Unpaid cards can be added to other debt

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Dear Bankruptcy Adviser,

I am in the midst of bankruptcy filing. My ex-wife drives a car that is in my name and makes the payments on it. She owes about as much as it is worth — $11,000 — and has about three-and-a-half years in payments left. The loan is with a credit card company whom I also have a credit card balance of $6,000. Is there any way that the creditor can attach the balance from the credit cards onto the balance of the car?

I am in the exact same situation with my 1999 4Runner that I purchased one year ago for $9,000. I got the loan though my credit union where I have other debt. Can I keep these auto loans as long as I pay them on time?
— Michael

Dear Michael,

You will be happy to hear half of my answer and potentially upset about the other half. You are talking about an issue known as “cross-collateralization.” It is the process by which several loans advanced by one lender on different properties are secured by charges against each of the properties.

Meaning, if you have a credit card and a car loan with the same lender, then fail to pay on the credit card, the lender can attach the credit card balance onto the car loan balance. For example, you owe $5,000 on a credit card and $10,000 on a car loan. You default on the credit card, but stay current on the vehicle. The lender will take the credit card balance and add it to the balance on the car. Therefore, to pay off the car now will cost you $15,000, not $10,000.

You will not have to worry about cross-collaterization with the big lenders who provide car financing and credit cards. In your pending bankruptcy, you could eliminate the credit card debt and still keep paying on the vehicle.

Credit unions are a different story. In most or all of the loan documents with a credit union, except for mortgage loans, you agree that if you default on a credit card, then any other collateral you have with them can be attached to that debt. In the example above, you could be stuck with a vehicle loan balance of $15,000 when you default on the credit card.

This is not always the case with credit unions. Sometimes, the credit union understands that if they act on its right to cross-collaterize a default loan with a performing loan that the borrower will likely surrender the vehicle and find another one.

You will have to wait and see whether this occurs after you file your bankruptcy case. Some of my clients call the credit union and ask whether or not cross-collaterization will occur if they file bankruptcy. The answer is typically, “We are allowed to do it, but I cannot say we will in your case.” Essentially they’re saying, “Go ahead and we will let you know at a later date.”

Be prepared for the worst.