May 19, 2016
Many people worry that they will lose all of their belongings when they file for Chapter 7 bankruptcy, but it’s not the case. Exemption laws allow you to “exempt,” or protect property in bankruptcy, including a modest car (truck, motorcycle, or van). In this article, you’ll learn how your state’s motor vehicle exemption determines how much equity in a car you’re entitled to protect, as well as strategies to help you keep your vehicle, and steps you must take to keep your lender from repossessing your car.
CAUTION: This article assumes that you own your vehicle free and clear, or are current on your car payments. If you are behind on your car loan, you cannot keep your car even if the equity is exempt, unless you work out a plan to bring your payments current before you file for bankruptcy.
Chapter 7 bankruptcy wipes out your nonpriority, unsecured debts, such as credit card balances, personal loans, and outstanding medical bills. You’re allowed to exempt (keep) the property that your state decides you’ll need to continue to work and maintain a household. If you can exempt all of the equity in an item of property, the trustee cannot take it. Many Chapter 7 filers can exempt most or all of their assets.
In return for your discharge (the wiping out of your qualifying debt), you must give up your “nonexempt” property. The bankruptcy trustee—the person responsible for managing your case—will sell your nonexempt property and use the proceeds to repay your unsecured creditors. (To learn more about how exemptions work, see our Bankruptcy Exemptions area.)
The first step is figuring out your vehicle’s value—in other words, you’ll need to determine how much your car, truck, or motorcycle is worth. In bankruptcy, your vehicle is worth the amount you can sell it for given its current age and condition (commonly known as the “replacement” or “market” value). You can find the replacement value on websites such as Kelley Blue Book at www.kbb.com or the National Auto Dealers Association at www.nada.com. In fact, the bankruptcy trustees at your local bankruptcy court will likely favor one of the two websites and expect you to provide a printout from that site as proof of your vehicle’s value.
Once you establish the value of your car, you can determine how much equity is in it. Here’s how you do it.
If you don’t have a car loan. If you own your car outright (you aren’t making payments on a car loan), the equity in your car is the same as the car’s value. For instance, if the vehicle is worth $2,000, your equity is also $2,000.
If you have a car loan. If you have a car loan, the equity is the amount you’d have left over if you sold the car and paid off the loan. For instance, if you sold the car for $10,000 and paid off the $5,000 loan balance, you’d have $5,000 left to put in your pocket. The amount you’d get to keep is your equity. On the other hand, if you owe as much as the car is worth, you’ll have “zero” equity. If the vehicle is worth less than you owe, you’ll have “negative” equity.
Your next step is to find out how much equity your state will allow you to keep, or “exempt.” Each state has a set of exemptions you’ll use to protect your property, including some equity in a car or another motor vehicle. The amounts vary widely, however. Some states allow bankruptcy filers to choose between the federal bankruptcy exemptions and the state exemptions (but you can’t mix and match between the two schemes—all of your exemptions must come from one list). For instance, the federal bankruptcy exemptions allow you to exempt up to $3,775 of equity in your car.
Once you find your state’s motor vehicle exemption, you’ll compare it to your equity. If the exemption covers all of your equity, the trustee cannot sell your car. If you have unprotected equity, the trustee can sell your car, give you your exemption amount, and distribute the remaining amount to your creditors.
Example 1. Joe lives in Arizona. He owns a Toyota Corolla worth $7,000. He still owes $5,000 on his car note. Arizona allows debtors to exempt up to $5,000 in equity. The trustee cannot sell Joe’s car in Chapter 7 bankruptcy because the $5,000 motor vehicle exemption is enough to protect all of his vehicle equity. ($7,000 value – $5,000 car note = $2,000 equity)
Example 2. Henrietta lives in California. She owns a Harley motorcycle worth $10,000 free and clear. The motor vehicle exemption amount in California is $5,350, so the trustee sells the Harley and, after advertising and other sales costs, recoups $9,250. The trustee gives Henrietta her $5,350 exemption amount, deducts the statutory trustee percentage (the amount the trustee gets paid), and distributes the remaining proceeds to her creditors.
The trustee will often abandon the car if there won’t be money available for creditors after the trustee sells it. When a trustee sells property, the trustee must pay off the loan, the amount of your exemption, the costs of sale, and the trustee’s commission. If little or nothing is left after all of these expenses and deductions, the trustee is unlikely to sell the vehicle. Instead, the trustee will “abandon” it, and you’ll get to keep it. For instance, in Henrietta’s example above, if Henrietta’s Harley were worth only $6,000, nothing would be left for creditors after deducting all the costs, so the trustee would likely abandon it rather than go through the meaningless effort of selling it.
Many trustees will also allow you to buy back your vehicle. In Henrietta’s example, if she wanted to keep the Harley, she could negotiate a deal with the trustee to pay the amount the creditors would receive minus anticipated sales costs.
(To find out which exemptions apply in your case, see Which Exemptions Can You Use in Bankruptcy?)
If the motor vehicle exemption doesn’t cover all of the equity in your vehicle, you might be able to use a “wildcard” exemption (if your state has one) to protect a certain amount of property of your choosing. In some states, you can also apply any unused portion of the homestead exemption to other assets. These exemptions can be added to your motor vehicle exemption to protect your car equity.
Example. Sue lives in Connecticut and has $4,000 in equity in her car. Connecticut allows debtors to exempt up to $3,500 in a car. It also has a $1,000 wildcard exemption. Sue can protect her car by using $3,500 of Connecticut’s motor vehicle exemption and $500 of the wildcard exemption.
(To learn more, see The Wildcard Exemption in Bankruptcy.)
Even if the trustee doesn't sell your car to pay your creditors, you still have one more step to take if you have a car loan (if you don’t have a loan, you are done). If you’re behind on your vehicle payments, the lender can take back the car, even if an exemption protects your equity. You might be able to save it, however, one of two ways: (1) redeem the car (pay the market value of the car to the lender in one lump sum) or (2) reaffirm the car loan (sign a new loan that will remain in force after the bankruptcy is over) and make up the payments in the new agreement. Understand, however, that while you have the right to enter a reaffirmation agreement if you’re current on your payments (and your lender might insist on it), the lender doesn’t have to agree to “modify” the loan in any way. So if you’re behind on your car loan before you file for Chapter 7 bankruptcy, and you don’t have the money to redeem it, you’ll be able to keep your car only if your lender is willing to work with you. To learn more about these options, see Your Car in Chapter 7 Bankruptcy.