Do I qualify for Chapter 7?

It is relatively easy to “qualify” for chapter 7 bankruptcy. You just need to be a “person” who has not filed a previous chapter 7 bankruptcy in the last eight years or a prior chapter 13 bankruptcy that paid less than 70% to unsecured creditors in the last six years in order to qualify for chapter 7 bankruptcy. A chapter 7 bankruptcy is not a repayment plan. The idea is to wipe out debt and get a fresh start. A successful chapter 7 bankruptcy case also must take into account your income and expenses, any assets you may own, and an analysis of the types of debt you owe. Most people consider a successful case to be one where they don’t lose any property and they discharge most of their debt.

As you can see, your budget is an important consideration in determining whether a chapter 7 bankruptcy case will be successful. Congress, with the 2005 amendments, now requires households that earn more than the median income in their state to submit to a “means test” in order to determine whether or not they have the “means” to repay some creditors. When the 2005 reform act was being debated, many in the media reported alarmist stories like “Congress is about to reinstate debtors’ prisons” or “now you can’t file bankruptcy on medical debt.” If the “means test” shows that you should be able to repay some of your debt, the court could dismiss the chapter 7 bankruptcy case as an “abuse” if you do not convert your case to a Chapter 13 repayment plan. If you are below the average income, you will probably not have to worry about that.

The truth is, even if you earn more than the average income, you may be able to file a Chapter 7 bankruptcy. It is possible to overcome this “presumption of abuse” if you can show that your current income and reasonable and necessary expense situation demonstrate that you can’t afford to repay any of your debts. As part of the “means test” the law provides specific “allowable deductions” from income. These are called “standard” expenses. Even if you actually pay more than the “standard” expense, you must use the “allowances” in the “means test.” Debtors are also allowed to deduct some actual payments, like your mortgage, taxes, car payments, and daycare expenses. Once these deductions are subtracted from income, the end result of the “means test” can be reached. If there is sufficient income to repay a certain minimum amount to creditors as defined in the law, then filing a chapter 7 could be considered an abuse and result in the case getting dismissed. Dismissal means your debt survives and your creditors can still collect from you. It may still be possible to overcome this “presumption of abuse” based on your specific factual situation. As you can see, it’s complicated and probably a good idea to consult an experienced attorney to help you with the application of the means test.

There are other reasons why you may not want to file a Chapter 7 bankruptcy. If you have a substantial amount of property that you want to protect, especially equity in a home, you may not want to file a chapter 7 bankruptcy and may want to consider a repayment bankruptcy under chapter 13. Chapter 7 is a liquidation bankruptcy. Though part of getting a fresh start in a Chapter 7 involves allowing you to keep your necessities, including 100% of qualified retirement plans for instance, there are times when people with reduced incomes own a lot of property but can’t make their monthly payments. In that case, a Chapter 13 repayment plan may be right for you. Also, if you have transferred any property out of your name to insiders, especially family members, in the past couple of years, you may want to file a Chapter 13 bankruptcy to protect them from having the court sue to get the property back in order to sell to pay creditors.

Despite the hype about the “new” (passed in 2005) bankruptcy law, Chapter 7 bankruptcy is available to many people in financial distress. However, as you can see, there could be many pitfalls. If you are considering bankruptcy it is imperative that you seek competent and experienced representation to help you avoid the pitfalls!

Read Introduction to bankruptcy