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Explore General Legal Issues

How To Handle Both Secured And Unsecured Debts In Bankruptcy

by Ralph Griffin

Debt comes in two main varieties. Secured debt is the type that is backed by something real, such as the car on your auto loan or the house on your mortgage. Unsecured debt is only backed by a promise to pay it, such as your credit card.

The American bankruptcy system treats the two types of debt differently. It's important to understand this difference to figure out how you'll want to deal with each type of debt. Here's what a bankruptcy lawyer would likely tell you to think about.

Liquidating Assets vs. Restructuring Debts

Most consumer bankruptcies fall into one of two categories. These are Chapter 7 and 13 bankruptcies.

A Chapter 7 petition, if accepted, will lead to the liquidation of your disposable assets. The court will appoint a trustee to supervise the sale of assets, and the trustee will distribute the proceeds to your creditors. Finally, the court will discharge any remaining debts that can't be covered. However, if you have secured debts, the creditors will simply repossess the items in question.

In Chapter 13, you'll have a chance to hold onto secured assets. The court will tell you to propose a repayment plan that asks creditors to take a haircut on a certain percentage of what you owe. A court-appointed trustee will evaluate the plan and may make revisions based on feedback from your creditors.

Which Approach Should You Use?

Much of this choice boils down to whether you're overly invested in holding onto the secured assets. If you have an auto loan on a vehicle you hate and haven't paid much on, you might want to just file for Chapter 7 and let the lender have the car back. Conversely, folks who've poured decades of their lives and many thousands of dollars into their home mortgages may want to find a solution that lets them keep the house.

The simplest solution may be to restructure everything under Chapter 13. However, you'll have to prove you have the financial means to make the proposed payments from your plan. Otherwise, the court might reject the petition and encourage you to file for Chapter 7.

A trickier approach is what a bankruptcy attorney might call a "Chapter 20" filing. This is a bankruptcy that starts with a Chapter 7 discharge of unsecured debts. The debtor then files a subsequent Chapter 13 case to restructure the secured ones. It's a complex process, and you'll need the court's approval to do it.

If you're unclear on how to handle the different types of bankruptcy debts, consider contacting a bankruptcy attorney today to help you get started.