Chapter 13 Bankruptcy: Should You Buy a Car Prior to Filing?
Chapter 13 bankruptcy changed significantly in 2005 with the advent of our new Bankruptcy Code. As I tell my clients, “Chapter 13 used to be a marathon; now, it’s an iron man contest.”
Prior to the change in the law, Chapter 13 filers had to pay into their plans for 36 months–the marathon. With the change in the law, the Code now requires most Chapter 13 filers to pay for 60 months–the iron man contest.
Forcing debtors to pay for 60 months was a horrible policy decision–one of many made with the new Code. Bankruptcy now is an “all or nothing” proposition: debtors either pay nothing to their creditors by filing Chapter 7 or pay for 60 months (five years!) to obtain a discharge of their debts in Chapter 13. Unlike other bankruptcy systems, there is no in-between. (In Canada, for example, debtors pay from 9 months to 36 months, depending on the debtor’s circumstances and income.)
Because Chapter 13 is now a five-year iron man contest, you need to think about transportation during those five years. After all, if you can’t get to work, you can’t complete your plan.
Should I Buy a Car Prior to Filing?
As with any bankruptcy question, the answer is: “It depends.” It’s important to plan ahead and position yourself for success in your Chapter 13. If you have an old car, a car needing expensive repairs, or a car that just doesn’t meet your family’s needs, it might be a good idea to consider replacing a car prior to filing bankruptcy.
While you can obtain financing in your Chapter 13, (1) you’ll have to get court approval to do that by filing a motion to incur debt and (2) it’s not easy getting financing during a bankruptcy. It’s far easier to replace your car prior to filing.
What Should I Buy?
I have a few rules I follow when recommending car purchases to clients prior to their filing:
1. Remember that everything you do must be in good faith. That means you don’t want to do something the Chapter 13 trustee or bankruptcy court will view as improper. You don’t want to appear self-indulgent, greedy, manipulative, or like you’re trying to game the system.
2. Don’t buy luxury bands like Lexus, Acura, Mercedes, or BMW. This is my own pet peeve. I just think it looks bad, even if the car is older. Where I grew up, only rich people drove Mercedes or BMWs. Buying a luxury car prior to filing bankruptcy just looks odd. And, more importantly, it might look odd to your bankruptcy judge. Plus, maintenance costs on luxury brands are high. You’re going to be put on a strict financial diet over the next five years. You want car ownership costs as low as possible.
3. Buy a used vehicle. This falls into the same “looks bad” category as buying a luxury brand. It just doesn’t look right. I tell my clients to buy a used vehicle that’s 2-3 years old. This shows that you can be frugal and make good financial choices. The more expensive your car payment will be, the less your unsecured creditors will receive. You want to buy something you need, not something you want. (Again, see #1 above.)
4. Never buy a vehicle without first discussing the purchase with your bankruptcy lawyer. Policies vary significantly from one bankruptcy court to the next. Always discuss any major financial decisions like this with your bankruptcy lawyer. What you might think is a wise idea, might end up hurting your case.
Postscript: Debtors who are below median income must only pay into their Chapter 13 plans for 36 months. However, under median income debtors are only rarely required to file Chapter 13 cases. (Their filings would typically not be considered “abusive” in Chapter 7.) Consequently, Chapter 13 for most debtors means a five-year plan.