Should I Keep My Car in Chapter 13 Bankruptcy?

Is your car worth keeping in Chapter 13 bankruptcy? If the answer is yes, the next question you'll want to ask yourself is whether you can afford to pay for it. Because if you have a car payment—or even if you own your car free and clear—keeping your car can affect whether or not you'll be able to afford a monthly Chapter 13 payment.

(You can learn more about cars and car loans in Your Car in Chapter 13 Bankruptcy.)

You Might Have to Pay to Keep Your Car in Chapter 13

If you own your car outright and its value is less than the amount of vehicle equity that your state will let you protect, you'll be able to keep it. But, if you can't meet those criteria, don't worry—there's still a good chance that you'll be able to keep your car as long as you can afford to pay for:

• any equity not protected by an exemption, and
• your monthly car payment and any outstanding arrearages.

Of course, you'll also want to assess whether it makes financial sense to keep the car in the first place.

Will You Have to Pay for Some of Your Vehicle Equity?

Determining whether you can protect all of your vehicle equity is the first step to figuring out whether you'll be able to keep the car in your Chapter 13 case. Here's how it works.

When you file for bankruptcy, you're allowed to protect (exempt) property that you'll need to work and live. Most state exemptions allow you to keep a modest amount of equity in a vehicle.

You can keep a car even if the equity exceeds the amount you can exempt; however, you'll have to pay for the nonexempt equity through your repayment plan (specifically, you'll pay it toward your unsecured debt, such as credit card balances and medical bills).

Example 1. Ava owns a car worth $10,000 free and clear. She lives in a state that allows her to exempt $4,000 in vehicle equity. Ava will have to pay a minimum of $6,000 to her unsecured creditors over the course of her repayment plan.

Example 2. Seth owns a motorcycle worth $2,500 outright. His state's vehicle exemption is $5,000. Because Seth can fully protect the motorcycle, he won't have to pay an additional amount to creditors to keep it.

(Learn more about the property you can protect in Bankruptcy Exemptions.)

Can You Afford the Car Payment, Including Late Payments?

Unlike Chapter 7 bankruptcy, Chapter 13 has specific mechanisms that can help you keep a car—even when you're behind on payments. But, of course, it will cost you.

You'll have to demonstrate to your creditors and the court that you have enough income to pay for your monthly living expenses, plus your car payment and any arrearages that you owe. The good news? You'll be able to spread out the late payments over the course of your three- to five-year repayment plan.

Example. Jose fell behind on his $500 per month car payment after becoming sick, and now he's behind by $1,500. If he files for Chapter 13 bankruptcy, he'll need to continue making his $500 monthly payment, plus pay $41.67 per month for 36 months or $25 per month for 60 months, plus interest, trustee fees, and any other amount he's required to pay in his plan.

Is Your Car Worth Keeping?

Sometimes it doesn't make sense to keep your car in Chapter 13 bankruptcy. If your car is worth less than your car loan, it might be better to "walk away" and surrender the car, especially if your car loan payments are high or if the vehicle is in need of significant repairs.

You Might be Able to Cram Down (Lower) Your Payment

Even if you have a high payment, if you qualify for a car loan cramdown, you might be able to afford to keep your car. With a cramdown, you reduce the loan balance to the car's value. So, for example, if your car loan is $15,000, but your car's replacement value is only $10,000, you could cram down the loan to $10,000.

There are some restrictions on cramdowns, however, and even if you qualify for one, you still might want to surrender the car to the lender—especially if you own an expensive car with high payments. Buying a cheaper (perhaps used) car so that your loan payments are more reasonable might be the best bet.

Keep in mind that if you've already filed for bankruptcy, you'll likely need court approval before you incur a new car loan. The best practice is to consult with a local bankruptcy attorney before you proceed with the Chapter 13 bankruptcy.

(To learn more about how cramdowns work, see Car Loan Cramdowns in Bankruptcy.)

What Will Happen If You Let Your Car Go

When you file for bankruptcy, you'll tell your car lender and the court whether you want to keep the car or let it go back to the bank. If you surrender your car, the lender will sell it, deduct the sales costs from the auction proceeds, and apply the remaining balance to your loan.

If there is anything left over (which would be unlikely), you'll be entitled to it. More often the sales price won't cover your entire balance, leaving a deficiency balance. In Chapter 13 bankruptcy, the deficiency balance becomes part of your nonpriority unsecured debt, along with your credit card balances, medical bills, and personal loans.

You'll probably pay a small portion of your unsecured debt through your Chapter 13 repayment plan, but any remaining balance of qualifying debt will be discharged (wiped out) at the end of the bankruptcy. (To learn more, see Unsecured Debt in Chapter 13: How Much Must You Pay?)

If you plan to give up your car, consider selling it yourself or negotiating with the lender to reduce the deficiency. For example, if you voluntarily turn the car in, the lender may waive some or all of the deficiency.

(To learn more about surrendering your car to the lender, see Options for Dealing With Your Debt.)