Understanding Secured vs. Unsecured Debt in Bankruptcy
When you are considering filing for bankruptcy, one of the most important concepts to understand is the difference between secured debt and unsecured debt. How these two categories of debt are treated by the court will directly impact your assets, your financial future, and whether you come out of bankruptcy in a better position.
What is Secured Debt?
Secured debt is a loan that you agreed to that is attached to a specific asset by a lien of some type. Because the debt is tied to physical property, the creditor has a claim on that asset if you fail to make payments.
Common examples of secured debt include:
Car Loans: A lien is placed directly on the title of your vehicle.
Home Loans: A mortgage is attached to the value of your real property by filing the mortgage document with the county Recorder’s Office.
Security Interests: A loan where you offer up the value of personal property, such as your home furnishings, in exchange for the money lent.
What is Unsecured Debt?
Unsecured debt is debt that is not attached to any asset. The creditor has no legal claim to automatically seize a specific piece of property if you default on the payments.
Common examples of unsecured debt include:
Credit card debt
Medical debt
Loans from friends or family
Pay-day loans
On-line loans
How Are They Treated in Bankruptcy?
Bankruptcy treats these two types of debt very differently depending on whether you file for Chapter 7 or Chapter 13 bankruptcy.
1. The Treatment of Unsecured Debt
Unsecured debt is generally the easiest to resolve in bankruptcy. In both Chapter 7 and Chapter 13 bankruptcy, unsecured debt is discharged once the Court grants your official discharge.
2. The Treatment of Secured Debt
Because secured debt is attached directly to your property, it cannot simply be wiped away without addressing the underlying asset. The treatment of your secured debt depends on several critical factors:
The equity (value) you have in the assets.
How much of the debt is secured by that equity.
Whether you want to keep the asset or “let it go” back to the bank.
Whether you are filing a Chapter 7 or Chapter 13 case.
Since the debt remains attached to your property, you must take one of the following paths:
Pay on the debt as is to keep the asset.
Strip as much of the lien off the asset as possible, and then continue to pay on the remaining debt.
Surrender the asset to the creditor.
Modify the terms of the loan, either through a court order or by entering into a direct agreement with the creditor.
Why You Shouldn’t Navigate This Alone
Determining how to handle secured and unsecured debts is not a decision or process you should attempt on your own.
Once your bankruptcy case is filed, you are nearly always stuck with the debt treatment and asset values used at the time of filing. Making a mistake during this initial stage can permanently affect your assets and dictate whether or not you emerge from bankruptcy in better financial shape.
Protect your assets and secure your financial future by working with an experienced professional who understands the mechanics of the law.