Most debts listed in bankruptcy cases fall into two categories – secured and unsecured. Knowing the difference can help understand the extent of relief which will be afforded through filing a bankruptcy case under Chapter 7 or Chapter 13. The primary benefit is knowing what your finances will look like after your bankruptcy case is concluded.
Typical examples of secured debt include:
- Home Mortgage
- Car Loans
- Boat or RV Loans
There are other types of secured debt, particularly in business cases, but these examples are the most common in cases filed in the bankruptcy courts. In each example, if payments are not made on the debt as required, the creditor may either foreclose or repossess the home, car, boat, or RV, which is then sold to pay all or a portion of the debt. The asset (home or vehicle) that secures the debt is called the “collateral”. So, a debt is secured if there is collateral pledged as security for the loan.
In a Chapter 7 case, payments will generally continue to the secured creditor so that there is no risk of foreclosure or repossession. And, to continue to keep the collateral, the creditor will expect you to enter into an agreement whereby you continue your legal obligation to pay. This is called a “Reaffirmation Agreement”. Your attorney will assist you to reaffirm the debt so that you may keep the collateral.
In a Chapter 13 case, payments will also continue to the secured creditor, but you are not required to reaffirm the debt. Instead, your payments will either be sent directly by you to the creditor, or the payment amount will be included in your payment to the Chapter 13 trustee and they will make the payments to your secured creditors. The Chapter 13 plan will provide for payment of the balance owed to the creditor, or the value of the collateral, whichever is less.
Typical examples of unsecured debt include:
- Credit Cards
- Payday Loans
- Medical Bills
- Student Loans
There are many other types of unsecured debt. In each example, there is no collateral for the debt. In any bankruptcy case, most unsecured creditors must be treated the same.
In a Chapter 7 case, the unsecured creditors are the last to be paid. If there are assets in the case from which creditors might receive some payment, the administrative claims are paid first, then priority claims such as child and spousal support and taxes, and then if there is any money left, the unsecured creditors are paid prorata. This means that each unsecured creditor receives a proportionate share of the money based on the size of the creditor’s claim. At the conclusion of the case, any amount not paid to the unsecured creditors is discharged and you will not have to pay any of that remaining amount.
In a Chapter 13 case, you will make a payment to the Chapter 13 trustee from which none, some, or all of the unsecured creditors will be paid. The amount of the payment to the Chapter 13 trustee is determined by the application of two tests – the “Best Interest Test” and the “Best Efforts Test”. An analysis of these two tests is beyond the scope of this writing. If you have questions about those tests or any other information related to this writing or bankruptcy in general please give our office a call.