At A Bankruptcy Law Firm, LLC, one of the most common questions we hear is, “Can I file bankruptcy on a car loan and still keep my car?”
It’s a fair concern. For most people, a car isn’t a luxury; it’s a necessity for work, family, and daily life. The thought of losing it can be overwhelming. The good news? Bankruptcy doesn’t always mean you’ll have to give up your vehicle. In many cases, the law gives you ways to protect it, depending on your circumstances and the type of bankruptcy you choose.
This guide will walk you through what really happens to a car loan during bankruptcy, the differences between Chapter 7 and Chapter 13, and the factors that determine whether you’ll be able to keep your car.
Understanding Bankruptcy and Car Loans
Before we dive into bankruptcy, let’s look at how car loans work.
When you finance a vehicle, the lender holds a lien on the car. That means the loan is secured by the vehicle itself. If you stop making payments, the lender has the right to repossess the car and sell it to recover what you owe.
Bankruptcy changes the playing field by triggering the automatic stay, a legal freeze that stops lenders from repossessing your car, at least temporarily. What happens after that depends on which type of bankruptcy you file.
Related Blog Posts: Illinois Auto Repossession Laws / Missouri Auto Repossession Laws
What Happens to Your Car in Chapter 7 Bankruptcy?
Chapter 7 is often called “liquidation” bankruptcy. It’s designed to wipe out unsecured debts like credit cards and medical bills. But what about a car loan? There are some options when filing Chapter 7 bankruptcy.
Keep the Car (If Payments and Equity Allow)
If you’re current on the car payments and your state’s bankruptcy exemptions cover the car’s equity (the value of the car minus what you owe), you may be able to keep it.
For example, in Illinois, there is an exemption of up to $2,400 (when filing as an individual) for cars during Chapter 7 bankruptcy. In Missouri, the motor vehicle exemption is $3,000.
Surrender the Car
If the loan feels unmanageable or the car isn’t worth the payment, you can surrender it in bankruptcy. This wipes out your obligation on the loan, even if the car sells for less than what you owe.
Reaffirmation Agreement
If you want to keep the car and continue paying the loan, you can sign a reaffirmation agreement with your lender. This basically renews your promise to pay the loan despite your bankruptcy. Keep in mind that if you fall behind later, the lender can still repossess the car and hold you responsible.
Redemption
In some cases, you may be able to “redeem” the car by paying the lender a lump sum equal to the car’s current market value. If your car is worth far less than what you owe, redemption can be a smart option. The challenge, of course, is coming up with that lump sum.
Risks of Chapter 7 Bankruptcy
If you’re behind on car payments when you file, Chapter 7 doesn’t give you much time to catch up. Unless exemptions fully protect your equity and you can keep up with payments, the lender may still be able to repossess the car.
What Happens to Your Car in Chapter 13 Bankruptcy?
Chapter 13 works differently. Instead of liquidating debts, you enter into a 3-5 year repayment plan that reorganizes what you owe. For people with car loans, Chapter 13 offers powerful tools.
Catching Up on Missed Payments
If you’ve fallen behind, Chapter 13 lets you spread out the arrears over the life of your plan. That means you can keep your car while making smaller, manageable payments toward what you owe.
Cramdown Option
One of the biggest advantages of Chapter 13 is the “cramdown.” If your car is worth less than what you owe, and you bought it more than 910 days before filing, you may be able to reduce the loan balance to the car’s current market value. You’ll also likely benefit from a lower interest rate.
Example: Let’s say Maria bought a car four years ago and still owes $15,000 on the loan. The problem? The car is now only worth $8,000 according to the current market value. She’s also behind on payments and struggling to keep up.
When Maria files for Chapter 13 bankruptcy, she qualifies for a cramdown because she bought the car more than 910 days ago. That means her loan balance is reduced from $15,000 to the $8,000 value of the car. The remaining $7,000 is treated as unsecured debt, which might be discharged at the end of her repayment plan.
Why Chapter 13 Helps Car Owners
For anyone who’s behind on payments or upside-down on their car loan, Chapter 13 often provides the best chance of keeping the car without overwhelming payments.
Bankruptcy Exemptions and Protecting Car Equity
No matter which chapter you file, bankruptcy exemptions play a critical role in whether you keep your car. Exemptions protect certain property from being taken or sold in bankruptcy.
Some states let you choose between federal exemptions and state exemptions. Exemptions often allow you to protect a certain dollar amount of equity in your vehicle.
Example: If your car is worth $8,000, you owe $6,000, and your exemption covers $2,000, your equity is fully protected. But if your equity exceeds the exemption limit, the trustee could sell the car in Chapter 7.
Because exemption laws vary by state, working with a bankruptcy attorney ensures you know exactly how much of your car’s value is protected.
Factors That Influence Whether You Can Keep Your Car
Every bankruptcy case is different, but a few key factors will largely determine whether you can keep your vehicle.
Are You Current or Behind on Payments?
If you’re current, you have more options. In Chapter 7, you may be able to reaffirm the loan or redeem the car. In Chapter 13, you simply keep making payments through your plan.
If you’re behind, Chapter 13 is usually more helpful because it allows you to catch up on past-due payments over time. In Chapter 7, falling behind increases the risk of repossession unless you can bring your payments up to date quickly.
Example: If John is three months behind on his car loan, Chapter 7 may lead to repossession unless he can catch up right away. In Chapter 13, those three months of missed payments can be rolled into his repayment plan, allowing him to keep the car.
How Much Equity Is in the Car?
Equity is the difference between what your car is worth and what you still owe. Bankruptcy trustees look at this number closely.
- Low or No Equity – If you owe about as much as the car is worth, the trustee usually won’t bother with it
- High Equity – If your car is paid off or worth far more than what you owe, the trustee may try to sell it in Chapter 7 unless exemptions fully protect that equity.
Example: Sarah owns a car worth $12,000 outright. If her state exemption only protects $7,000, the trustee could try to sell the car and return her the $7,000, while using the rest to pay creditors. A Chapter 13 plan could help her keep the car by paying creditors over time instead.
What Exemptions Apply in Your State?
Exemptions are laws that protect a certain amount of property in bankruptcy. Every state has its own exemption rules, and some allow you to choose federal exemptions instead.
- Vehicle Exemptions – Typically protect a certain dollar amount of car equity.
- Wildcard Exemptions – May let you protect value if your car is worth more than the vehicle exemption alone.
This is where a bankruptcy lawyer becomes invaluable. Knowing which set of exemptions to use can make the difference between keeping and losing your car.
Are You Filing Chapter 7 or Chapter 13?
The chapter you choose plays a huge role in whether you get to keep your car or not.
In Chapter 7 bankruptcy, it’s a quicker process but offers fewer tools if you’re behind on payments or have high equity in your car.
Chapter 13 takes longer but gives you options like catching up on missed payments, reducing your loan balance (cramdown), and protecting more equity.
Is the Car Essential for Work or Family Responsibilities?
In most states, exemptions and court decisions take into account whether the car is reasonably necessary. Judges and trustees know that people generally need reliable transportation to keep their jobs, take kids to school, or care for family.
This doesn’t mean luxury cars are protected, but a modest, dependable vehicle is often easier to keep during bankruptcy.
Why These Factors Matter Together
It’s rarely just one of these factors that decides the outcome. Instead, it’s how they work together in your specific case. For instance, being behind on payments might not matter if you file Chapter 13, but it could be a dealbreaker in Chapter 7. High equity might not be an issue if exemptions and Chapter 13 protections cover it.
This is why personalized advice is so important. Bankruptcy law has tools to protect you, but applying them correctly depends on your unique situation.
Alternatives to Bankruptcy if You’re Worried About Losing Your Car
Bankruptcy isn’t the only option if you’re struggling with your car loan. In fact, it’s a serious decision to make whether to file for it or not. Other possibilities include:
- Negotiating with your lender for a modified payment schedule
- Refinancing to lower your monthly payment
- Voluntary surrender, which avoids repossession but still leaves you responsible for any loan balance
That said, bankruptcy often provides broader relief because it tackles your entire financial picture, not just your car loan.
Common Myths About Cars and Bankruptcy
There are some misconceptions about what happens to your car when you file for bankruptcy that we should clear up.
Myth #1: You always lose your car in bankruptcy
False. Many people keep their vehicles through exemptions, repayment plans, or reaffirmation agreements.
Myth #2: Bankruptcy wipes out the loan but lets you keep the car free and clear
Not true. If you discharge the loan, you can’t keep the car unless you pay its full market value (redemption) or work out another arrangement.
Myth #3: Bankruptcy is a quick fix that doesn’t affect your credit
Bankruptcy does impact your credit, but it also gives you a structured path to rebuild. Many clients start seeing improvements within a year or two.
Why Having a Bankruptcy Lawyer Matters
Dealing with car loans in bankruptcy can get complicated. From reaffirmation agreements to cramdowns, small mistakes can have big consequences—including losing your vehicle.
Filing for bankruptcy doesn’t automatically mean losing your vehicle. Bankruptcy is designed to help you move forward, not take away the tools you need to rebuild.
At A Bankruptcy Law Firm, LLC, we’ve helped thousands of clients protect their cars and navigate these complex decisions. Our experience ensures you’ll have someone in your corner, fighting to safeguard your property and your fresh start.
Call us today at (800) 7-BENSON or contact us online to schedule your free bankruptcy consultation. Let’s work together to protect your car and your future.
