In today’s world, it is very common to be asked to provide a co-signer when seeking a loan, apartment, or other form of credit from a bank or company. It is their way of assuring themselves that they will get paid. You may think that they require this because they don’t trust people to make their payments, but in reality, they too know that bad things can happen to good people. Things in life may happen that are not under control of the debtor such as unemployment, divorce, death of a spouse or a prolonged illness. When these events happen, the duties of a co-signer may become a reality.
When unforeseen life events happen that cause financial hardships, a bankruptcy might be just the thing you need to get your life back on track. When considering a bankruptcy, the issue of co-debtors will arise. If the debt is co-signed by spouses who are filing a joint bankruptcy petition, the issue of the co-debtors and bankruptcy is not a problem as both debtors will receive a discharge of the debt. However, if only one co-debtor files bankruptcy, this could leave the other co-debtor responsible for the entire debt.
Co-debtors and Bankruptcy: Chapter 7
As you most likely already know, co-debtors do not need to be spouses. You can have co-debtors that include parents, friends, other relatives, business partners – anyone who agrees to co-sign debt for another person. If only one co-signer files for bankruptcy under Chapter 7, the non-filing co-debtor will not be protected under the bankruptcy.
When the bankruptcy case is filed, the debtor who filed is protected from further collection actions by the automatic stay. Once the case has been closed and the debtor receives a discharge, the debtor’s legal responsibility for the co-signed debt is released. Unfortunately, the co-signer is not released from his or her legal liability for the debt. The creditor can legally pursue the co-signer for the entire balance due on the account. If the debt is not paid, the creditor may file a lawsuit to seek a monetary judgment against the co-debtor.
In this case of co-debtors and bankruptcy, the debtor can voluntarily choose to pay the co-signed debt to protect the co-signer or the co-signer can choose to pay the debt in order to protect themselves from action by the creditors. It should also be noted that if the co-signed debt is secured by an asset such as an automobile, boat or financial account, if either the debtor or the co-signer does not pay the debt, the creditor has the right to repossess the asset to satisfy the debt. While the creditor cannot seek a deficiency judgment against the debtor who filed bankruptcy, it can do so against the co-signer who did not file the Chapter 7 case.
Co-debtors and Bankruptcy: Chapter 13
If the debtor files under Chapter 13, the protection afforded to the debtor is extended to the co-signer; however, this is only for consumer debts. If the co-signed debt is a consumer debt, the co-debtor is protected as long as the debtor remains in bankruptcy. In most cases, when the debtor completes the bankruptcy plan and receives a discharge, the co-signer will be absolved of the debt if the debt was paid in full through the plan.
If the debt is secured by an asset that the debtor is surrendering in the Chapter 13 case, the creditor may file a Motion to Modify the Co-debtor Stay to allow the creditor to pursue legal action to collect the debt outside of the bankruptcy case. Typically, this means that if the debtor is surrendering a house or vehicle, the co-signer must continue making payments to the creditor to retain the asset or the creditor will foreclose or reposes the asset to pay the debt.
The question of whether a co-signer will be protected by the Co-debtor Stay in a Chapter 13 bankruptcy is a question that should be addressed in the bankruptcy consultation by the attorney. The attorney will need to discuss the type of debt in question before making a final determination as to whether the co-signed debt will be absolved for both co-signers through the Chapter 13 case of only one of the co-signers.
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