Can Payday Loans Be Included in Bankruptcy?

Bankruptcy offers a legal pathway for individuals to gain relief from overwhelming debt. Payday loans, characterized as short-term, high-interest loans based on income, can create a cycle of debt due to steep fees and interest rates. While it is often possible to include payday loans in bankruptcy, certain considerations and exceptions apply. Understanding these nuances is important.

Understanding Debt Discharge in Bankruptcy

Debt discharge in bankruptcy refers to a court order that legally releases a debtor from personal responsibility for specific debts. Once a debt is discharged, creditors are prohibited from attempting to collect on it. This process aims to provide individuals with a fresh financial start.

Bankruptcy law distinguishes between secured and unsecured debts. Secured debts are backed by collateral, such as a car loan or mortgage, meaning the creditor can seize the asset if payments are not made. Unsecured debts, conversely, lack collateral and include common obligations like credit card balances, medical bills, and personal loans. Most unsecured debts are generally dischargeable in bankruptcy.

Two primary types of personal bankruptcy are Chapter 7 and Chapter 13. Chapter 7, often termed “liquidation bankruptcy,” typically results in the discharge of eligible unsecured debts within a few months, usually four to six. Chapter 13, known as “reorganization bankruptcy,” involves a court-approved repayment plan lasting three to five years, after which any remaining eligible unsecured debts are discharged. The choice between these chapters depends on an individual’s income, assets, and overall financial situation.

Treating Payday Loans in Bankruptcy

Payday loans are classified as unsecured debts because they are not backed by collateral. This means they are eligible for discharge in bankruptcy, similar to credit card debt or medical bills.

In a Chapter 7 bankruptcy, payday loans are usually discharged entirely, meaning the borrower is no longer legally obligated to repay them.

For those filing under Chapter 13, payday loans are included in the court-structured repayment plan. Borrowers make regular payments to a bankruptcy trustee over three to five years. At the conclusion of the repayment plan, any remaining balance on the payday loan, like other unsecured debts, is typically discharged.

Exceptions and Objections to Discharge

While payday loans are dischargeable, specific circumstances can lead to exceptions or objections. Creditors, including payday lenders, can challenge a debt’s discharge, typically if fraudulent activity is suspected.

One common exception involves loans taken out very close to the bankruptcy filing date. If a debtor obtains cash advances, including payday loans, totaling $1,100 or more from a single lender within 70 days before filing for bankruptcy, a presumption of fraud may arise. This means the debt is considered fraudulent without the lender needing to prove intent, potentially making it non-dischargeable. This rule prevents individuals from intentionally incurring debt just before filing for bankruptcy without intent to repay.

Fraudulent intent can also prevent a payday loan from being discharged, even if it falls outside the 70-day window. This involves proving the debtor took out the loan with no intention of repayment or misrepresented financial information. Proving actual fraudulent intent can be challenging for lenders, especially if the borrower was caught in a cycle of using payday loans to cover previous ones.

When a creditor objects to discharge, they file an “adversary proceeding,” a lawsuit within the bankruptcy case. The creditor must present evidence to support their claim that the debt should not be discharged. If the creditor successfully proves fraud or misrepresentation, the debtor may remain responsible for repaying that specific loan.