Negative Equity in Automobile Loans Treated as Unsecured Debt
Like millions of Americans who take their old car to the dealership and trade it in for a new one when they still owe money on that old car, they wind up financing both the amount owed on the trade-in along with the new car loan. This transaction leaves the consumer with negative equity in their new car and the dealership is risking that negative equity if the consumer later files for bankruptcy. Recent case law supports the consumers filing bankruptcy and means bad news for dealerships who have made these negative loans.
The 9th Circuit appellate panel in In re Penrod, showed that Penrod owed more on the Explorer than its agreed trade-in value, and this difference is known in the auto trade as “negative equity.” The bankruptcy court ruled that the negative equity portion of the loan could be treated as unsecured debt. The Bankruptcy Appellate Panel ["BAP"] affirmed this ruling, and the three-judge panel affirmed the BAP. The Court denied a rehearing on an earlier ruling, allowing the Debtor's negative equity in their automobile to be treated as unsecured debt in their Chapter 13 Plan.
This is good news for consumers who owe more money than their car is worth. What this means is that the principal owed on the car loan will be reduced to the present market value, and the remaining balance owed will then be treated as unsecured debt. When the debtor receives their discharge, their legal liability to pay on their car loan will be that reduced amount. It is important to remember that liens will survive bankruptcy under most circumstances. So, in order to keep the car and receive the title to it, the debtor must pay off the loan. When considering bankruptcy to eliminate debts under Chapter 7, or restructure debts under Chapter 13, your bankruptcy lawyer will examine your financial situation to advise you which option is right for you. By the way, need I mention that borrowing more than a car is worth is a very poor financial decision you should avoid?
