In general. Bankruptcy Code §722 provides debtors with the right to redeem property. The redemption option is being exercised more often (as opposed to reaffirmation) because collateral loan balances are frequently much greater than the value of the underlying collateral, and, because redemption financing options are growing. The code states:
[a]n individual debtor may, whether or not the debtor has waived the right to redeem under this section, redeem tangible personal property intended primarily for personal, family, or household use, from a lien securing a dischargeable consumer debt, if such property is exempt under section 522 of this title or had been abandoned under section 554 of this title, by paying the holder of such lien the amount of the allowed secured claim of such holder that is secured by such lien in full at the time of redemption.
Financing options. In the past redemption has been rare, as what debtor in bankruptcy has the ability to raise money for a lump sum purchase price, and what lender would make such a loan? There is, however, an option available for debtors, and debtor attorneys are aware of it. The option is to borrow the redemption price from “specialized” lenders, such as the company called “722 Redemption Funding, Inc.” This company is based in Cincinnati, Ohio. The company has been in business for a number of years and has expanded into other states - Virginia is one of them. Once the loan is made, this company takes a non-purchase money security interest in the vehicle and has first priority since the debtor has redeemed from (and therefore extinguished) the lien if the prior lender. To add insult to injury, this company uses another Cincinnati company (Collateral Valuation Services, L.L.C.) to prepare a vehicle condition report in an effort to determine the lowest possible value for the vehicle. If you have yet to see redemption by this method, I am sure that you will see one soon.
How do you value the collateral? This is a good question that does not always have a clear answer. To make it complicated, the method for determining redemption value differs in Chapters 7 and 13.
To determine collateral value in Chapter 7 cases, the case law is clear that the retail value should be used. The law is not so clear, however, in Chapter 13 cases. In 2004 I tried two cases before Judge Tice in the United States Bankruptcy Court, Eastern District of Virginia, Richmond Virginia, involving this very issue. The debtors’ attorneys filed motions for redemption proposing to pay the trade-in value rather than the retail value. I objected to the motions, arguing that they were not proposed in good faith based upon these proposed values, and, that the creditors would be irreparably harmed. In doing the legal research it became clear that there was no preexisting Virginia decision controlling the decision, and that different states were taking different positions – some states use the wholesale value, some use the retail value, and, some use something other value determined by either an average of the two or utilizing other factors, such as the expected return to the creditor from a disposal of the collateral in a commercially reasonable manner. Of course I argued that it is unfair to place the entire burden and the risk of loss on the creditor, especially since it was the debtor who was in default! Ultimately, Judge Tice, having reviewed all of the tests applied across the country, wrote a detailed opinion. Judge Tice ruled that debtors should not be forced to redeem at retail valuation because the purpose of Bankruptcy Code §722 is to allow debtors to avoid having to pay the cost for replacing a vehicle. He ruled that a close approximation to the wholesale or liquidation value would be fair to creditors given the fact that creditors will save the cost of repossession and resale – that the redemption value should resemble an amount which the secured creditor would expect to recover upon the repossession and reasonable commercial disposition of the property.
Since these decisions, the law has not become clearer. Judge Tice was presented with a similar issue in In re Hutchinson, where the court found that the fair redemption value was to be determined after considering the varying appraisals submitted. The court did not choose the trade in appraisal or the retail appraisal, but stated that debtors should not have been forced to redeem their car at a retail valuation (replacement value) of the property. Further, a close approximation to the wholesale or liquidation value was fair to the creditor in light of the fact that the repossession and resale costs would not have been incurred in light of the redemption. The court held that the redemption value should resemble an amount which the secured creditor would expect to recover upon repossession and reasonable commercial disposition of the property. The fair redemption value ultimately was determined to be a value between the trade in appraisal and the retail appraisal.