If you have a car loan and want to keep the car after filing bankruptcy, you’ll have to pay for it.
Many people are under the mistaken belief that filing bankruptcy allows you to wipe out an auto loan and keep the vehicle free and clear of any payments. It just isn’t true. Bankruptcy will unwind your obligation to pay back the loan. But if you don’t make the payment, you won’t be driving the car for long. So the short answer is no—you won’t get a free car in bankruptcy.
Even so, it isn’t a given that you’ll lose a car with a car loan, either. In this article, you’ll learn:
- what happens to car loans in bankruptcy
- how to keep a financed car in Chapters 7 and 13, and
- “surrendering” a car you want to return to the lender.
We have many more helpful articles that explain what happens to cars in bankruptcy. Look for links to additional resources at the end of this article.
Bankruptcy Erases Car Loans But Not Car Liens
Bankruptcy works by breaking the contract requiring you to repay the lender for the car loan. You can file for bankruptcy, give the car back to the lender, and not pay anything further on the car loan.
However, if you want to keep a car with a car loan, there’s a catch. Filing for bankruptcy doesn’t eliminate the lien giving the bank the right to take back your car if you don’t pay as agreed. The bank can use the lien to repossess the car once the bankruptcy case is over—or sooner with the court’s permission—even though you erased the debt. So if you want to keep the car, you must pay for it.
How you pay your car loan—and whether you can keep a car if you’re behind on the car loan—will depend on whether you file for Chapter 7 or 13.
Understanding Car Loans and Car Liens Before Bankruptcy
Buying a car is costly, and most people can’t afford to pay for one outright. Instead, borrowers finance the purchase by signing a “promissory note” agreeing to pay back the debt with interest in monthly installments.
Because most car loans involve thousands of dollars, banks minimize risk by requiring the buyer to agree to put up the vehicle as collateral. The additional requirement creates a lien on the car that lets the lender repossess the car if the borrower “defaults” by failing to pay.
In bankruptcy, the lien makes the car loan a “secured debt,” unlike a Visa or Mastercard balance, which would be an “unsecured debt.”
What’s the difference? If you don’t pay an unsecured debt, you don’t have to return the property you purchased, such as the tiki torches and inflatables you charged for your annual luau.
Watch out, though—charging furniture, jewelry, mattresses, electronics, and appliances usually creates a secured debt. Check the contract or receipt to find out.
How to Keep a Car in Bankruptcy Chapters 7 and 13
What you’ll need to do to keep a vehicle with a car loan will depend on the bankruptcy chapter you file.
Keeping a Car After Filing Chapter 7 Bankruptcy on a Car Loan
In Chapter 7 bankruptcy, you have two people to please before you can keep your car—the Chapter 7 bankruptcy trustee assigned to your case and the car lender. You’ll need to do different things to satisfy each of them.
The bankruptcy trustee won’t take your car if you can protect all vehicle equity with a bankruptcy exemption. So your first step would be figuring out whether you can protect your car’s equity with a motor vehicle exemption. If the motor vehicle exemption isn’t enough to cover your equity, check for a wildcard exemption—many states let bankruptcy filers use both.
If you can protect all of the equity, you can keep the car in Chapter 7 bankruptcy—at least as far as the Chapter 7 bankruptcy trustee is concerned. The car lender and the lien associated with the car loan is another matter.
To steer clear of your car lender in Chapter 7 bankruptcy, you must be current on your car loan when you file and remain current after your Chapter 7 case ends. Otherwise, the lender will use the lien rights to repossess the vehicle.
But there are other things you can do to keep a car in Chapter 7 bankruptcy when you have a car loan, such as “redeeming” the car or paying the lender its actual value. Learn about all of your car options in Chapter 7 Bankruptcy.
Keeping a Car After Filing Chapter 13 Bankruptcy on a Car Loan
If you’re behind on your payments, consider filing for Chapter 13 bankruptcy. You can pay off the vehicle balance over three to five years in a Chapter 13 repayment plan and keep the car.
But if you don’t make the payments, including catching up on any arrearages on the car loan, the lender can repossess your car in Chapter 13 bankruptcy. Learn more about your car in Chapter 13 bankruptcy.
Returning the Vehicle Bankruptcy to Get Out of a Car Loan
Sometimes the best option is returning a vehicle with a car loan to the lender. Then you’ll be out from under the car loan entirely. Many bankruptcy filers will return a fianced car to the lender when they:
- paid too much for the vehicle
- can’t afford the monthly payment, or
- don’t want the vehicle or the car loan associated with it.
If you’re in this situation, you’ll check the box that states that you plan to “surrender the property” when you’re filling out the Statement of Intention for Individuals Filing Under Chapter 7 form. You can also surrender a car with a car loan in Chapter 13 bankruptcy.