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Vehicle Redemption in Bankruptcy

Vehicle redemption is used in Chapter 7 bankruptcy. The code section for this clause is 11 USC 722. The reason a debtor would redeem the vehicle in bankruptcy is because the debtor has the option of purchasing the vehicle for the secured value of the vehicle.

Often times the debtor will be underwater in their vehicle. The vehicle will say be worth $6000, but the debtor owes $14,000. In that instance, the debtor might not want to reaffirm a $14,000 debt on a $6000 item.

The debtor therefore would rather just get the car for $6000 if the debtor has $6000 at their disposal. The debtor can purchase the vehicle for the secured value if the $6000 if the debtor does not have that kind of money at their disposal.

If the debtor cannot self fund the redemption, the debtor can enter into a loan agreement with a redemption company if approved. The redemption company will purchase the vehicle for the fair market value from the existing lender, and the debtor will then pay off the $6000 that the redemption company paid for the car by a new note with the redemption company. The debtor will do this because the debtor would rather pay even at a higher interest rate on $6000 loan than a lower interest rate on a $14,000 loan.

Theoretically, the debtor will have a much lower payment monthly payment after bankruptcy by doing this even though  redemption loans are typically at least 20%. However, debtors often have high interest rate loans when they file bankruptcy, so the debtor needs to examine what their monthly payment will be after they would if they redeem their car.

The debtor could almost certainly will  have a higher interest rate after redemption, but t the reduction in the principal balance could be such that it’s worth it for the debtor to take on a higher interest rate. In the instance where the debtor has a $14,000 loan on a $6000 car, the $8000 unsecured portion is discharged in the bankruptcy just like a credit card debt.

The redemption provision shows that often debtors concerns about losing their car in bankruptcy are often very misguided. In fact, the debtors often find that they get a better car note after they file bankruptcy then what they had going into bankruptcy.

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