What Is Reaffirmation?
Reaffirmation is a type of agreement a debtor makes with a lender to repay some or all of a debt despite going through bankruptcy proceedings. When a person files for bankruptcy, they do so in order to be relieved of a debt burden they cannot pay.
By entering into a reaffirmation agreement, aborrower often maintains possession of anasset held as collateral such as a home or a car,so long as they can fully repay the debt owed on that particular loan.
Key Takeaways
- Reaffirmation is an agreement by a debtor, to a lender, to repay some or all of their debt.
- Debtors make reaffirmation agreementspurely voluntarily.
- When a borrower reaffirms a debt, this is noted by credit reporting agencies, which then register that the person will make regular, on-time payments.
- Reaffirmations often result in borrowers not having to cede their pledged collateral to debtors. Chapter 7 bankruptcy is primarily when reaffirmation is used.
Understanding Reaffirmation
Debtors make reaffirmation agreementspurely voluntarily. They are legal documents, but a person cannot go to prison for violating them. If the debtor fails to make their scheduled payments and breaches the agreement, the lender takes possession of the collateral, if they so choose.
Reaffirmation is not always possible for people filing for bankruptcy. Bankruptcy code stipulates that the debtor's attorney must file a statement with the court affirming that their client can repay the debt without incurring further personal financial harm. Generally, to reaffirm a debt, a person must be current on their payments of that particular loan.
Reaffirmation is primarily utilized in Chapter 7 bankruptcy. Chapter 7 focuses on the liquidation of assets and the order in which the debt is to be repaid. Chapter 7 is primarily used for individuals having difficulty meeting their debt obligations.
Chapter 7 absolves the borrower of the debt that they have to pay, but it does not change the fact that the lender can still seize the assets that are pledged as collateral. Reaffirmation protects against a lender taking possession of your assets.
How Reaffirmation Helps Borrowers
Some borrowers want to continue making their loan payments without going through the formal reaffirmation process. However, reaffirmation has some benefits for the borrower. When a borrower reaffirms a debt, this is noted by credit reporting agencies, which then register that the person is making regular, on-time payments.
This typically helpsa person trying to rebuild their credit after bankruptcy. Borrowers who do not reaffirm a debt, however, typically won't see their payments registered with credit reporting agencies. Borrowers who simply need to absolve themselves of their debts and are not likely to make regular payments do not stand to gain anything from the reaffirmation process.
Reaffirmation does make a borrower liable for a debt and is arranged through a formal agreement with the courts, and it is therefore a legal process for the borrower to protect themselves and their assets. It is in the best interest of the borrower to go through a legal process, such as reaffirmation, whenever aiming to resolve or manage financial obligations.
While reaffirming your debt can help you repair your credit after bankruptcy, working with one of the bestdebt relief companiesorcredit counseling agenciescould help you regain control over your debt without having to resort to such drastic measures.
Example of Reaffirmation
Let's say, Alex owns a home and has $200,000 left to pay on their mortgage. Their monthly payments of principal and interest amount to $1,305. Alex recently lost their job during a recession and has been out of work for one year, unable to find employment. They have depleted their savings and are unable to make their mortgage payments.
Alex arranges with their mortgage company a reaffirmation that is approved in court. They reaffirm the debt they owe on the home mortgage, with a chance to renegotiate payments with the lender. They and their mortgage company agree to a lower monthly payment or a lower interest rate during the reaffirmation process. Alex can meet these lower payments with some side jobs they have been able to find.
The reaffirmation has prevented Alex from having to have their home foreclosed. If, however, they fail to make the mortgage payments under the new terms, then the lender will take possession of their home and beginforeclosure proceedings.
What Happens if I Default on a Reaffirmed Debt?
You risk losing your property if you fail to make your agreed-upon payments. Since reaffirmation agreements typically deal with secured debts, your creditor will have the right to repossess your property to recoup their investment at that point.
Will Reaffirming Help My Credit?
Reaffirming a debt will help your credit, as reaffirmed debts are reported to credit agencies. Since bankruptcy can be a major blow to your credit score, making regular, on-time payments on a reaffirmed debt can help establish a positive credit score.
Are You Required to Reaffirm a Debt?
Reaffirming a debt is entirely voluntary. If you're seeking complete liquidation of your debts during your bankruptcy, there's no need to reaffirm any debt. However, you will likely lose those assets to satisfy your creditors.
The Bottom Line
Reaffirming a debt can jump-start your credit after bankruptcy and let you retain ownership of important assets like a house or car. However, if you're looking for a clean slate, there is no legal obligation to reaffirm your debt. Only you can decide what is suitable for your financial situation.
