Did you know that filing for chapter 13 bankruptcy can help you reduce the principal loan balance on secured debts? As a result, your monthly payment rates will become more affordable.
Most consumers do not know that they can qualify to have a debt principal reduced. This concept is commonly referred to as a ‘cramdown.’
Certain secured debts can qualify for a cramdown, including motor vehicle loans and mortgages. When you obtain a cramdown, your principal loan amount will be reduced. Filing for chapter 13 bankruptcy will enable you to reorganize your debts. This means that you will get new monthly payment values. Simply put, you will only pay a percentage of your outstanding loan balance. When bankruptcy ends, the court will discharge the remaining debt.
You will obtain affordable monthly payment values after filing for chapter 13 bankruptcy because the court will revise your interest rates. This court-approved repayment plan will last for 3 – 5 years.
If you would like to reduce your principal loan balance, we invite you to contact us at the Los Angeles Bankruptcy Attorney. We have extensive experience in helping individuals successfully file for chapter 13 bankruptcy, and as a result, have their principals reduced.
Based in Los Angeles, we are the go-to law firm if you are looking for a local bankruptcy attorney who can help you start your life anew.
In this article, we will discuss extensively how to reduce your principal loan balance. We will also highlight which debts can be crammed down and discuss the benefits of a cramdown. Let us get started.
What is Cramdown?
When you apply for chapter 13 bankruptcy, the court will reorganize your debt repayment plan. As a result, the principal amount of your debt balance will reduce.
Typically, if you take a loan, interest starts accruing from the onset. If you do not repay this loan timely, this amount will escalate due to increasing interest. In the long run, you may be completely unable to afford to pay back this loan.
If you are in this situation, you can file for chapter 13 bankruptcy to reduce the principal loan amount. If your application is successful, the court will reset the loan value and offer you a more affordable payment plan.
Your creditors might raise various objections if you file for chapter 13 bankruptcy. Typically, the court ignores these objections to enable you to have a fresh start in your journey towards financial freedom. This is the idea behind the term ‘cramdown’ – the court crams down loan changes inside creditors’ throats.
Which Debts can be Crammed Down?
It is only secured debts that can be crammed down. Secured debts are those debts that are backed up by collateral.
On the flip side, you cannot reduce the principal of unsecured debt if you file for chapter 13 bankruptcy. Unsecured debts do not have any collateral backing, and they are primarily issued solely on the creditworthiness and trustworthiness of the borrower.
Here are some examples of secured debts that can be crammed down:
- Car loan
- Personal property, including furnishings and household goods
- Investment property mortgages
Many consumers are well-versed with car loan cramdowns. On the contrary, cramdowns on household goods, personal possessions, and investment property mortgages are not quite popular.
If you obtain a cram down, you will be able to prevent a creditor from attaching and selling your property. Therefore, you will retain your property, as well as find an affordable plan to complete paying off your debts.
You may take out a loan to purchase something, such as a car or expensive furniture. Often, this property depreciates. Over time, you may have a loan balance that exceeds how much the loaned property was, especially if you took a high-interest rate loan. You can reduce this loan balance by filing for Chapter 13 bankruptcy.
According to California’s Bankruptcy Laws, you cannot cram down a mortgage on where you live. This means that you cannot reduce the principal on your primary residence by filing for Chapter 13 bankruptcy.
How to Reduce the Principal
You can reduce the principal on your debt balance by filing for Chapter 13 bankruptcy. You cannot get a cramdown if you file for chapter 7.
Most people in Los Angeles who intend to file for bankruptcy normally opt for chapter 7. Arguably, filing for chapter 7 bankruptcy will give you the greatest benefit – because the court may wipe off your debts completely without you repaying any amount of money to your creditors. However, your personal circumstances may lock you out from filing for chapter 7.
For you to qualify for chapter 7, your income's total value must be below the average median income. However, you cannot be automatically disqualified from filing for chapter 7 if your income exceeds the median income. In this situation, you will be required to pass the means test.
On the flip side, you can file for chapter 13 bankruptcy regardless of your income level. Chapter 13 bankruptcy is also referred to as ‘reorganization.’ The primary distinction between chapter 13 and chapter 7 is that chapter 13 will require you to repay part or all of your debts within a fixed timeframe. This timeframe is generally between 3 – 5 years.
Upon successfully filing for chapter 13 bankruptcy, the court will reduce the principal amount of your debts. You will be required to come up with a suitable monthly payment plan to repay the remaining debt balance within a stipulated period. When this period lapses, you will receive a full discharge. But, if you do not abide by this payment plan, you won’t get a discharge.
One of the major downsides of chapter 7 bankruptcy is that the trustee will sell your non-exempt property to pay your creditors. In chapter 13, none of your property will be sold.
The Procedure of Filing for Chapter 13 Bankruptcy
Here is a step-by-step guide on how to file for chapter 13 bankruptcy:
1. Collect Required Documents
You will need the following documents:
- Credit report
- Tax returns for the past four years
- Proof of income for the last six months
- Bank account statements for the previous 3 – 6 months
- Any other documents relating to your debts, assets, or income
These documents will assist you in getting a clearer picture of your finances. When you have them readily available, filling out your bankruptcy application form will be much easier.
2. Analyze your Debts
You must know precisely the total value of your debts. You must also know precisely who your creditors are.
Take note that your credit report will not list all your debts. When filling in your bankruptcy application, you will be required to disclose all your debts, even if they haven’t been listed on your credit report.
It is crucial to come up with a list of all your debts. This list should have two categories: secured debts and unsecured debts.
3. Analyze your Property
Take an inventory of your property. Consider which property you would like to protect by filing for bankruptcy.
Remember that when you file for chapter 13, you will be able to keep your property. The court may reduce the principal debt amount, but you will still be required to repay the remaining balance.
4. Create a Monthly Payment Plan
The court will require you to have a monthly payment plan to complete repaying your debts. It isn't wise to file for chapter 13 bankruptcy if you do not have an accurate picture of your monthly budget. Before filing for chapter 13, you should know how much you can set aside each month to repay your debts.
You will be required to provide proof of your monthly income. If you are employed, you will use your pay stubs to show proof. If you are unemployed, you must show that you receive income from a verifiable source, such as family members or friends, monthly pensions, and government benefits.
If the court is not satisfied that you have enough income each month to pay your living expenses together with your chapter 13 monthly payments, it will dismiss your bankruptcy application. You must convince the court that you already have a workable plan.
5. Complete the First Credit Counseling Course
Before filling in the bankruptcy application form, you will be required to complete a credit counseling course. There are numerous credit counseling providers online, but you must verify that they have been state-approved. The fee for these courses usually ranges between $10 - $50.
You will take around 60 minutes to complete a credit counseling course. Once you complete it, you will be given a certificate. You will attach a copy of this certificate to your bankruptcy application.
6. Complete the Bankruptcy Application Form
This is the most complex and time-consuming stage when applying for chapter 13. The application form will ask you almost everything you owe, spend, make, or own. You will have to fill in roughly 23 forms, totaling up to 70 pages.
You must be completely honest when filling in your bankruptcy application. The court must have an accurate and clear picture of your financial situation.
7. File the Bankruptcy Petition
After you have filled out the bankruptcy forms, you should print them out, sign them, and bring them to the courthouse for filing. Do not forget to attach your credit counseling certificate alongside with these forms. The filing fee for chapter 13 bankruptcy is $310.
8. Send Financial Documents to your Bankruptcy Trustee
You must send to your bankruptcy trustee all the documents he/she requests from you. A bankruptcy trustee is an official officer, whom the court appoints to manage your case. This trustee can ask you to send certain documents, such as tax returns, bank statements, and paystubs.
If you do not send these documents, the judge will dismiss your case. Your bankruptcy trustee will utilize these documents to verify and counter check the information you provided in your petition.
9. Attend the Creditors 341 Meeting and Confirmation Hearing
Approximately 30 days after you have filed your petition, you will have to meet with your trustee. This meeting is usually referred to as a '341 meeting.' Your creditors also have a legal right to attend this meeting. However, in most cases, creditors rarely attend these meetings.
During a 341 meeting, your bankruptcy trustee will review your documents. Also, he/she will analyze your monthly payment plan and determine whether it is feasible.
The next meeting that you will have to attend is the confirmation hearing. Here, you will have to appear before a judge. The judge will review your case thoroughly. He/she will also consider whether you deserve a cramdown. After the judge has analyzed your case, he/she will decide whether to approve your monthly payment plan. If there aren’t any objections from your creditors or trustee, you will receive a confirmation.
Life after Reducing the Principal
You may have managed to convince the judge to reduce your principal debt balance during the bankruptcy confirmation hearing. In this situation, the judge may have approved a monthly payment plan that you are comfortable with.
After you have received a confirmation, you should pay your creditors timely as per the court-approved plan and within the stipulated period. Remember that this period is normally between 3 – 5 years. If you do not pay your creditors as per the court-approved plan, you will not receive a discharge.
Once you’ve made the required payments within this period, you will be required to take a second credit counseling course. Then, you can apply for a discharge.
You will automatically get a discharge if you follow all the terms set out in the payment plan. When you receive a discharge, the court will wipe out any outstanding unsecured debt balances. You will now be able to start your journey to financial freedom all over again.
Benefits of a Cramdown
The biggest advantage of a cramdown is that it will allow you to keep your property. You will be able to keep your car, investment property mortgage, as well as valuable personal possessions. If you do not obtain a cramdown, your creditors may sell this property to recover the amount of money you owe them.
Another primary benefit of a cramdown is that your overall debt balance will be reduced. This is because the court will reduce the principal amount of your loan. You will get a new payment plan, and much fairer repayment terms and conditions.
You will also be able to reduce your loan interest rate. The bankruptcy court determines this interest rate, which will be significantly lower than the market rate. Also, you can stretch out your payments over a long period. This way, you will reduce how much you pay each month. As a result, you will be able to repay your creditors more comfortably than you could have been if you had not applied for bankruptcy.
Restrictions on Reducing the Principal
Congress has imposed two restrictions on reducing the principal via chapter 13 bankruptcy. These restrictions prevent individuals from purchasing property on loan and immediately cramming it down to avoid settling the debt. These restrictions include:
- 910-day rule
- One-year rule
The 910-day rule applies only to car loans. This rule provides that individuals who would like to reduce the principal on their car loans must have bought the vehicle at least 910 days before applying for bankruptcy. The 910-day rule prevents individuals from getting a new car loan and then cramming it down right away.
The one-year rule is quite similar to the 910-day rule, but it only applies to personal and household goods. According to this rule, you cannot cram down loans on your household and personal goods if you had not bought them within at least one year before the bankruptcy.
Remember that it is possible to reduce the principal of an investment property mortgage. However, this isn’t always practical, as the court will require you to repay the loan within 3 – 5 years. Most people don't have the financial means to repay a mortgage loan within this short timeframe.
Redemption vs. Reducing the Principal
Most people commonly confuse reducing the principal with redemption. These are two distinct processes in bankruptcy.
Redemption is only available in chapter 7 bankruptcy. Just like reducing the principal, redemption will help you keep your secured property.
In redemption, you will have to pay the creditor a lump sum amount of money to get back your property. This amount is usually less than what you owe him/her. Once you’ve paid this amount, the court will wipe off your debt.
The major drawback to redemption is raising the money. Remember, the creditor must receive a lump sum payment. Most people may be unable to raise the required amount.
Get in touch with us at the Los Angeles Bankruptcy Attorney if you would like to file for chapter 13 bankruptcy to reduce the principal on your loan. We are here to help you on your journey towards financial freedom. Call us today at 424-285-5525 for a free consultation.