For many consumers, credit unions have a warm and fuzzy feeling, which is quite different from the way we feel about our bank. Often, the credit union is associated with a workplace, or an organization to which we belong. It should be understood, however, that credit unions are lenders, like any other bank or loan company. Defaulting on a loan owed to a credit union doesn’t mean that other members will have to pay it back.
How Credit Union Loans Are Treated In Bankruptcy
Credit Unions are subject to the same rules in bankruptcy as any other creditor, with one minor exception: in a Chapter 7 Bankruptcy, it is a little easier to reaffirm (promise to pay a debt that would otherwise be discharged) a debt that is owed to a credit union.
Many of the clients I serve in Central Pennsylvania who file bankruptcy petitions want to treat their credit unions differently than other creditors. Many ask me about reaffirming their credit union debts, even those that are unsecured.
When Should a Loan Be Reaffirmed In Bankruptcy?
Reaffirmation is usually done only for secured loans, such as an automobile loan, where the creditor is holding the title. It is very unusual for an unsecured loan to be reaffirmed. Many credit unions offer an incentive to debtors who have filed bankruptcy, by allowing them to remain members, if they pay any loans owed to the credit union. The member would be “considered” for future credit, although no promise of approval is ever made.
In my view, the advantages of remaining a member of the credit union are outweighed by the disadvantages of reaffirming (or voluntarily paying) an unsecured loan. The bankruptcy discharge provides a fresh start – allowing the debtor to emerge without the burden of paying old debts. The money that would be used to pay the credit union could be put to better use – establishing an emergency fund, or saving up for a major purchase.
Credit Unions, Set Offs, and Cross Collateralization
When dealing with credit unions in bankruptcy, there are a few traps that are worth mentioning. Many credit unions assert a right of set-off, claiming the right to use money on deposit with the credit union to pay any debt that is owed. Closing the account before filing, or having only a minimal amount in the account when the case is filed is often the best plan.
When dealing with secured loans, one must also be alert to the possibility of a “Cross-Collateralization” clause: a section of a loan agreement that tries to make a car that is the subject of one loan security for payment of another loan, which was assumed to be unsecured.