Cramming Down is Hard to Do

One of the most popular uses of Chapters 13 and 11 of the Bankruptcy Code is to reduce the claims of secured creditors so that the debtor can hold on to collateral that has become unaffordable. Generally, 11 U.S.C. §506 permits this modification. There are significant limitations to this overarching power to modify. First, under ALL chapters of bankruptcy, a secured lien (e.g. mortgage) acquired to purchase the debtor’s primary residence cannot be modified under the infamous “anti-modification” clause in 11 U.S.C. §1322(b). Next, in Chapter 13, a 2005 addition to the Bankruptcy Code, the infamous “hanging paragraph” of 11 U.S.C. §1325 removes from the realm of modifications Purchase Money Security Interests in collateral for either (1) a year for general collateral, (2) 910 days for motor vehicles from the date that the Security Interest was created.

This 910 day rule is particularly damaging to debtors in several circumstances. For instance, assume a debtor with REALLY bad credit needs to get a car, but can only buy a 7 year old junker at an inflated price and an interest rate of 19%. This is the best deal he’s going to get with bad credit and no co-signer, so he goes for it. A year later, his personal economy goes further south, mortgage payments fall behind and, with his income, he must file a Chapter 13. My first instinct would be to cure the arrears in the mortgage…no problem there! Next in fixing the debtor’s financial situation, let’s use §506 and 1322 reduce the car lien to market value at a reduced rate …. wait … he just got the car a year ago.  Now the most I can do is reduce the interest rate and pay the entirety over 5 years, increasing the plan payments.

The 910 day rule can put a serious crimp in resolving a debtor’s issues in Chapter 13.  In order to avoid unpleasant surprises, debtors should contact an experienced bankruptcy attorney to determine if it applies to their circumstances and how that will affect their case.