Secured Claims and Bankruptcy
Secured claims include liens, security interests, security agreements and secured claims. An allowed claim secured by a lien on property in which the estate has an interest, or that is subject to setoff, is a secured claim to the extent of the value of the creditor's interest in the estate's interest in the property or the amount subject to setoff. A secured claim carries the right to adequate protection of collateral. Unavoided liens survive bankruptcy but circumstances may demand action by a secured creditor to protect the lien.
A claim cannot be a secured claim unless it is secured by a lien on some specific item of property in which the estate has an interest, or, alternatively, is a claim that is subject to a right of setoff. A claim may be a secured claim regardless of whether the relevant lien was created by agreement, statute, common law, equity, or judicial process.
Two Types of Secured Claims
There are two types of secured claims: (1) voluntary or consensual secured claims, each created by agreement between the debtor and the creditor and (2) involuntary secured claims, such as a judicial or statutory lien, which are fixed by operation of law and do not require the consent of the debtor. Common examples of voluntary or consensual liens include real property mortgage liens, liens arising from deeds of trust, and security interests recognized under the Uniform Commercial Code. Examples of statutory liens include federal tax liens and municipal real property tax liens.
How Secured Claims are Paid
Secured claims are paid from the proceeds of the collateral. If the collateral is insufficient to pay the claim in full, the balance becomes an unsecured claim.
Rights of Creditors
Secured debt usually includes the right of the creditor to seize identifiable property if there is a default, in addition to the promise or ability of the debtor to pay. In a Chapter 7 case, a secured creditor generally receives cash equivalent to the allowed claim or a return of the secured property.
Secured to the Extent of the Value of Collateral
The secured claim is generally considered secured only to the extent of the value of the particular collateral. If the allowed claim of the creditor is greater than the value of the collateral, the claim may be divided into a secured claim, up to the value of the collateral, and an unsecured claim for the balance.
Certain property settlements are not dischargeable in a Chapter 7, 11 or 12 bankruptcy case, but remain dischargeable in Chapter 13 cases. Support, alimony or maintenance that is incurred by the debtor in the course of a divorce or separation or in connection with a separation agreement, divorce decree or other order of a court are generally not dischargeable. There are a few exceptions to this rule such as when the debtor does not have the ability to pay those debts from income or property that is not reasonably necessary to be expended for the maintenance or support of the debtor or a dependent of the debtor or when discharging the debt would result in a benefit to the debtor that outweighs the detrimental consequences to a spouse, former spouse, or child of the debtor. The court uses a disposable income test and a balancing test to determine whether or not these types of property settlement claims are dischargeable
Disposable Income Test
Under the disposable income test, the court evaluates whether the debtor has the ability to pay the non-support debt/property settlement over a period of time. The court considers the following factors in determining a debtor's ability to pay the non-support debt:
The court must weigh the detriment of discharging the debt to the ex-spouse and the benefit of the discharge to the debtor. This test is used to prevent the use of bankruptcy to evade marital property settlements when the debtor does not have bona fide financial problems. The court considers various factors for the balancing test including:
If the debtor is able to carry his or her burden of proof under either the disposable income test or the balancing test then the debt will be discharged. The burden is met if it weighs in favor of the debtor by a fair preponderance of the evidence.