The Treatment of Motor Vehicle Loans in Bankruptcy

Can You Keep Your Car in a Bankruptcy Proceeding?

Both state and federal bankruptcy laws provide some level of exemption for the value of a motor vehicle when you file for protection under Chapter 7. Depending on your circumstances, you may or may not be able to keep your vehicle in a Chapter 7 petition.

The Role of the Exemption

As a general rule, you can’t keep secured property and simultaneously discharge debt on the property. This applies to any motor vehicle that is not fully paid off. If you own your car free and clear, you can typically exempt it from sale to the extent that its replacement value is less than the amount allowed in the exemption.

The Exemption is on the Equity in Your Vehicle

The state or federal exemption for a motor vehicle applies to the equity you have—essentially the value of the vehicle over and above what is owed on it. If you have fully paid the car off, its replacement value is your equity. If you still owe on your vehicle note, the equity will be its replacement value, less the amount owed.

If you are “under water” on your note, i.e., the amount owed on the car is more than the fair market value, it’s highly unlikely that the bankruptcy trustee will take your car. Because the trustee will be required to pay the car loan off before funds are available for unsecured creditors, there’s no incentive to take it. Even if the trustee could sell the car for a small profit, you are entitled to your exemption amount, and there will be costs associated with the sale. As a practical matter, then, you can often keep your car if there’s little or no equity.