CO-SIGNERS AND CO-BORROWERS: AN INITIAL DISTINCTION
An individual Chapter 7 or Chapter 13 bankruptcy can be filed by either you alone or jointly with your spouse.
In either case, you may have loans that were co-signed for you by your spouse or others, or you may yourself have co-signed loans for your spouse or other friends and family-members.
You may likewise have co-borrowed a loan with a spouse, friend, or family-member with the intention of sharing both the responsibility to repay the loan and the ownership of whatever it was you purchased with the funds.
A co-signer is someone who helps you qualify for a loan and takes on the risk of obligatory repayment if you default on your agreement to repay.
A co-borrower is someone who does all of that—but with a joint property interest in the “fruits of the deal.”
A common example of a co-borrower is a mortgage loan borrowed for the purpose of purchasing a home, generally by two spouses. Both are liable for repayment of the mortgage loan, and both spouses’ names appear on the title to the home purchased.
What happens to those co-signors when you file for Chapter 7 or Chapter 13 bankruptcy? How will your bankruptcy affect your cosigner’s credit score? Will those individuals or even corporate entities be cleared of their own liability?
As explained below, the answer to that latter question is negative. When you file for bankruptcy, you will discharge your own personal liability—but not a co-signer’s or a co-borrower’s.
Further, with regard to co-borrowers, their joint ownership interest in whatever property was the subject of the loan can be impacted.
In both cases, if this prospect is alarming to you, Chapter 13 bankruptcy offers a path to debt relief that offers safety to your co-signers and co-borrowers.
CO-SIGNERS AND CHAPTER 7 AND CHAPTER 13 BANKRUPTCY: JOINT & SEVERAL LIABILITY
First, it may be worthwhile to briefly discuss the general concept of what is known as “joint and several liability” and why, when you file for bankruptcy, you don’t just leave your co-signers and co-borrowers responsible for only 50% of the borrowed sum of money but the entirety of it.
All contracts for the lending of money signed by more than one person are obliging the signers to joint and several liability with the agreement, unless the contract explicitly states otherwise.
This is a term learned by law students in their first semester of law school.
What joint and several liability means is that each person who is responsible for the debt, whether by way of a jointly or co-signed contract is responsible for 100% of it.
That is, if two people co-sign a loan agreement, they do not each carry 50% of the resulting debt obligation: they each have 100% of the obligation.
Thus, if one of the two signing persons files for bankruptcy or dies or disappears to Timbuktu, the other person will be left holding the full bag.
CO-SIGNERS AND CO-DEBTORS IN CHAPTER 7 BANKRUPTCY
A Chapter 7 bankruptcy is what is known as a “liquidation” bankruptcy.
This term is a good fit, on one hand, because, in a Chapter 7, no debt is required to be repaid to your creditors—unless you hold liability for one of the sorts of debt which are not dischargeable in bankruptcy, such as a child support obligation or recent tax debt.
On the other hand, a Chapter 7 is known (and this is the real reason for it) as a “liquidation” bankruptcy because the assets of the debtor filing the case can be seized and liquidated in order to generate a pool of money with which to at least partially repay the debtor’s creditors.
This only happens if the assets owned by the debtor are worth more than the dollar-value caps on the statutory protections provided for certain types of assets known as “exemptions.”
Thus, if you own a car worth $3,000, and the value of the automobile exemption under the Bankruptcy Code is $4,000, you can fully protect that vehicle from liquidation in a Chapter 7. However, if that same car were worth $5,000, you could not.
Exemptions and Chapter 7 asset liquidation are discussed in further detail elsewhere on our blog. The concern here is for a co-borrower who owns a joint interest in property that may be subject to liquidation in a Chapter 7 bankruptcy.
This situation is highly fact-specific and should always be discussed with your Michigan bankruptcy attorney at your initial consultation appointment.
At the end of the day, your bankruptcy lawyer will represent you and not your co-borrower and co-owner (unless you are a married couple filing jointly), and you will need to make a decision as to what is in your best interest—debt relief vs. protection of an asset partially owned by someone else—and what is in someone else’s interest.
Assets aside, with regard to the debt itself, the Chapter 7 discharge will eradicate your personal liability and, as noted above, leave your co-debtor holding the full liability for the debt in the vast majority of contractual situations.
Further, creditors need not await your discharge to proceed with collections against your co-debtors: the Automatic Stay injunction that activates upon the filing of a Chapter 7 bankruptcy to protect you from creditors’ collections activity for the duration of the proceeding will shield only yourself, not your co-signers and co-borrowers.
CO-SIGNERS IN BANKRUPTCY: CHAPTER 13 DEBT REPAYMENT
A Chapter 13 bankruptcy is the ideal form of personal bankruptcy for those debtors with co-debtors or co-borrowers, or jointly owned property, that must be protected.
In a Chapter 13 bankruptcy proceeding, no assets are ever seized and liquidated.
This is because there is no need for asset liquidation in Chapter 13 bankruptcy. In a Chapter 13 bankruptcy, instead, you repay some of what you owe over a period of 3-5 years through the Bankruptcy Court-supervised payment plan.
The asset-liquidation mechanism is the means of creditor repayment in Chapter 7 only.
Chapter 13 offers a further benefit to those concerned for co-signers and co-borrowers: the so-called Co-Debtor Automatic Stay Injunction.
Unlike the Chapter 7 bankruptcy Automatic Stay, the Chapter 13 Co-Debtor Stay will protect the debtor’s individual co-debtors in consumer loan contracts.
In other words, it will protect the co-debtor if he or she is a human being and not a corporate entity and if the debt was for consumer purposes and not for business purposes.
Creditors will not be able to harass either of you for the 3-5-year duration of the Chapter 13 proceeding.
During your Chapter 13 proceeding, you will pay what you can afford to pay to your creditors with monthly payments equivalent to your net monthly average take-home pay, after necessary household expenses are deducted.
Whatever you repay to your dischargeable unsecured creditors via this Chapter 13 payment plan is all that those creditors will receive from you—ever.
Whatever you still owe them “on paper” will then be totally discharged, just as it would be in a Chapter 7 bankruptcy.
At that point, when your Chapter 13 discharge is issued by the Bankruptcy Court, your Automatic Stay and the Co-Debtor Stay are lifted and creditors may again pursue your co-signers and co-borrowers for any remaining balance owed on the joint debt.
However, it will only be for the remaining balance, and you have protected any jointly owned property in the meantime.
CO-SIGNERS, CO-BORROWERS, AND BANKRUPTCY: A BOTTOM LINE
Thus, the question of whether a Chapter 7 bankruptcy or a Chapter 13 bankruptcy is right for you is one that you may wish to weigh against not only your own interests but the interests of third parties who will have, otherwise, no direct role in your bankruptcy proceeding.
It is a decision to be considered carefully—and with the right bankruptcy attorney guiding you.
Attorney Walter Metzen has represented thousands of consumers in Chapter 7 and Chapter 13 bankruptcy cases in Michigan for over 30 years.
The Law Offices of Walter A. Metzen & Associates offers free consultations for those interested in the bankruptcy process and is experienced in determining and advising as to the best course of action when filing a Chapter 7 or Chapter 13 bankruptcy in Michigan.