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


Customers often need debt relief because of a car loan gone bad.

Modern society necessitates owning and maintaining an automobile which sometimes turns into a devastating financial burden. Lenders finance vehicles quickly, knowing that borrowers prioritize car transportation over most other financial obligations. Even borrowers with bad credit are being rolled into car finance packages at high interest rates to compensate aggressive lenders for the added risk.

Financial difficulties often come from automobile financing. The happy car buyer takes their new vehicle out of the nearly 100% financed lot. As the saying goes, almost immediately afterwards the new vehicle depreciates by several thousand dollars before it even hits the highway.

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

The havoc begins when an unexpected car repair not covered by warranty, or a motor vehicle accident, unexpectedly and substantially decreases the value of the vehicle well below the outstanding loan balance owed to the bank. Or, perhaps more innocuously, in a trade-in for a new vehicle where eager car salesmen and lenders agree to trade in your old vehicle and throw away the unpaid balance of your old car loan (for a slightly higher payment) on the back end of your new auto loan leaving the new car buyer significantly “upside down” on the purchase of the new vehicle.

These situations leave the borrower in a tight spot where significant portions of their income are spent on covering unsecured auto debt that is of no use in supporting the modest costs of family life necessities.

In certain circumstances, relief from these devastating financial difficulties can be obtained through a bankruptcy filing.


Under Chapter 13 of the United States Bankruptcy Code, debtors are permitted to “reduce” the unsecured portion of their auto loans to the fair market value of the vehicle securing the loan. This forces debtors to repay only the secured portion of the auto loan, but the unsecured balance is treated as a general unsecured creditor providing a substantial benefit to the debtor, allowing the debtor to pay only a small fraction of the unsecured portion. auto loan debt guarantee. which is due.

As an example, suppose our debtor has a car worth $10,000.00 and there is a car loan with a repayment balance of $20,000.00. In this scenario, the loan is only partially secured. The auto lender is only guaranteed to the extent of the value of the vehicle or $10,000.00. The remaining balance of $10,000.00 on the loan is unsecured. In this situation, the Bankruptcy Code grants the debtor the right to cut off the unsecured portion of the auto loan and treat that portion of the loan as unsecured. So, if the general unsecured creditors only received a 20% dividend, the auto lender would only receive $2,000.00 on their unsecured portion of the auto loan.

These situations become delicate between the debtor and the lender because often disagreements arise as to the correct value of the vehicle. Your bankruptcy attorney will need to negotiate a settlement on the appraisal prior to confirmation of the debtor’s Chapter 13 plan.

The valuation is guided by the provisions of the United States Bankruptcy Code, in particular 11 US Code § 506 – Determination of Secured Status.

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

“If the debtor is an individual in a case referred to in Chapters 7 or 13, that value in respect of movable property securing an admitted claim shall be determined on the basis of the replacement value of such property on the date of filing of the petition without deduction With respect to property acquired for personal, family or household purposes, replacement value means the price a retail trader would charge for such property taking into account the age and condition of the property at the time the value is determined” added emphasis

The Cram Down provision of the bankruptcy code also provides for a reduction in the interest rate on the car loan. Often, debtors find themselves shelling out huge auto payments used to cover the exorbitant interest rates auto lenders often charge subprime borrowers.

An interesting exception was enacted under the 2005 amendments to the United States Bankruptcy Code prohibiting cram downs when the car loan was issued within 910 days (2.5 years) of the date of the bankruptcy filing. chapter 13. [see 11 U.S.C §1325(a)(9)]. Debtors should consider the timing of a Chapter 13 filing if they wish to escape the burden of heavy auto loan debt. Bankruptcy rules require auto loans taken out within 2.5 years of filing for bankruptcy to be paid as agreed.


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

11 USC §722 provides the following:

“A particular debtor may (…) redeem tangible personal property intended primarily for personal, family or household use, from a lien securing a dischargeable consumer debt, if such property is exempt under section 522 of the this title or has been waived under section 554 of this title, by paying to the holder of such lien the amount of such holder’s authorized secured claim which is secured by this lien in full at the time of redemption.” added

Redemption, however, can be difficult under Chapter 7 because debtors must prepay a lump sum of cash sufficient to pay the secured portion of the auto loan measured by the fair market value of the vehicle at the time the debtor seeks to buy the vehicle. Chapter 7 does not allow for loan restructuring, but sometimes the auto lender will accept payments over time, but usually on a short-term basis.


If your vehicle is worth less than you owe, bankruptcy options may be beneficial for you to keep your vehicle and move towards better financial health.

Chapter 13 can lower or reduce your loan balance and interest rates, reducing your automatic payment, making it affordable. Chapter 13 also allows you to restructure overdue automatic payments and spread them over the term of the Chapter 13 plan so that you can afford to catch up on overdue payments within your personal financial means.

Chapter 7 bankruptcy does not allow restructuring of loan repayments, but §722 buyout provisions allow debtors to purchase their vehicles out of bankruptcy at the fair market value of the vehicle, leaving the unsecured portion of the debt discharged under Chapter 7 bankruptcy.

Source by David S. Stern, Esq

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