A key component to helping people rebuild credit after filing for bankruptcy are post-filing payments on reaffirmed debts. However, there’s a lot of confusion – even among attorneys and other professionals – about creditors’ obligations to report these payments. So today, we’re going to examine key statutes, case law, and some anecdotal evidence. We’re going to discuss what creditors legally are and are not obligated to do, and how these obligations may differ from what we see in common, every day practice.
But first, I’m going to assume that you have not read other posts on this blog about reaffirmations, so let’s hit up some basics: What is a reaffirmation agreement?
Contrary to common belief, almost all secured debts are dischargeable. In terms of dischargeability, they are no more or less special than other unsecured debts like credit cards, payday loans, or medical bills. This is how and why people are able to file for bankruptcy
, walk away from a home or vehicle that they don’t want, and not be liable for a deficiency balance.
But secured liens are not extinguished in bankruptcy (except in rare case of stripping unsecured mortgages
in Chapter 13
, judgment liens, etc.). So while a secured creditor may not be able to pursue you for a deficiency balance, they can act upon their security interest and foreclose or repossess collateral if you default on the loan. And of course, that right exists even if you don’t file for bankruptcy – bankruptcy just extinguishes their right to pursue you for money on the loan. So you can’t just stop paying your mortgage and expect to be able to continue to remain in your home, even if you file for bankruptcy.
A reaffirmation agreement takes your dischargeable pre-petition obligation and converts it into a post-petition obligation that is not discharged in bankruptcy. In other words, if you enter into a reaffirmation agreement and default, then not only can the creditor repossess the collateral, but they can also pursue you for a deficiency judgment.
Reaffirmations are NOT required. On the contrary. They are voluntary agreements. A creditor can no more require you to sign a reaffirmation agreement than you can require a creditor to sign one. In fact, some creditors – as a policy – don’t bother with reaffirmation agreements.
Strictly from a liability standpoint, I (along with most other attorneys I’ve spoken to) would prefer that our clients not enter into a reaffirmation agreement. There is always the possibility that something will happen down the road, and you are unable to continue to make payments on your mortgage or car loan. Without a reaffirmation agreement – the worst thing that the creditor is entitled to do is repossess the collateral. With a reaffirmation agreement – the creditor can repossess the collateral AND seek a deficiency balance.
What I (and most other attorneys) prefer are what we refer to as a “ride-through”. A ride-through is when a bankruptcy debtor retains collateral, continues to make normal monthly payments on a secured loan, but does so without a reaffirmation agreement. This way, the debtor keeps their property, but minimizes their risk in case something happens down the road.
Sounds great! Why doesn’t everyone do a ride-through? Why don’t attorneys INSIST that their clients just do a ride-through? Well, two reasons.
#1 – The Risk of Repossession
This almost never happens. Many years ago, there were rumors that Wells Fargo was foreclosing on homes and repossessing vehicles, even though the debtors were current on their payments. The sole reason they foreclosed and repossessed? The debtors had not signed a reaffirmation agreement, which Wells Fargo considered a technical default and grounds for exercising their security interests.
11 U.S.C. § 521(a)
(6) [I]n a case under chapter 7 of this title in which the debtor is an individual, not retain possession of personal property as to which a creditor has an allowed claim for the purchase price secured in whole or in part by an interest in such personal property unless the debtor, not later than 45 days after the first meeting of creditors under section 341(a), either –
(A) enters into an agreement with the creditor pursuant to section 524(c) with respect to the claim secured by such property; or
(B) redeems such property from the security interest pursuant to section 722.
In Steinhaus, Idaho Central Credit Union argued that this language (revised under BAPCPA in 2005) limited a debtor to 3 options: reaffirm, redeem, or surrender. Since Steinhaus had not entered into a reaffirmation agreement within the proscribed time period, ICCU demanded termination of the automatic stay, an order compelling surrender of property, and an order authorizing foreclosure. The court agreed that 11 U.S.C. § 362(h) permitted ICCU to obtain termination of the automatic stay, but disagreed that it had authority to compel surrender of collateral or to authorize foreclosure. In re Steinhaus, 349 B.R. 694 (Bankr. Idaho, 2006).
The right to repossess is still controlled by applicable state law, and we get a pretty good discussion of that in Henderon, a Nevada case that specifically deals with Nevada law that differs from the Uniform Commercial Code. In this particular case, it was decided that the contract provision invoking an ipso facto right of recovery based solely on the filing of bankruptcy or lack of a reaffirmation agreement was invalid under Nevada law. In re Henderson, 492 B.R. 537 (Bankr. Nev., 2013).
Wisconsin’s default provisions are outlined at Wis. Stat. § 425.103. I’ll include them here for reference, but I’m not going into an analysis of the code. The point is that since the right of recovery is an issue of state law, the bankruptcy court has no authority to compel surrender of collateral, which means you – as a bankruptcy debtor – can force this issue before a state court judge. An informal survey suggests that most judges are not inclined to permit repossession based solely on the lack of a reaffirmation agreement.
(2) ”Default”, with respect to a consumer credit transaction, means without justification under any law:(a) With respect to a transaction other than one pursuant to an open-end plan and except as provided in par. (am); if the interval between scheduled payments is 2 months or less, to have outstanding an amount exceeding one full payment which has remained unpaid for more than 10 days after the scheduled or deferred due dates, or the failure to pay the first payment or the last payment, within 40 days of its scheduled or deferred due date; if the interval between scheduled payments is more than 2 months, to have all or any part of one scheduled payment unpaid for more than 60 days after its scheduled or deferred due date; or, if the transaction is scheduled to be repaid in a single payment, to have all or any part of the payment unpaid for more than 40 days after its scheduled or deferred due date. For purposes of this paragraph the amount outstanding shall not include any delinquency or deferral charges and shall be computed by applying each payment first to the installment most delinquent and then to subsequent installments in the order they come due;(am) With respect to an installment loan not secured by a motor vehicle made by a licensee under s. 138.09 or with respect to a payday loan not secured by a motor vehicle made by a licensee under s. 138.14; to have outstanding an amount of one full payment or more which has remained unpaid for more than 10 days after the scheduled or deferred due date. For purposes of this paragraph the amount outstanding shall not include any delinquency or deferral charges and shall be computed by applying each payment first to the installment most delinquent and then to subsequent installments in the order they come due;(b) With respect to an open-end plan, failure to pay when due on 2 occasions within any 12-month period;(bm) With respect to a motor vehicle consumer lease or a consumer credit sale of a motor vehicle, making a material false statement in the customer’s credit application that precedes the consumer credit transaction; or(c) To observe any other covenant of the transaction, breach of which materially impairs the condition, value or protection of or the merchant’s right in any collateral securing the transaction or goods subject to a consumer lease, or materially impairs the customer’s ability to pay amounts due under the transaction.
As a matter of practice, most creditors will permit a ride-through, and there are two major reasons for this. First – if a debtor is willing to continue make payments on a secured debt, they’re going to receive more money if they permit the ride-through rather than immediately demanding turnover of the collateral. If the debtor defaults, they still have a right of recovery and sale later on. (For example, if collateral is worth $10k at auction and a debtor makes $500/mo payments for a year before defaulting, the creditor potentially gets $16k out of the deal; whereas they only get the $10k if they repossess immediately.) The circumstances in which a creditor may not want to wait for a default is where there is significant risk or danger that the property will be damaged or wasted before the default, significantly devaluing the asset by the time it can be sold.
The other reason most creditors permit a ride-through is because threatening to repossess in the absence of a reaffirmation agreement would conceivably be a violation of the discharge at 11 U.S.C. § 524(c)(3)(A).