Many people sign loan agreements without reading the fine print or understanding the consequences if the agreement contains a cross collateralization clause.
Cross collateralization provisions in loan agreements can create unexpected complications for borrowers seeking to discharge debts by filing for bankruptcy protection. Cross collateralization can cause an individual to have less control of his or her assets and force them to make some hard choices.
What is Cross Collateralization?
Cross collateralization is a practice used by some lending institutions, particularly credit unions, of securing multiple loans with one asset, such as a vehicle.
Cross-collateralization reduces the risk of the credit union or institution making the loan. It is used to secure debt that is normally unsecured such as credit card debt.
The disadvantage for the borrower is that he or she may not be able to get the title to a car, for example, even after paying off an auto loan if the lender is using the vehicle as collateral on another loan as well.
How Does a Cross Collateral Loan Work?
The most common instances where we encounter cross collateralization in consumer bankruptcy is when a credit union uses one asset to secure multiple loans.
For example, John Smith purchases a pickup truck by getting a loan from a credit union in Raleigh. The truck is used to secure the loan. The loan agreement, which Mr. Smith signs, contains a cross-collateralization clause. A year later, Mr. Smith also opens a credit card account at the same credit union and uses the credit card to pay for an anniversary trip and his daughter’s wedding. He pays off the truck loan after three years and continues to carry debt on the credit card. When John loses his job unexpectedly, he no longer is able to make payments on the credit card account. He decides to file for bankruptcy to discharge the credit card debt. Because the loans are cross-collateralized, the credit union can repossess John’s truck to pay off the credit card.
If you have one asset securing two loans such as a car used as collateral for a car loan and credit card from the same bank and you default on the credit card debt, the lender may force the sale of the car or truck to pay off the credit card.
How Does Cross Collateralization Affect a Bankruptcy Filing?
Filing for bankruptcy can help ease the financial stress of people whose lives have been disrupted by unexpected events such as the loss of a job or a serious health issue that has created unmanageable medical debt.
Individuals filing for bankruptcy typically want to discharge their credit card debt. But if the credit card debt is secured by a vehicle through cross collateralization, the borrower may have to make some tough decisions.
Here are the options that people in bankruptcy have with regards to cross collateralized loans:
- Surrender the car or truck to the credit union. Many people who have significant credit card debt decide to hand over their vehicles so that they can then discharge the credit card debt.
- Continue to pay on the outstanding loans
- Negotiate a loan reaffirmation agreement with the credit union, providing different repayment terms than the terms in the pre-bankruptcy loan agreement. It may be worth considering if it reduces your monthly payments
- File a motion to redeem in the bankruptcy court to obtain a release of the lien on the vehicle by paying an amount equal to the vehicle’s loan collateral value in a lump sum. The presumptive redemption value is the NADA retail value of the vehicle, and it has to be paid immediately in a lump sum. There are lenders that will finance a redemption under certain conditions. You may also want to explore getting a loan from family members to cover the lump sum payment.
- Surrender the vehicle to the lender
- Make provisions in the Chapter 13 bankruptcy plan for the vehicle to be paid off. The Chapter 13 plan would need to pay either the loan amount or the NADA retail value of the vehicle, whichever is less. In Raleigh, the presumptive value is the NADA retail value. However, the principal balance may not be lowered with regards to a loan that was used to finance a vehicle for personal use in the 910 days prior to the bankruptcy filing.
A knowledgeable bankruptcy attorney can help you consider the advantages and disadvantages of each approach and what is most appropriate in your particular situation. It may be possible to get out of cross collateralization by renegotiating the loan agreement.
Contact N.C. Bankruptcy Attorneys Serving Raleigh and the Triangle
At Sasser Law, our board-certified bankruptcy attorneys have helped more than 8,500 North Carolina residents and businesses work through financial hardship and focus on the light at the end of the tunnel. We can help you determine the best way to deal with cross-collateralized loans as part of a Chapter 7 or Chapter 13 bankruptcy proceeding. Our highly qualified attorneys understand from more than 20 years of law practice that most North Carolinians who file for bankruptcy are hardworking folks who are going through hard times and need financial relief. Each client has certain specific factors that led to his or her financial distress such as the loss of a job or a serious injury or illness.
Bankruptcy is not the best solution for everyone. But our compassionate attorneys will work with you to identify the most appropriate options to help you move forward and regain control of your life. Our goal is to help you take the steps necessary to ease your stress, regain financial stability and gradually rebuild your credit. If you have question about filing for bankruptcy, contact us to discuss your situation. Sasser Law does not charge anything for the initial consultation. You are under no obligation to hire us after the consultation. But discussing your situation with a knowledgeable bankruptcy lawyer will provide you information and options to help you make well-informed decisions about your financial future.