Is paying off Chapter 13 bankruptcy early a good idea?

Sometimes called “wage earner’s plan” or “reorganization bankruptcy,” Chapter 13 bankruptcy is available for people who intend to repay some or all of their debt without liquidating their assets. It spreads the debt burden out into payments that are made over a three-to-five-year period, based on the person’s income, allowing them to pay back what they owe through installments.

Should I pay off my Chapter 13 bankruptcy plan early?

It’s not typically a good idea. Paying off your Chapter 13 bankruptcy plan early can result in having to repay all of the debt owed instead of the lower amount.

In most cases, paying off a Chapter 13 settlement early won’t work to your advantage. By doing so, you’re required to repay 100 percent of the debt you owe to your creditors instead of the reduced, agreed-upon amount.

When you file your Chapter 13 case, your bankruptcy trustee and you or your attorney decide on a reasonable amount of debt — generally, less than what you actually owe — that you can manage to pay back to your creditors.

If you pay your Chapter 13 plan off early, you alter the agreed-upon terms of your bankruptcy case. You’ll then be responsible for paying your creditors all of your original outstanding debt, including the amount that would’ve been discharged.

How paying off Chapter 13 bankruptcy early works

If you find yourself with a sudden influx of cash and you decide that you want to use it to pay off your Chapter 13 bankruptcy early, here’s how it works.

1. First, you’ll need to confirm your finances are secure. That means making sure you have enough money not just to pay down the debt in full, but also to continue covering your essential living expenses.
2. Once you’ve confirmed your finances are all in order, you’ll need to formally request an early payoff from your creditors. They will need to approve the request, which will likely involve a negotiation to recoup more of your debt than your settlement agreement required.
3. After both you and your creditor have come to terms and agreed to the payoff, a court determines if the payoff will move forward.
4. Once your payoff is approved, you will be responsible for paying off all of the debt claims on your bankruptcy case, including any unsecured debt, such as credit cards, which would’ve been discharged if you’d kept making Chapter 13 plan payments on the original schedule.

Advantages of paying off Chapter 13 bankruptcy early

There are a handful of circumstances in which you might decide to pay off your Chapter 13 bankruptcy early.

Faster freedom from debt

There is a mental and emotional burden to debt payments and the knowledge that you owe money to someone else. Choosing to pay down your debts early frees you of that concern.

Potential to start fresh sooner

By paying off your debts, you have the opportunity to start fresh. There are still financial consequences of bankruptcy, including a record of it on your credit history. But paying your debts ahead of schedule still provides the opportunity to focus on rebuilding your creditworthiness.

Ability to use disposable income freely

Chapter 13 bankruptcy payments are based on disposable or discretionary income — the money that you have available to you after essentials are accounted for. Making payments toward a bankruptcy agreement means living a very frugal lifestyle where most of your disposable income is tied up in repaying your debts. Paying down your debts in full frees up access to those funds again.

Disadvantages of paying off Chapter 13 bankruptcy early

While it might be tempting to rid yourself of your debts entirely ahead of schedule, the truth is that in most cases, paying off your Chapter 13 bankruptcy early does not make sense.

Paying full debt amount

If you choose to pay off your debt in a lump sum payment, you’ll be required to pay off your debt in full. By continuing to make payments as dictated by your repayment plan, you’ll only have to pay an agreed-upon percentage of your debt over a period of three to five years — at the end, any remaining debt is discharged. To end the agreement early, you’ll have to pay back everything instead of the reduced amount.

Objections from creditors

If you request an early payoff, you are likely to face objections from your creditors. Instead of agreeing to a lump-sum payment, they are likely to push for larger monthly payments for the duration of your payback period. The result could be steeper monthly payments based on your increased discretionary income and no relief.

Won’t improve credit history

While it’s tempting to pay off your debt and start over, you won’t be able to clear up your credit history any faster. A bankruptcy will remain on your credit history for seven years from the date you file, and an early payoff won’t clean your credit slate earlier.

How to decide if paying off your Chapter 13 plan early is right for you

There are only a few exceptions when paying Chapter 13 off early won’t result in a higher debt amount, but your attorney or the trustee assigned to your case would have to research whether one exists in your bankruptcy district.

More often than not, you must stay the course and continue making payments for the remainder of your plan if you don’t want to risk increasing your monthly Chapter 13 payment amounts.