Underwater trade-in not protected claim in bankruptcy

13 Aug Underwater trade-in not protected claim in bankruptcy

The 9th Circuit Bankruptcy Appellate Panel decided that the “negative equity” from an over encumbered trade-in was not entitled to payment in full in a Chapter 13 bankruptcy case. As a result, only the part of a car loan actually traceable to the price of the car will be protected from strip down in bankruptcy.

This question has hung over the “hanging paragraph” in Section 1325 since the effective date of BAPCPA. Car lenders got special treatment for car loans made within 910 days of the filing of a bankruptcy case. The hanging paragraph provides that the debtor may not strip down a purchase money security interest in a car bought for the debtor’s personal use. But, when the car loan also paid off the loan on the trade in, is the lien on the new vehicle entirely “purchase money”?

No, said Judge Markell, in a long and clearly laid out opinion. The lien has Dual Status: the portion of the debt associated with the purchase price of the new car is a PMSI. The portion of the loan used to pay off the debt on the trade in is not purchase money.

Markell talked about the competing interests of car lenders and unsecured creditors. If there is a fixed pot of money, the more the car lender gets, the less is available for the rest of a debtor’s creditors. More often, I think, the real impact will be more successful Chapter 13’s as the artificially protected car claim will be whittled down, and it will take fewer dollars to pay off the car.

The case is Penrod, N.D.CA case number 07-30252.

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Cathy Moran, Esq.

I'm a certified specialist in bankruptcy law (California State Bar Board of Legal Specialization) practicing in the San Francisco Bay Area for more than 30 years. In addition to practicing bankruptcy law, I train new practitioners at Bankruptcy Mastery.
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