By John Lee
Credit Unions try to market themselves as the home town alternative to big national banks. Oftentimes they will claim that the money you deposit in the home town credit union will be used right there in the community where you live. This makes you feel good about switching from a national bank to use a home town credit union, but beware. There are draw backs to using the home town credit union. In my experience, credit unions are far more aggressive in their collection practices than many of the national banks. One example of how they are more aggressive than the national banks is their usage of the cross-collateralization clause.
A cross collateralization clause, normally found in a Credit Union contract, allows the Credit Union to place a lien against the debtor’s car for a credit card or other normally unsecured debt owed to the Credit Union. Typically a person will become a member of a credit union and then, at some time after that, go through the Credit Union to obtain financing to purchase a car. Contained in the contract will be a cross collateralization clause that allows all of the debts owed to the Credit Union (credit cards and installment loans) to become liens against the car. This concept is almost never explained to the debtor in a meaningful way. Remember, liens are not dischargeable in bankruptcy. By signing the contract with the Credit Union, the debtor has turned debts that would otherwise be dischargeable in to liens that are not dischargeable. Of course the debtor can still file a bankruptcy and wipe out the debt, but the Credit Union would have the option of exercising their rights against the collateral/automobile.
Most of my clients that run into this situation will have car loans, credit card loans and installment loans with the same Credit Union. The debtor will come into my office and explain that they want to keep the cars they have with the Credit Union and just file bankruptcy against the credit card and installment loan. Then I have to inform them that all of their loans with the credit union are connected to their car thorough a cross collateralization clause that was in the Credit Unions fine print.
I then have to explain the consequences of having a cross collateralized loan with a Credit Union. Typically, the debtor will receive his discharge in bankruptcy, stop paying on the credit card and installment loan, but continue paying the car note. Several years later, the debtor will have paid off the car note and go to the Credit Union to collect his title. The Credit Union will inform him that even though he paid off the car note, the other liens (credit card and installment loan) were never paid off and so they will not release the title to him. In most cases, the debtor is now stuck with a car that he has no title to and cannot sell, other than maybe to a junk yard. Even some junk yards will not take the car with out a title. Oftentimes the debtor has to go to multiple junk yards before finding one that will take the old car without a title.
There are a few ways to deal with a cross collateralization clause. One thing your attorney can do is to negotiate with the Credit Union for a reaffirmation agreement that voids the cross collateralization clause as to the credit card and installment loan. Typically, I do not recommend the debtor signing a reaffirmation agreement. A reaffirmation agreement is a contract between the debtor and a creditor that re-establishes the debt in the bankruptcy. Once a debtor signs a re-affirmation agreement, it’s like the debt was never in bankruptcy. The creditor, upon default, can resume all collection activity against the debtor as if he never filed bankruptcy. A re-affirmation agreement must be signed off on by the debtor, debtor’s attorney, creditor and the Bankruptcy Judge.
Even though I normally do not recommend the signing of a re-affirmation agreement, in some cases it is beneficial. If the debtor is receiving something he could not otherwise receive, then I will advise the debtor to consider a re-affirmation agreement. Typically, a re-affirmation agreement may be a good deal if it lowers an interest rate, lowers a monthly payment or eliminates a cross-collateralization clause.
Another option for dealing with a cross-collateralization clause is to file a Chapter 13 Bankruptcy. If the car note is old enough, then the car may be eligible for a “cram-down,” where the debtor is only required to pay back the value of the car and is not responsible for debts above the value of the automobile.
Finally, and normally the best option, the debtor can surrender the car back to the credit union in the bankruptcy and have all debts, including credit cards and installment loans, discharged in the bankruptcy. Normally, this is the best option because the credit card debt is so high it is not worth trying to pay it back. Imagine you have a $10,000.00 car with a $9,800.00 car loan, and then you have another $12,300.00 of credit cards and installment loans with the same credit union. You would have to pay back the $9,800.00 car loan PLUS the $12,300.00 credit card debt in order to eventually receive the title to the car. Essentially you are paying $22,300.00 for a car that is only worth $10,000.00. You are paying more than double what the car is worth to keep it, all while filing a bankruptcy to wipe out the debt. Many debtors choose to just surrender the car and get rid of the $22,300.00 in debt.
Trying to figure out what to do with a car that is subject to a cross-collateralization clause can be tricky. Should you keep it, surrender it, or file a Chapter 13 Bankruptcy? Making the wrong decision could easily cost you thousands of dollars. The attorneys at John W. Lee, PC have helped thousands of people file for bankruptcy. We offer a free initial consultation to help you make these tough decisions.
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