An undersecured claim is the legal terminology used to describe a secured debt with a property value that is less than the amount of the debt. Possibly the best example of this situation is when you borrow money to finance a car. Say, you borrow $20,000 to purchase a car with monthly payments made to the tune of $1,000. After three months of use, the value of the car goes down to $12,000 thanks to the accelerated depreciation. At this point, you owe $17,000 on the car but the value of the vehicle itself is just $12,000. This is called an undersecured claim.
Treatment of Undersecured Claim
The treatment for an undersecured claim is a little complicated since the amount owed is more than the cost of the collateral of the said debt. After all, the main concept of bankruptcy is that the petitioner will be selling off his assets in order to pay off his outstanding debts. In the interest of fairness, it will be impossible for a debtor to pay for the full debt knowing that the collateral cannot be sold for the same amount.
For this reason, a calculation process is usually done, thus utilizing specific factors in order to achieve a number. Here is how everything is usually processed.
Separating Secured and Unsecured
As most people would know, bankruptcy repayment plans often follow a hierarchy, stating which debts should be given priority. An unsecured claim is often a combination of the two, which means that the repayment plan must certify how much of the total amount is secured and not.
The calculation process in order to identify the type of claim varies from one situation to another. Typically though, the value of the collateral is computed through one of the following: (1) the cost of the product if the creditor reclaimed it and sold it again, (2) the retail cost of the claim, and (3) the foreclosure value of the product.
How Much will be Paid?
Say the total amount of the debt is set at $500,000 and through calculation, it has been determined that a total of $300,000 is secured, which means that $200,000 is not secured. From that point, a repayment plan will be created with these two debts classified separately. This therefore gives the trustee a chance to properly plan and schedule payments without deviating from the priority rule practiced in bankruptcy.
A typical resolution to the situation would be selling off the undersecured property and giving it to the creditor while the rest is defined as unsecured, often placed below the priority scale, depending on the situation.
Remember, when all the assets have been exhausted and some debts are still left unpaid, those debts will be discharged, giving the debtor a new lease on his or her financial status.
Of course, the treatment varies depending on the type of Bankruptcy Chapter being filed. Due to the sensitivity of the situation, decisions are made on a per case basis, giving the debtor and creditor a chance to showcase their side and help the court arrive at a fair judgment.