WHAT IS SURRENDER, REDEMPTION AND REAFFIRMATION DURING CHAPTER 7 BANKRUPTCY PROCEEDINGS ?
When an individual files a Chapter 7 bankruptcy case and has debts secured by personal property, such as a vehicle, furniture, appliances, or other household goods, bankruptcy does not automatically determine whether the debtor will keep or give up that property. Section 521(a)(2) of the Bankruptcy Code requires an individual debtor whose schedules include debts secured by property of the estate to state an intention concerning that property. The debtor generally must indicate whether the property will be surrendered, redeemed, or retained through reaffirmation, as applicable, and must carry out that intention within the statutory period. These alternatives are closely connected with the automatic stay under §362 and the discharge provisions of §524.
The three alternatives have significantly different legal and financial consequences. Surrender means giving up the collateral to the secured creditor rather than retaining it. Redemption, governed principally by §722, allows an individual debtor to retain certain qualifying personal property by paying the creditor the amount of the allowed secured claim in full at the time of redemption. Reaffirmation, governed principally by §524(c)–(m), allows the debtor to retain the property while voluntarily remaining personally liable for the reaffirmed debt despite the bankruptcy discharge. The choice therefore involves not merely the question of whether the debtor wants to keep the property, but also whether the debtor wishes to remain personally liable for the underlying debt and what financial consequences may follow if the debtor later defaults.
Statement of Intention Under Section 521(a)(2)
Section 521(a)(2) establishes the statutory framework for dealing with property securing debts in an individual Chapter 7 case. If the debtor’s schedules include debts secured by property of the estate, the debtor must, within the prescribed period, file a statement of intention concerning the property. The statute requires the debtor to state whether the property is to be surrendered or retained and, where applicable, whether it is claimed as exempt, whether the debtor intends to redeem the property under §722, or whether the debtor intends to reaffirm the secured debt. The debtor must subsequently perform the stated intention within the time prescribed by §521(a)(2)(B), subject to extensions that the court may grant for cause.
This requirement is particularly important because the Bankruptcy Code does not permit an individual debtor simply to retain secured personal property indefinitely without addressing the secured creditor’s rights. Section 362(h) provides consequences when the debtor fails to timely file and perform the required intention. Subject to the statutory exception for property of consequential value or benefit to the estate, the automatic stay terminates with respect to qualifying personal property, and the property ceases to be property of the estate.
SURRENDER OF SECURED PROPERTY
Meaning of Surrender
Surrender is the simplest of the three alternatives. The debtor elects not to retain the collateral and makes the property available to the secured creditor. The debtor thereby gives up possession or ownership rights in the property as required by applicable law and the creditor’s enforcement rights are no longer obstructed by the debtor’s decision to retain the property.
Surrender is commonly considered where the property has little or no equity for the debtor, the debtor cannot afford the secured payments, the property is no longer necessary, or the debtor does not wish to continue bearing the financial burden associated with the collateral. A typical example is a vehicle on which the outstanding loan substantially exceeds the vehicle’s value. Rather than continuing payments on a vehicle that the debtor cannot afford, the debtor may elect to surrender it and allow the secured creditor to enforce its lien according to applicable non-bankruptcy law.
Surrender and the Bankruptcy Discharge
Surrender of collateral should be distinguished from discharge of the underlying debt. The surrender of property does not itself determine whether the debtor’s personal liability on the debt is discharged. If the underlying debt is otherwise dischargeable and is not reaffirmed, the debtor’s personal liability may be eliminated by the Chapter 7 discharge. Section 524(a) generally operates as an injunction against attempts to collect a discharged debt as a personal liability of the debtor.
The creditor’s lien, however, is a separate matter. A bankruptcy discharge generally eliminates the debtor’s personal liability for a dischargeable debt but does not, merely by virtue of the discharge, eliminate a valid lien against the collateral. Consequently, after surrender, the creditor may retain rights against the collateral to the extent provided by applicable non-bankruptcy law.
Surrender and Deficiency Claims
If the secured creditor sells surrendered collateral for less than the amount of the debt, a deficiency may ordinarily arise under non-bankruptcy law. Whether the debtor remains personally liable for that deficiency depends upon the dischargeability of the debt and whether the debtor reaffirmed the obligation. If the debt was discharged and was not reaffirmed, the creditor generally cannot pursue the debtor personally for the discharged deficiency, although its rights against the collateral are not necessarily extinguished.
REDEMPTION UNDER SECTION 722
Statutory Right of Redemption
Section 722 provides an important alternative to surrender and reaffirmation. It permits an individual debtor to redeem certain tangible personal property intended primarily for personal, family, or household use from a lien securing a dischargeable consumer debt. The property must either be exempt under §522 or have been abandoned under §554. Redemption requires the debtor to pay the holder of the lien, in full at the time of redemption, the amount of the allowed secured claim secured by the lien.
Thus, redemption permits the debtor to keep qualifying property without reaffirming the entire underlying debt. Its principal attraction is that the debtor may acquire the collateral free of the creditor’s lien after satisfying the allowed secured claim, while avoiding continued personal liability on the discharged unsecured portion of the debt.
Requirements for Redemption
Several statutory conditions must be satisfied. First, the debtor must be an individual. Second, the property must be tangible personal property intended primarily for personal, family, or household use. Third, the lien must secure a dischargeable consumer debt. Fourth, the property must either be exempted under §522 or abandoned under §554. Finally, the debtor must pay the allowed secured claim secured by the lien in full at the time of redemption.
For example, suppose a debtor owns a vehicle worth $12,000 and the creditor asserts a secured claim of $18,000. If the statutory requirements are satisfied and the allowed secured claim is determined to be $12,000, the debtor may be able to redeem the vehicle by paying the creditor $12,000 rather than reaffirming the entire $18,000 obligation. The precise amount of the allowed secured claim, however, depends upon applicable valuation principles and the particular circumstances of the case.
Valuation in Redemption
Valuation is often the central practical issue in redemption. The debtor and creditor may disagree concerning the amount of the allowed secured claim secured by the collateral. If the parties cannot agree, the bankruptcy court may be required to determine the appropriate value. The debtor must generally have access to sufficient funds to make the required lump-sum payment.
Because redemption requires payment in full at the time of redemption, it may be difficult for a financially distressed debtor to exercise this right without outside financing or other available funds. Nevertheless, where the collateral is worth substantially less than the outstanding loan balance and the debtor can obtain the funds necessary for redemption, §722 can provide a financially advantageous alternative to reaffirmation.
REAFFIRAMTION UNDER SECTION 524
Nature and Purpose of Reaffirmation
Reaffirmation is a voluntary agreement under which a debtor agrees to remain personally liable for a debt that would otherwise be discharged in bankruptcy. Section 524(c) establishes the conditions under which such an agreement is enforceable. Reaffirmation is most commonly encountered where a debtor wishes to retain a vehicle or other secured property and continue making payments under the credit arrangement. The United States Courts similarly describe reaffirmation as a means by which a debtor may continue paying a dischargeable debt after bankruptcy, such as when the debtor wants to retain an automobile.
Reaffirmation is therefore fundamentally different from merely continuing to make voluntary payments on a discharged debt. A valid reaffirmation agreement creates or preserves a personal legal obligation notwithstanding the bankruptcy discharge.
Requirements of a Valid Reaffirmation Agreement
Section 524(c) imposes several requirements for enforceability. Among other things, the agreement must be entered into before the discharge is granted and must contain the required disclosures. The debtor must receive the statutory disclosures before or at the time the agreement is signed, and the agreement must be filed with the bankruptcy court. Where applicable, the agreement must also be accompanied by the required declaration or certification from the debtor’s attorney. The attorney must certify that the agreement represents a fully informed and voluntary decision, does not impose an undue hardship on the debtor or a dependent, and that the debtor has been advised of the legal effect and consequences of reaffirmation and of default.
The agreement must also clearly advise the debtor that reaffirmation is not required by the Bankruptcy Code, non-bankruptcy law, or an agreement that does not comply with §524(c). This protection is important because reaffirmation causes the debtor to assume continuing personal liability that would otherwise be eliminated by the discharge.
Attorney Representation and Court Approval
The procedure differs depending upon whether the debtor was represented by an attorney during negotiation of the reaffirmation agreement. Where the debtor was represented and the attorney provides the required certification, the agreement generally becomes effective upon filing, subject to the statutory requirements and the special rules concerning presumed undue hardship.
Where the debtor was not represented by an attorney during negotiation, §524(c)(6) generally requires the bankruptcy court to approve the reaffirmation agreement as not imposing an undue hardship on the debtor or dependent and as being in the debtor’s best interest. There is an exception for a consumer debt secured by real property. Section 524(d) also provides for a court hearing in specified circumstances involving an unrepresented debtor, at which the court must explain that reaffirmation is not required and address the consequences of the agreement.
Undue Hardship
The Bankruptcy Code contains specific safeguards against reaffirmation agreements that impose an undue hardship. Under §524(m), where the debtor’s monthly income less monthly expenses, as stated in the reaffirmation documents, is less than the scheduled payments on the reaffirmed debt, the agreement is presumed to impose an undue hardship, subject to the statutory rules for rebutting that presumption. The debtor may attempt to rebut the presumption by explaining additional sources of funds available to make the payments. If the presumption is not satisfactorily rebutted, the court may disapprove the agreement after notice and a hearing. The statutory presumption does not apply to reaffirmation agreements with qualifying credit unions described in §524(m)(2).
This requirement reflects an important policy underlying reaffirmation: bankruptcy should not ordinarily require a financially distressed debtor to assume again a debt that the discharge would otherwise eliminate merely to retain collateral.
Rescission of Reaffirmation
A debtor has a statutory right to rescind a reaffirmation agreement within the period specified by §524(c)(4). The debtor may rescind before the discharge is entered or within 60 days after the agreement is filed with the court, whichever is later, by providing notice of rescission to the creditor. This provides a limited period during which the debtor may reconsider the decision to remain personally liable on the debt.
Consequences of Reaffirmation
The principal consequence of reaffirmation is that the reaffirmed debt is not discharged. If the debtor subsequently defaults, the creditor may pursue the remedies available under the reaffirmed agreement and applicable law, including enforcement of its security interest and, where legally permitted, collection against the debtor personally. The debtor therefore assumes a post-bankruptcy obligation that would otherwise have been eliminated by the Chapter 7 discharge.
For this reason, reaffirmation should be distinguished from the situation in which a debtor simply continues making payments on a secured debt without entering into a valid reaffirmation agreement. A debtor considering reaffirmation should evaluate the value and condition of the collateral, the outstanding debt, the interest rate, the payment amount, the debtor’s income and expenses, and the consequences of a future default.
Effect of the Automatic Stay and Section 362(h)
The debtor’s choice among surrender, redemption and reaffirmation also interacts with the automatic stay. Section 362(h) specifically addresses individual debtors and certain personal property securing claims or subject to unexpired leases. If the debtor fails timely to file the required statement of intention or fails to take the action specified in the statement within the statutory period, the automatic stay may terminate with respect to the property and the property may cease to be property of the estate.
There is an important exception where the trustee timely moves for relief and the court determines, after notice and hearing, that the property is of consequential value or benefit to the estate. In such circumstances, the court may order adequate protection of the creditor’s interest and require delivery of the collateral to the trustee. Thus, the statutory scheme coordinates the debtor’s duties under §521(a)(2) with the trustee’s responsibilities and the secured creditor’s rights.
A debtor should not assume that a secured creditor can automatically require reaffirmation as a condition of receiving a bankruptcy discharge. Section 524(c) expressly requires the reaffirmation agreement to contain a clear and conspicuous statement that reaffirmation is not required under the Bankruptcy Code, non-bankruptcy law, or an agreement that does not comply with §524(c).
The debtor may therefore evaluate whether surrender, redemption, reaffirmation, or another legally available arrangement best serves the debtor’s financial interests. In particular, the debtor should distinguish between the creditor’s lien rights against property and the debtor’s personal liability on the debt. A discharge generally addresses the latter; it does not by itself eliminate a valid lien.
EXAMPLE
Consider a debtor who owns a vehicle worth $15,000 but owes $22,000 on the automobile loan. The debtor has three principal choices. First, the debtor may surrender the vehicle. If the underlying debt is dischargeable and is not reaffirmed, the debtor’s personal liability may be discharged, although the creditor retains its rights against the vehicle. Second, if the statutory requirements are satisfied and the debtor can obtain the necessary funds, the debtor may redeem the vehicle under §722 by paying the creditor the amount of the allowed secured claim in full. Third, the debtor may reaffirm the automobile loan under §524(c), thereby retaining the vehicle but remaining personally liable for the reaffirmed obligation.
The financially appropriate choice will depend on the vehicle’s value, the amount of the secured claim, available financing, the debtor’s ability to make future payments, the interest rate and remaining term of the loan, and the consequences of a possible future default. The bankruptcy process therefore gives the debtor several distinct mechanisms for dealing with secured personal property rather than imposing a single mandatory outcome.
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Mukesh Suman is a lawyer based at Delhi, India. He also provides bankruptcy paralegal services to USA. He may be contacted at mukesh_suman@outlook.com or +91 9717864570.
