Vitaly Libman

Document Type

Research Memorandum

Publication Date




The 2005 BAPCPA amendments have turned routine car purchases into a source of litigation in the federal courts. The litigation stems from the financing agreements made during the transaction. Today, these financing agreements often require the purchaser to repay loans over a term of five years or longer. See, e.g. In re Peaslee, 358 B.R. 545, 554 (Bankr. W.D.N.Y. 2006). During these long terms, cars rapidly depreciate in value. Consequently, many consumers are left with vehicles that have a market value less then the amount of debt still owed on them. This deficiency is called “negative equity.” Often, consumers want to purchase new vehicles and trade-in their cars with negative equity. To encourage purchasing of new vehicles, car dealers finance the negative equity on the trade-in. These financing agreements usually lump together purchase money and negative equity into one loan creating a purchase-money security interest (“PMSI”) in the vehicle. However, it is unclear whether the financing of negative equity is included as part of the PMSI under the bankruptcy code. This is an important issue because BAPCPA adopted a provision nicknamed the “hanging paragraph” found in 11 U.S.C. § 1325(a)(*) (2006). The hanging paragraph gives auto lenders extra protection in a bankruptcy proceeding. To get this extra protection, the creditors must have a PMSI in the vehicle. Hence, both creditors and debtors have litigated whether the bankruptcy code gives auto lenders a PMSI for financing negative equity. As a result of the litigation, courts around the country have taken three different approaches in deciding the issue.


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