Reaffirmation Of Debts, Redemption of Collateral (Part 1 of 3)


Reaffirmation Of Debts, Redemption of Collateral (Part 1 of 3)

Reaffirmation agreement . A reaffirmation is an agreement between the debtor and a creditor that a particular debt will not be discharged in the bankruptcy case. This is most typically done with secured debts covering personal property, such as motor vehicle loans and also with executory agreements like a vehicle lease. (In the case of a vehicle lease, the new agreement will most likely be called an assumption agreement.)

Statement of intentions . One of the duties of each individual debtor with secured debts is to file a written statement with the court within 30 days of the bankruptcy filing, stating what the debtors intentions are with respect to each secured debt. This document is called a Statement of Intentions. The bankruptcy law says in effect that with respect to each secured debt, the debtor must state that the debtor will surrender possession of the collateral to the creditor, or reaffirm the debt, or redeem the collateral. Then, within 30 days after the first date set for the meeting of creditors, the debtor must perform his intention. (A conflicting provision of the law says that the debtor must surrender the collateral securing a debt with 45 days after the first meeting of creditors unless the debtor enters into a reaffirmation agreement or redeems the collateral.)

Performance of the Statement of intentions. If the debtor fails to perform the required “intention” with 45 days after the first meeting of creditors, the automatic stay is terminated with respect to any personal property securing the obligation and the Code says, “the creditor may take whatever action as to such property as is permitted under applicable nonbankruptcy law, (unless the trustee timely seeks and obtains an order from the court requiring the debtor to surrender the property to the trustee.

  • Creditor’s right to a nonbankruptcy law repossession . A creditor secured by personal property, (not secured by real estate) is free to repossess the collateral, (even if the payments are current) IF a situation exists that would have given the creditor the right to repossess in a case where a bankruptcy had never been filed. For example, most motor vehicle financing agreements require the borrower to keep the vehicle insured, and to name the creditor on the insurance policy as a loss payee. Failure to carry the required insurance would be a material breach of the contract, allowing the creditor to repossess even though the monthly loan payments are current. Likewise, most financing agreements state that the insolvency of the borrower or a declaration of bankruptcy by the borrower is a material breach of the agreement. Most financing agreements provide that any material breach of the agreement allows the creditor to repossess. If the debtor reaffirms the agreement, (reaffirmation requires an agreement of both the creditor and the debtor), then presumably the nonmonetary technical default triggered by the act of filing bankruptcy has been cured.
  • Nonmonetary breach and a creditor’s right to repossession . Where the only breach of the agreement has been a nonmonetary technicality, that is, no failure to comply with any material contract provision has occurred other than the technical breach caused by the bankruptcy filing, can the creditor repossess anyway? Most creditors (at least those institutional creditors in the motor vehicle financing business), have taken the position that they will repossess IF the debtor fails to reaffirm. They want the reaffirmation provisions of the new Bankruptcy Code to be strictly enforced, because in some cases they are rightly concerned that the debtor is going to abuse the vehicle, then “walk” from the obligation as soon as it is convenient for the debtor to do so.
    • The reaffirmation process is really a “tug of war” between what is in the best interests of the debtor verses what is in the best interests of the creditor. It is usually in the best interests of the creditor to keep the debtor personally liable for the obligation. It is usually in best interests of the debtor to keep possession of personal property security (such as a motor vehicle), if it can be done without the personal liability that is resurrected under a formal reaffirmation agreement. When the debtor keeps the collateral without making a reaffirmation agreement, we call that a “ride thru,” (because of debtor’s continued possession of the collateral “rides thru” the bankruptcy and emerges intact at the end of the process minus any direct personal liability of the debtor).
      • Debtor’s advantages of a ride thru:
        • The debtor keeps and enjoys the collateral (so long as the debtor keeps paying on time, and in the case of a motor vehicle, keeps it properly insured).
        • Essentially, it relieves the debtor from what used to be the ultimate detriment of every contract, namely, the personal liability for a deficiency balance. This is because the debtor’s personal liability can be discharged in the bankruptcy, even though the creditor’s lien stayed in place against the collateral.
        • In the event of a monetary default, the debtor is protected from facing a lawsuit for any remaining contractual deficiency. (For example, after repossession, a creditor is normally allowed to sell the collateral and then sue the borrower for any remaining loan balance after applying the proceeds received from the sale of the collateral.)
        • If the debtor finishes paying for the obligation, the lender must transfer title to the debtor.
        • The debtor is left free to walk away from the obligation at any time. This is an enormous advantage, because in effect it creates an escape clause that lets the debtor turn back the vehicle or (other collateral)any time that the debtor decides that it is no longer convenient to keep paying for it.
        • There is usually a big potential for a deficiency liability, because the collateral rarely sells for enough money to cover the outstanding debt. For example, when motor vehicles are sold at a “repo auction” they notoriously bring pennies on the dollar, leaving the borrower on the hook for the remaining loan balance.
        • A subsequent default will still allow the creditor to repossess the collateral, but without a valid reaffirmation agreement the creditor can not also sue for a deficiency balance.

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By | 2012-10-09T06:09:22+00:00 October 9th, 2012|bankruptcy-faq, Financial|0 Comments

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