Chapter 7 bankruptcy filers need to choose how to handle secured debts. There are three official options:

1 – Surrender the collateral. If your car is worth less than the amount you owe on the loan and you don’t need to retain the car, it may make sense to surrender it to the lender. If you choose to surrender, you will not owe any deficiency after the lender resells the collateral. The lender will get the collateral, but nothing more. This option is also available for secured debts secured by real estate (i.e. a home mortgage).

2 – Redeem the collateral. Maybe your truck is worth $3000 but it is collateral for a $15,000 loan. Although you want to keep the truck, you’re not willing to pay $15,000 for the privilege. In this situation, §722 of the Bankruptcy Code permits you to redeem the truck by paying the lender $3000 in exchange for a lien release. Section 722 only allows redemption of personal property, not real estate.

3 – Reaffirm the debt. Your bankruptcy discharge will eliminate your personal liability on most secured debts, but the liens will remain. (See this post for the differences between secured and unsecured debts.) After the personal liability is eliminated, secured creditors can enforce their liens through repossession if you default on the loan, but they cannot sue you for any deficiency. If you sign a reaffirmation agreement, you take that personal liability back on and allow the creditor to sue you for any deficiency if you default on the loan. Whether your bankruptcy attorney advises you to sign a reaffirmation agreement will largely depend on where you live.

Those are the three official options. An unofficial option is to retain the collateral and continue making your contractual payments. While not specifically authorized by the Bankruptcy Code, “Retain and Pay” is available with many creditors. Rather than repossess a vehicle that has a loan of $5000 against it (and receive $1000 for it at an auction), the smarter creditors will agree to just continue taking your money without a reaffirmation agreement if you’re willing to continue paying.

When you first discuss your bankruptcy case with your attorney, be sure to learn which options for dealing with secured debts serve your best interests.