Code § 506 – Safe State Determination.

Section 11 USC §506(a)(2) specifically states:

“If the debtor is an individual in a case under Chapter 7 or 13, such value in respect of personal property securing a permitted claim is determined on the basis of the alternative value of such property as of the date of the petition without deduction for selling or marketing costs. In respect of property acquired for purposes personal, family or household, the replacement value shall mean the price charged by the retailer for property of this nature having regard to the age and condition of the property at the time value ascertained.”

The Cram Down clause under the Bankruptcy Code also provides for a lower interest rate on an auto loan. Debtors often find themselves shelling out on huge auto payments that are used to cover the exorbitant interest rates auto lenders often charge precarious borrowers.

An interesting exception was enacted by the 2005 Amendments to the United States Bankruptcy Code that prohibit underpayments where the cash car loan was originated within 910 days (two and a half years) of the date of filing for Chapter 13 bankruptcy. [see 11 U.S.C §1325(a)(9)]. Debtors should consider the timing of a Chapter 13 filing if they wish to escape the onerous debt burden of an auto loan. Bankruptcy rules require that auto loans taken out be repaid within two and a half years of filing for bankruptcy as agreed.

Chapter 7 Redemption

Cram downs are not allowed under Chapter 7 bankruptcy (or “outright bankruptcy”). But, Chapter 7 debtors are allowed to “redeem” their personal property under 11 USC §722.

11 USC §722 states that:

“An individual debtor may … recover tangible personal property intended primarily for personal, family, or domestic use, from a mortgage securing a non-chargable consumer debt, if such property has been exempted under Section 522 of this title or given up under Section 554 of this right.” , by payment to such lien holder of the amount of the secured claim permitted by such holder secured by such lien in full at the time of redemption.” Affirmations added

However, repayment can be difficult under Chapter 7 because debtors must make a full cash advance enough to pay off the secured portion of the car loan measured at the fair market value of the car at the time the debtor seeks payment. The Car. Chapter 7 does not allow for loan restructuring, but sometimes an auto lender will accept payments over time, but usually within a short period.


If your car is worth less than what you owe on it, bankruptcy options can be helpful in getting you to keep your car and move toward better financial health.

Chapter 13 can reduce or “deflate” your loan balance and interest rates, thus lowering your auto payment making it more affordable. Chapter 13 also enables you to restructure past due auto payments and spread them over the life of your Chapter 13 plan so that you can catch up on past due payments within your personal financial means.

Chapter 7 Bankruptcy does not accommodate loan repayment restructuring, but 722 recovery provisions allow debtors to purchase their cars after bankruptcy for the fair market value of the car, leaving the unsecured portion of the debt that was paid off under Chapter 7 Bankruptcy.

Source by David S. Stern, Esq

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