Many debtors have co-debtors on the debts they owe. For example, debtor may have had a relative or friend co-sign their vehicle loan. If debtor does not pay on the loan, bank will look to co-signor for payment. Co-debtor or a co-signer is a person who pledges their liability on the loan should debtor refuse to or not be able to pay on the loan. Banks routinely ask for co-signers as a way of protecting the loan and making sure the bank is repaid. Co-signing is a form of collateral for the bank, protection against the loan going unpaid if you will.
So, the question arises, if debtor files Chapter 13 Bankruptcy, what happens to the co-signer’s liability on the debt? That is the first question. Well, since co-signer never filed the Chapter 13 Bankruptcy- debtor did, only debtor’s liability for the loan can be discharged in the Chapter 13 Bankruptcy. This is a source of confusion for many. Many believe that if debtor files bankruptcy and gets a discharge, the underlying debt disappears for everyone. Not true. Co-signer never filed bankruptcy and their liability on the loan remains even after debtor secures a discharge.
Second, what happens to the co-signer while debtor is in the Chapter 13 Bankruptcy? Assuming debtor’s loan is a consumer loan, and not a business debt, Section 1301(a) of the Bankruptcy Code provides a co-debtor stay. While Section 362(a) protects debtor from collection activity, Section 1301(a) protects co-debtors from collection activity while debtor is in a Chapter 13 Bankruptcy. Now, let’s be clear of something. If the loan is delinquent it will still look bad on co-debtor’s credit. That part does not change.