Understanding Reaffirmation Agreements

When a client gets a reaffirmation agreement, we send the agreement to them, with this cover sheet:

Enclosed please find the reaffirmation agreement we received by <Secured Creditor>. This reaffirmation agreement changes the rights that you have under the bankruptcy law with regard to this creditor.  Please read the following to understand what your rights currently are and what they would be should you decide to sign this reaffirmation agreement.

What are your rights now that you have filed bankruptcy?

The loan you have with this creditor is a “secured loan”.  What this means is that if you stop paying the payments on the loan, the creditor has the right to take back the collateral.  Sometimes the collateral is the item that the loan proceeds were used to purchase (e.g. a car loan to purchase a car). Sometimes the collateral is another item (e.g. a home equity line of credit to buy a car.  In that case, your house is the collateral for the car.)  Often, furniture loans and jewelry loans are secured too, but people don’t always think of them as such.

In bankruptcy - whether a Chapter 7 or a Chapter 13 - all of your debts are discharged (other than debts that we discussed are not dischargeable such as student loans and taxes that we determined cannot be discharged).  Even secured debts such as car loans and mortgage notes are discharged.  However, the bankruptcy court does not have the authority to get rid of the lien on the collateral.  If you want to keep the collateral (meaning your car, your house, for example, you have to keep paying on the debt.  Examples of secured debts are mortgages, car loans, furniture loans and jewelry loans.  If you discharge any of these debts, you do not get to keep the collateral, when you file bankruptcy, unless you KEEP making the payments.

For example, if you have a car that is collateral for a car loan, you must continue to pay on the car loan or the creditor will repossess the car.  However, if you choose at some later point - even after your bankruptcy has long been discharged - that you do not want the car anymore, you can return it to the creditor.  Since the debt has been discharged as to you personally, the creditor cannot sue you for any difference between the value of the car and the amount the creditor receives when the car is sold at auction (called the “deficiency”.)

What is a Reaffirmation Agreement?

When you sign a reaffirmation agreement, you agree that even though you have filed bankruptcy, and your debt to that creditor is discharged as to you personally, you are going to give up that right and agree to still be personally responsible for that debt.  What this means is that if you cannot pay your car loan after you receive your bankruptcy discharge, and you decide to give the car back to the creditor or it gets repossessed, the creditor can sue you for the deficiency.  The deficiency can be a significant amount of money, as the creditor will sell cars at auction, often for thousands of dollars less than what the car would sell for in the paper or what you would get if you traded the car in.

When you file bankruptcy, any secured creditor you owe will likely send us a reaffirmation agreement for you to sign.  

Why would you reaffirm?  

Under the bankruptcy law prior to the changes that took place in 2005, reaffirmation agreements were rare.  Unless you purchased a vehicle right before you filed bankruptcy (which would most likely not be discharged if the creditor objected since you did it right before you filed), it was extremely rare to agree to reaffirm a debt.  Just keep making timely payments and you can keep the collateral.

Under the new bankruptcy law however, debtors are technically required to “attempt” to reaffirm the debt, in order to keep the collateral, even if they are making timely payments.  Failure to attempt to reaffirm allows a creditor under the bankruptcy code to repossess the collateral.

Why would a creditor take back your car even when you are paying, just because you did not reaffirm?  No one really knows - it does seem strange that a creditor would take a car that will most likely sell for much less than what is owed on it, knowing that since you filed bankruptcy, the creditor will never see that lost money.  Under the bankruptcy code, a creditor could take back a car that has a lot of equity in it.  For example a car where you owe a small amount on the loan.  In that case, the creditor would be required to give you the difference between the loan balance and the value of the car.  Again, it seems strange that a creditor would want to go through all the trouble.  The problem lies in the fact that under the law, creditors are in fact allowed to do this.  And just like mortgage companies that foreclose on a house instead of trying to work out a deal, even though the mortgage company will get far less by foreclosing, sometimes creditors do really stupid things.

Will the Court allow you to reaffirm?

The Bankruptcy Court must approve all reaffirmation agreements.  Currently the Middle District of Pennsylvania Bankruptcy Court is generally not allowing the reaffirmation of mortgages and in Pennsylvania, it is extremely rare for a first mortgage company to sue a borrower for a deficincy and therefore reaffirmation is not necessary.  And under state law, a mortgage company cannot foreclose against your home simply because you have failed to reaffirm your mortgage.  As a bankruptcy attorney, I cannot recommend that any debtor ever reaffirm a mortgage.

If your expenses are higher than your income on the documents you file with the Bankruptcy Court, not including all the debt you discharge, the bankruptcy court will generally NOT permit you to reaffirm your debt.  Furthermore, if that is the case, your attorney must also agree that reaffirmation will not cause an undue burden on you.

Do you have to reaffirm your mortgage to obtain a loan modification?   Generally speaking, No.  most mortgage companies do not require reaffirmation to obtain a loan modification.


Should you reaffirm?

Probably not.  Since the passage of the new bankruptcy law in 2005, it is extremely rare to see a creditor attempt to repossess a vehicle or other collateral.  Often they threaten to do so, but don’t actually do it.  Why agree to a debt that has been discharged if you really don’t have to?  However, the decision of whether to reaffirm or not is ultimately up to you.  Even if you choose to reaffirm, you have 60 days after your discharge to cancel the reaffirmation agreement.  However, once you receive your discharge, you cannot then choose to reaffirm a debt.

Are there any other options?

Yes.  In some cases you can redeem a debt.  Redemption is where you pay a lump sum payment to a creditor equal to the fair market value of the collateral.  Often this is difficult to do with a car, unless you are able to come up with that lump sum.  However, with jewelry and furniture loans it is usually pretty easy and the creditor will take a small percentage of the property.  Of course you can tell the creditor they can just come and repossess the property - in the case of furniture that is very unlikely.

What to do with the enclosed reaffirmation agreement

If you are not sure if you want to reaffirm or not, schedule a telephone appointment with me to discuss your options, or send me an email.  If you know that you are not interested in reaffirming, then just throw the reaffirmation agreement away and let us know you are not interested.  If you are certain that you want to reaffirm, please sign the reaffirmation agreement and mail it back to us.

Please contact me if you have any questions or concerns about your rights regarding reaffirmation and redemption.